Tuesday, May 30, 2017

Durable goods deflation is wonderful

I've been featuring this chart off and on for years, and it's worth repeating once again. The chart shows the evolution of the Personal Consumption Deflators for Services, Non-durable Goods, and Durable Goods. It starts in 1995 because of three reasons: 1) that was approximately the year that China began to be an export powerhouse, 2) it was a year after China's major devaluation against the dollar, and the first year that the yuan began to stabilize against the dollar, and 3) it was the first year ever that the US durable goods deflator experienced a decline of more than a few months.

I don't think it's a coincidence that the emergence of China as a major exporter of durable goods (e.g., TVs, computers, cameras) coincided with the beginning of a sustained decline in the prices of durable goods. If there's been an identifiable source of deflation in the US economy, it's not been the Fed, but the vast increase in the productivity of the Chinese economy, and the vast increase in the volume of imported Chinese goods to the US economy. Thanks to the industrialization of China, the world has been able to produce manufactured goods much more cheaply than ever before.

This has been a boon to just about everyone in the US economy, and the first chart is also proof of that. Consider that the price of "services" is largely driven by wages, and service sector workers are about 86% of total payrolls. What the chart shows is that the earnings of the great majority of US workers have increased 2.7 times more than the price of durable goods. In other words, an hour's worth of work for the typical American today buys 2.7 times more in the way of durable goods than it did in 1995. When it comes to durable goods, the average American's purchasing power has nearly tripled over the past 22 years, thanks largely to China.

As these last charts show, China did NOT become an export powerhouse by unfairly devaluing its currency. On the contrary, the yuan has appreciated in real terms vis a vis the currencies of its trading partners by about 75% since 1995, as the second chart shows. Furthermore, China's reserves have been relatively stable for the past several months, and this suggests that the yuan is likely to remain relatively stable—there's no hanky-panky going on (significant increases or decreases in forex reserves are symptomatic of an mis-valued currency). It's encouraging that Trump has dropped his threat to "punish" China for boosting our purchasing power so dramatically. We could use more countries like China, and so could the world. When it comes to trade, everyone is a winner.


Aritin said...

Thank you for your post. Do you think RMB will further devalue against USD in the longer term?

Alain said...

Boom. Durable goods!

steve said...

DT dropped his threats against China and increased them against Germany. How any sane GOP leaning thinker can be pro Trump baffles me. He is an embarrassment. His ideas on trade are so obtuse as be jejune to the extreme.

Better than Hillary though...

Scott Grannis said...

Re RMB outlook: I'm reluctant to forecast the RMB for the longer term. But for the near term, it looks to me like it is likely to be relatively stable against the dollar.

Fire Freedom said...

Great post. Thank you for sharing.

Benjamin Cole said...

The deflation is durable goods might be an indication of what could happen if the US deregulated property markets, in particular scrapped property zoning.

Hard-core right-wing economist John Cochrane recently cited studies showing property zoning is cutting real GDP, by one estimate up to 50%.


Most likely, in addition to scrapping property zoning, other regulations and red-tape need to be cut, so as to allow alternative buildings, such as still container housing etc.

Obviously, there would be welcome deflation in housing costs all along the West Coast, were property zoning eliminated.

vito said...

Thanks its been a while since I thanked you for your blog.Always worth reading.

Rich said...

China is smart enough to understand Trump's transactional mentality, demonstrating their willingness to cooperate both geopolitically and on a personal level with trademarks and other family mercantile interests. So this is one of the good flip-flops by Trump.

But overall, as Trump retreats in some areas around the globe, China is also smart enough to fill the void.

That will not be good for United States over time.

marcusbalbus said...

deflate everything and we reach nirvana.

Frozen in the North said...

Dear Scott

Just as an observation. How are you enjoying the new President. Is he what you imagined the country needed/deserved?



Scott Grannis said...

Frozen: I really like most of the things that Trump has done and is trying to do (e.g., Gorsuch to SCOTUS, tax reform, deregulation, Obamacare repeal/reform, exit Paris Accord, oppose political correctness). I am relieved that he has not gone whole-hog protectionist (e.g., backing off on a trade war with China), but I continue to worry that he doesn't understand that trade deficits are not necessarily bad. I continue to dislike his personality, and his character flaws (e.g., tweets, boasting, egomaniac) are egregious and troubling. The country needed Trump FAR more than it needed Hillary, and deserves someone with Trump's good qualities but not his flawed character. On balance I feel pretty good, but much still needs to be done.