April 10, 2012
Paul Kasriel is the chief economist at Northern Trust. Paul is a recipient of the annual Lawrence R. Klein Award for having the most accurate economic forecast over a four-year period among the Blue Chip survey participants. In January 2009, The Wall Street Journal and Forbes cited Paul as one of the few who identified early on the formation of the housing bubble and foresaw the economic and financial market havoc that would ensue after the bubble inevitably burst. He will retire at the end of this month.
I spoke with Paul on April 2.
At the end of last year Northern Trust's forecast for real GDP growth in the US for 2012 was approximately 2.5%. Has anything changed regarding that outlook?
Not significantly. The forecast may be a touch higher than that, but basically I see the economy gaining some stronger momentum this year versus last year. I would be even more positive on the economy if it weren't for the recession in Europe. That is going to be a headwind for the US economy this year, but not a hurricane.
I will come back to Europe in a bit, but one of the factors that you have written about, which was covered in a Joe Nocera column in the New York Times, is the lack of bank credit, which you contended is holding back recovery. Can you elaborate?
First, let me say that we are seeing so-called “green shoots” now in the US economy, but this isn’t the first time since this recovery commenced in mid-2009 that we have seen green shoots. The economy appears to be gaining some momentum, only to see that momentum dampened. What is different this time is that we are also starting to see banks lend again. That has been a missing ingredient in this recovery until recently.
Bank loans and bank credit are different than other kinds of credit. This credit is figuratively created “out of thin air.” What that means is that the banking system extends net new credit. The recipients of that credit, of course, can go out and spend. There is nothing unique about that. But what is unique about bank credit is that while the recipients are increasing their spending, the borrowers are increasing their spending too, and no one else in the economy has cut back on his or her current spending. We cannot categorically make that statement about other kinds of credit.
Now to the borrower, it doesn't matter where the credit comes from. All the borrower cares about are the lowest rates and best terms. But in terms of the short-run behavior and spending in the economy it does matter.
Households can extend net new credit to governments, but they can't create that credit out of thin air. Typically, where households create that credit is by decreasing their current spending – that is, they increase their savings. As households do that, they transfer that spending power to businesses, government, or maybe to another household, so those entities can increase their spending. So there is no net change in spending under those circumstances. But there is when there is a net increase in bank credit.
That's why I pay so much attention to trends in bank credit. Starting around midyear 2011, we began to see bank credit grow again. It had been dormant for a couple years, after we saw a postwar-record contraction in bank credit immediately after the financial crisis. This growth now is having a positive effect on the economy. While I can't guarantee it will continue to grow, I think it will.
That is the principal reason I am somewhat more optimistic about economic growth this year and next than would be the consensus.
How would that affect consumer spending?
I am not really that concerned about whether spending comes from consumers, households, or governments. I am concerned about the net change in total spending. But we have seen a pickup in household spending. We've seen a pickup in home sales, and we are starting to see increases in bank mortgage-related credit. Mortgage-backed securities and first mortgages on the books of banks are starting to grow faster.
We have seen a definite acceleration in car and truck sales starting in the fourth quarter of last year through the first two months of this year. We are also starting to see a modest increase in consumer loans on the books of banks. Indirectly we may be seeing banks contributing to a better credit flow to households for purchases of automobiles through lending to finance companies and purchases of asset backed securities.
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