John Taylor returns to the topic of how much impact the stimulus package has had on output. The heart of the argument is summarized by his extension of a graph presented in the NYT (and reproduced in this post).

As I noted earlier in my post about counterfactuals, this is the right way to assess the impact of the stimulus -- that is to compare the outcome against a counterfactual, and here Professor Taylor has done so, bringing into the mix the Frank Smets and Raf Wouters model as well as Barro's. (In other words, comparing forecasts w/stimulus to outcomes incorporating unforecasted shocks that have been realized is like comparing apples and oranges, as in [0].)

An Analogy

Why is this the right way to assess the stimulus? Here's a medical analogy for why we need to look at things from the perspective of counterfactuals and model predictions.

I give a patient with a fever aspirin. However, the fever continues to rise. I could conclude that aspirin caused the fever to rise relative to what would have occurred without aspirin. Or I could use information regarding the effect of aspirin on fevers, obtained from previous experiments and experiences, and use that information to infer what the fever would have been in the absence of dosing with aspirin. Now, we know that the impact of aspirin on fever varies across individuals, and across types of infection. Does that mean the information from the past is useless? I would say not, and that we should make inferences, allowing for those variations, with some special reference to the mid-point of the range of estimates.

The Models and the Scenario Assumptions

Once we have determined what is the right way to proceed, it then makes sense to think a little about the models. First, what models have not been added. Well, there's the Eichenbaum and Christiano as well as Laxton et al. models (see this post for discussion) as well as the Hall model (see this paper presented at the last Brookings panel on economic activity). Those papers presents substantially larger multipliers, while several have New Keynesian elements in a DSGE framework. In other words, they are DSGEs like the model used by Professor Taylor (see the ECB working paper for the full explanation of their approach. Why the difference? I think it has to do with (among many other things) the assumptions regarding the conduct of monetary policy (this is a point that Brad Delong makes with respect to the Cogan et al. paper).

Another issue: How are these models fitted? The macroeconometric models cited in the NYT article are estimated with judgmental factors incorporated (a very nontechnical description of the Macroeconomic Advisers model is here. How are DSGE's fitted? The parameters are tweaked until the impulse-response functions conform to priors and data (see Camilo Tovar's overview of using DSGEs in policy institutions here). (And in the case of the Barro model, that's estimated over a very specific period, none of which begins after 1950 -- see comments to this post).

Once the methodological approach is resolved, one still needs an understanding of where the specific models -- and model conclusions -- came from, and what assumptions drive the results. That's why I often refer to surveys of multipliers [1] [2] (somebody should do a meta-study), and ranges of multipliers (as the CBO does [3]) in order to make conclusions regarding the impact of any policy.

Moving Forward

At the end of the post, Professor Taylor concludes:

...Moreover, in my view, the models have had their say. It is now time to look at the direct impacts using hard data and real life experiences.

I think one should always look to the data; whether we have sufficient data yet (given that the stimulus started in 09Q2, and we have not yet seen the advance 09Q4 release) makes me less than optimistic that we can yet tease out the effect of the stimulus using, for instance, SVAR approaches.

Multipliers from the Great Depression

I end on a slightly different note for the New Year (and the new decade), namely the Miguel Almunia, Agustin S. Benetrix, Barry Eichengreen, Kevin H. O'Rourke, and Gisela Rua estimates for the government spending multiplier during the 1929-39 period, for a panel of 27 countries. From their paper (h/t Paul Krugman):

Figure 14 presents the responses to a shock to defence spending. It shows that innovations in this variable are expansionary. This shock explains, on average, 6 per cent of the forecast error variance of the GDP equation in a five-year horizon. Defence-spending multipliers are 2.5 on impact and 1.2 after the initial year. These are at the upper end of the range of multipliers estimated using modern U.S. public spending data.50 The absence of a fiscal policy effect on output during the 1930s does not reflect the absence of a positive fiscal policy multiplier, it would appear. Note that this is also the conclusion of Romer (1992) in her calibration exercise for the United States in the 1930s.

Food for thought: empirical evidence, based on data for a period when nominal interest rates were low...and no wartime rationing in place.

Happy New Year to all Econbrowser readers!

CHMP has recommended that rilonacept, an interleukin-1 blocker, be granted marketing authorization under exceptional circumstances. Such authorizations are granted to products on which comprehensive data cannot be provided by the company, which may happen due to the the rarity of the condition. The agency also asked Regeneron to  provide new information, if available, pertaining to the drug every year for review.

The company submitted a Marketing Authorization Application (MAA) with the EMEA for Arcalyst for the treatment of CAPS in the European Union in Jul 2008. We expect the agency to approve the drug for marketing in Europe in the fourth quarter of 2009. EU approval of Arcalyst could double its sales potential. Arcalyst has received Orphan Drug designation in the EU for the treatment of CAPS.

As a reminder, Arcalyst (Rilonacept) for CAPS was approved by the US Food and Drug Administration (FDA) in Feb 2008 for CAPS including Familial Cold Auto-inflammatory Syndrome (FCAS) and Muckle-Wells Syndrome (MWS) in adults and children aged twelve years and above. The drug is available in US markets since Mar 2008. Although CAPS is a small market, Regeneron will gain marketing experience from this indication.

In June 2009, the FDA approved Novartis’ (NVS) canakinumab, a fully human anti-interleukin-IL1β antibody, for CAPS in the US. This will have some negative impact on Arcalyst sales. Regeneron is entitled to receive royalties on worldwide sales of canakinumab on CAPS and other inflammatory diseases.

In addition to Arcalyst, which is Regeneron’s sole marketed product, the company boasts of six clinical development programs, including three late-stage clinical programs, targeting various oncology or eye-disorder indications.

We believe the current price provides an attractive entry-point to long-term investors.

Full analysis of all these stocks is available at: http://at.zacks.com/?id=2678

Bull of the Day

HCP, Inc. (HCP) continues to raise cash through asset sales and equity issuance. The company has done a successful job of de-levering and strengthening the balance sheet. With nearly $1.4 billion available on its credit facility, the company has adequate capital to address 2009 and 2010 debt maturities.

We continue our Buy rating. HCP has a diversified asset base and is moving toward more private pay sources, which we view as a positive. HCP has increased its quarterly dividend from $0.455 per share to $0.46, and the current yield is over 8%.

We think healthcare will continue to outperform other REIT sectors in 2009. Healthcare REITs should hold up better in a recession. Consumers will continue to spend on healthcare while cutting out other non-essential services. HCP will report 1Q results on April 28th.

Bear of the Day

Eastman Chemical Company (EMN) is engaged in the manufacture and sale of chemicals, plastics and fibers. Based in Kingsport, Tennessee, the company has 12 manufacturing sites in the U.S., Europe and Asia-Pacific.

Eastman is witnessing rising raw material prices and a declining demand for its products. The company reported a 98% drop in earnings in the first quarter of 2009 driven by lower prices and volumes. Sales were considerably down in all the major segments.

Lack of free cash flow, PET capacity increases coupled with slowing growth, and PET industry overcapacity force us to rate the stock a Sell with a target of $24.50.

Recent Analysis from the Analyst Blog

GM & Chrysler with Flu-like Symptoms

The two top stories in the news today are the Swine Flu and the Auto restructurings. At first blush they sound totally unrelated, but I think the Flu is a good metaphor for the situation that GM (GM) and Chrysler find themselves in.

Every year there is an outbreak of flu, with some years having a much more dangerous strain than others. Most of the time (the recent outbreak in Mexico seems somewhat different in this regard) if you are an otherwise healthy adult, the flu simply means a few days with frequent trips to the bathroom and a bit of a fever. However, for the very young and the elderly, and those with compromised immune systems (such as people with AIDS or on chemotherapy), the flu can be deadly. (If a 75-year-old person gets the flu and dies, what is the cause of death -- the flu or did they simply die of old age?)

The credit crisis was like a very nasty outbreak of the flu. Since autos are big-ticket items that almost always require financing for sales to occur, the entire industry was affected. However, Toyota (TM) and Honda (HMC) are spending a lot of time in bed -- they, too, have been posting losses. Aside for the current outbreak of flu, however, they are generally healthy.

General Motors and Chrysler were more analogous to a person with a compromised immune system. The most important measure of a company's "immune system" is its balance sheet. Equity is the equivalent of the white blood cells that allow the company to fight off an infection. They have been gradually losing market share for decades. As such, they have been shrinking their active workforce relative to the number of retirees they have. This has led to built-up debt on the balance sheet.

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This from Taipan Daily:

Whither the dollar and gold? To answer that long-awaited inquiry – which will take some time to cover in full – let’s start by getting a handle on “exploding debt dynamics.” Cartoonish as it sounds, it’s a real term that IMF economists use.

If, like me, the phrase gives you visions of Wile E. Coyote blowing himself up with a box of ACME brand…

The BBC reported in July that China's exports grew at their slowest pace in four months in June, causing its trade surplus figure to fall by more than 20% from a year earlier.

In turn, the government may attempt to slow the growth of China's currency, which makes Chinese exports more expensive.

China's gross domestic product grew 10.4% in the first half of the year and is expected to further decline to around 9% in the coming months, according to the China Daily. The Standard Chartered Bank estimates China's GDP growth could further slow to 7.9% next year.

When the government tightened credit since second half of last year, many businesses including those from the Pearl River Delta to the Yangtze River Delta, both China's major economic powerhouses accounting for about 30% of the GDP, had been “pushed to the wall,” said the China Daily.

But tighter credit isn’t the only issue…

Chinese companies that supply U.S. retailers with billions of dollars worth of goods every year face a painful squeeze as the yuan rises. This of course is aggravated by the descent of the economies in the U.S. and Europe.

According to the China Daily article, the provincial government in Guangdong will put in 50 billion yuan in the coming decade to build industrial parks and improve infrastructure. It’s the way of helping stave off the move of manufacturing to low-cost markets such as Vietnam.

The shift from China to cheaper emerging markets is a trend I call “beach-ball economics.”

For example…

Turn back the clock to V-Day, and Japan is reduced to rubble from the A-bomb. But over the next 25 years, Japan’s economy saw an economic boom that lasted until the first oil crisis of 1973.

During that wild and woolly quarter century, Japan evolved from manufacturing simple cheap commodities like beach balls to more sophisticated and expensive products that revolutionized consumer markets: cars, digital TVs and computers.

In turn, countries such as South Korea and Taiwan took up the slack making your favorite rainbow-colored beach ball. Today, South Korea had displaced Germany and Japan by sending America’s highest-quality economy import car to our shores.