TIPS and puzzles of the CPI

The Treasury Inflation-Protected Securities, TIPS, are inherently related to the Consumer Price Index. When using TIPS, one should understand the evolution of the CPI as related to the overall economic growth.  We have already reported on the deviation between the headline CPI and the price index for Gross Domestic Product, dGDP. There should be some reason behind the overall deviation since 1978 shown   Figure 1. One can see that the CPI is approximately equal to the GDP deflator multiplied by a factor of 1.2 since 1978. The CPI (black line) and 1.2dGDP (dashed violet) lines practically coincide.

It is also interesting that the difference between the CPI and 1.2dGDP, as shown in Figure 2, has a clear oscillating character of unknown origin.  It might be an artificial feature. In 2012, the difference should rise above 0 and thus the CPI will grow at a rate slightly larger than 1.2dGDP. 

One can easily play with the well predicted difference between the CPI and dGDP, which defines the rate of real GDP growth.

Figure 1.  Cumulative rates of CPI and dGDP inflation, original and scaled by a factor of 1.2.

Figure 2. The difference between the CPI and 1.2dGDP shown in Figure 1.

Short remark on Greek economic growth

During the current turbulence in the EU and euro area it is instructive to assess relative rates of economic growth. It was envisaged that the EU countries will converge in the long run in a sustainable way. Three figures below demonstrate the performance of Greece relative to other countries   as expressed by real GDP per capita (retrieved from the Conference Board in 2011 EKS dollars). We have plotted the difference between real GDP per capita in a given country and that of Greece. After the start of the euro area, Greece demonstrated an excellent pace with almost all differences having negative trends. In other words Greece caught up almost all developed economies in the EU and outperformed east European countries.  It is surprising that Greece was very successful during the first year of the current economic and financial crisis and lost just a few dollars per capita when major economies counted losses in hundreds and thousands dollars.  

All that Greece gained in 2008 and even more was lost between 2009 and 2011. Even east European countries performed better and their respective differences have positive slopes. Greece is by far the worst performer since 2009.  On the other hand, this effect potentially puts Greece in a position of fast recover when the current crisis is over.

Modeling ConocoPhillips share price: annual report

This is an annual report on the performance of our pricing model linking share prices of energy companies with the difference between the headline and core CPI and PPI. In essence, we were trying to use the core CPI (PPI) as an energy independent (dynamic) reference to the index which includes energy. Then the difference might be related to the energy pricing power relative to other goods and services.  This idea has proven to be fruitful for oil (energy) companies and other categories of companies in the S&P 500 index and other consumer price indices.

Our original pricing model states that a share price, for example, that of ConocoPhillips, COP(t), can be approximated by a linear function of the difference between the core CPI, cCPI, and headline CPI:

COP(t) = A + B (cCPI - CPI(t))                                  (1)

where A and B are empirical constants; t is the elapsed time.  This model has proven its predictive power and we have been reporting on its performance since 2009. 

In August 2011, we extended the set of defining indices by the consumer price index of energy, eCPI, and the producer price index of crude petroleum, pPPI, together with the overall PPI. Thus, we tested the following models for the period between 2001 and July 2011:

COP(t) = A1 + B1(cCPI - eCPI(t))  (2)    

COP(t) = A2 + B2(pPPI - PPI(t))    (3)

Here we use new data through January 2012 retrieved from the BLS website. Figures 1 through 3 compare the original and new predictions for COP. Coefficients in (1) through (3) are given in Figure captions and are the same as in August 2011. The best model, as defined by standard error, for the period between January 2003 and January 2012 is based on the index of energy and core CPI.  (Same model was the best in August.) The accuracy of (1) has decreased since August and reached $8.31At the same time, model (3) based on the producer price indices is the worst and has failed to predict the amplitude of the largest oscillation in 2008.  It shoul be noted however that the difference between the index of crude oil and PPI perfectly describes the evolution of COP share price since 2009.

One can conclude that the consumer price index of energy has the largest influence on COP share price. Crude oil is well correlated with COP price but  failed to describe variations in the past. It is a good predictor  since 2009.

Figure 1.  The observed COP price and that predicted from the core and headline CPI.  A=75, B=-5.5. Stdev=$8.31.

Figure 2.  The observed COP price and that predicted from the core CPI and the consumer price index of energy.  A1=58, B1=-0.54. Stdev=$6.81. 

Figure 3.  The observed COP price and that predicted from the overall PPI and the producer price index of crude petroleum (domestic production).  A2=45, B2=-0.3. Stdev=$9.09.

Labor productivity champions

In our previous post, we have presented the evolution of labor productivity in three countries Australia, France and the United States in order to highlight strong differences between developed countries. Many years ago we explained these variations by the differences in the behavior of real GDP per capita. It is time to revisit our predictions, but in this post we just present the economies with the highest productivity. 

There are two estimates – dollars per hour, Ph, and dollars per employee, Pw. Figures 1 and 2 present both variables for seven larger countries. We skip Germany due to the reunification influence. Smaller economies with very high GDP, e.g. Luxemburg and Norway, are also not included. They do not drive the world’s economy.

One might find several interesting features when comparing two measures of productivity.  There are three leaders in Ph: Netherlands, France and the USA.  In the former two countries, the Ph curves have been demonstrating very fast growth rate since 1950.  Surprisingly, Japan has almost linear productivity growth with a short positive excursion between 1987 and 1993.

The US is the leader of productivity per person by a big margin. That observation should mean that people in other six countries work less hours on average. 

Figure 1. Labor productivity in dollars per hour in some developed countries between 1950 and 2011

Figure 2. Labor productivity in dollars per employee  in some developed countries between 1950 and 2011

Food price will stop growing in 2012

This is an annual update. We continue reporting on and predicting the evolution of the difference between core CPI and the index for food (beverages not included).  Previously, we confirmed in many posts and papers that this difference had been following a long-term (negative) quasi-linear trend since 2001.  There is an important change expected in 2012 – the predicted turn to a positive trend. In other words, the price index of food will grow at a pace lower than CPI.

In 2008, the trend line was much steeper than predicted and crossed the zero line. In the beginning of 2009, the trend reached the bottom and turned to a positive one, although not for long. The growth in food prices restarted in 2010. In the end of 2011, the difference has a short stop which might be a manifestation of the transition to a positive trend as Figure 1 depicts.

In June 2011 we found that the trend (black) line crosses the zero line in the end of 2010. Therefore, Figure 1 also demonstrates that the difference between the core CPI and the index of food has been slowly approaching to its original trend (red line) since 2009.

Here we conclude that the intercept with the zero line and the pivot to the decreasing food price will start in 2012 when the difference will reach some bottom (resistance) level (currently -5).  Considering the higher probability of deflation in 2012, food price will stop to rise in 2012.

Figure 1. The difference between the core CPI and the price index of food. The pivot point to a positive trend is likely in 2012. 

However, the previous negative/positive turn was at the level of -10, as displayed in Figure 2, one cannot exclude that the negative trend may change only after 2016. This case is less likely, however.

Figure 2. The difference between the core CPI and the price index of food between 1960 and December 2011.

Paradoxes of labor productivity

We continue to analyze the Total Economy database, TEDI, maintained by the Conference Board. This time we compare two similar estimates of labor productivity. The TEDI provides labor productivity estimates in 2011 EKS dollars per worker (person employed), Pw, and per hour, Ph,  i.e. the ratios of total GDP and the number of workers and the number of hours worked, respectively.  The former estimate depends on the evolution of employment/population ratio and the latter also depends on working hours per person (say, the length of average working week).  We also depict real GDP per capita, G, which formally is not a measure of productivity but provides a conservative reference.

Three figures below present the USA, France, and Australia – the countries with different behavior of labor productivity. To facilitate the analysis, all time series are normalized to their respective values in 1950. In the USA, all three curves had been evolving in sync between 1950 and 1970, when the Pw curve started to lag behind. This deviation is explained by the increasing employment/population ratio between 1965 and 2000.  Since 1978, the G curve has been growing faster than the Ph curve. This is a big surprise which cannot be explained by the increasing length of working week only. As we reported before, the GDP deflator and CPI also started to deviate in 1978. This is not a coincidence and the statistics of real GDP is likely biased. Another important issue is the trend of all variables. We show linear regression lines for all time series. As we discussed many times, real GDP per capita has a linear trend. Both productivity curves also oscillate around linear trends. Currently, the Ph and Pw curves are above the relevant trends and will likely to fall down.  When extrapolated back into the past, all trends intercept 0 between 1916 and 1930. What a surprise!

France has been demonstrating an outstanding growth in Ph; it has grown by a factor of 6.7 since 1950. This is a double US growth rate and twice as large as the overall growth in real GDP per capita in France. In other words, the hours worked to produce the same portion of real GDP per capita have fallen by a factor of 2.  This is an extraordinary performance.  It should be also noted that the G curve is below both productivity curves and all curves have reliable linear trends (regression lines). When extrapolated, the Ph curve intercepts 0 in 1944.  Currently, all curves are below their long term trends. They have to grow at an elevated rate to return to the trends.

In Australia, the G curve was similar to the Pw curve before 1982 and then jumped to the Ph curve.  The linear regression lines intercept 0 between 1924 and 1934 and the observed curves are very close to these lines over the whole period between 1950 and 2011.  The reason they do not follow the trends before 1950 is not clear. Currently, both productivity curves are on their long term trends and the G curve is far above its trend. One might expect real GDP per capita to grow slowly during the next five years.

This is a superficial analysis (more qualitative than quantitative) and we do not pretend to explain all suspicious and obvious features of the evolution of productivity in developed countries. We just illustrate general behavior and stress some problems with data. Quantitatively, the evolution of labor productivity in all developed countries is accurately described in our paper.  

Real GDP per capita - the danger of fast growth

Having presented real GDP per capita in Germany, we continue with three more developed countries: Ireland, Greece and Norway. They are different from the economies earlier presented. Figure 1 depict the available historical estimated made by Angus Madison and Groningen University, and also the most recent update of the Total Economy Database maintained by the Conference Board.

As for other developed countries, we expected that real GDP per capita, G, follows a linear trend in the long run:

G(t) = At + C (1)

Ireland has a relatively short historical time series started in 1921. The period after 1945 is better to approximate by two linear segments with a kink near1990 and a sharp fall in 2007. We have presented the case of Ireland in this blog and actually has predicted this deep fall many years ago – the real GDP curve must return to the long term linear trend. Interestingly, the TEDI and historical curve deviate from 2000 signalling some problems with the GDP estimation procedures – both time series are given in 1990 Geary-Khamis dollars. We expect the TEDI curve to fall even deeper but the annual increment of $359 dollars, i.e. the slope of the linear trend, is quite good for developed countries. In any case the countries experienced fast growth due to sharp peaks in age pyramids always suffer longer period of very slow growth. Japan just leads Ireland by 20 years in the peak age.

Greece is currently below its long term trend and likely to start growing at an elevated rate to return to the trend. We wrote about this possibility in May 2011. Hence, Greece needs a few years to recover to the trend.

Norway is the fastest economy in terms of real GDP per capita - $398 per year. And it follows the long term linear trend since 1945. It is slightly above the trend and therefore the economy can move any direction, i.e. to grow fast of to fall slightly.

Figure 1. The evolution of real GDP per capita in Ireland, Greece, and Norway