The Fed is not as powerful as you think

It's been almost 9 years since I wrote this post at Angry Bear. I'll admit that the idea isn't original. I got it from Elliott Wave International. But my own look at the data confirmed it. The Fed does not control short-term interest rates. The Fed sets the Federal Funds Rate, but this is a close follower of 3 month T-Bill rates, which are set by an open market auction. The FFR always lags 3-mo T-Bills, and never leads. The lag can be very short, or as much as 4 months at major turning points.

Now I see another Elliott Waver making this same point, and providing these graphs.

Taking Stock --- Week of 9/28 to 10/02, 2020

Monday, September 28, 2020

Green Arrow Up

DJI30 index at the close   —-   27,584.06   +410.10 (+1.51%)

The Index opened at 27362, up 188 points, and within 5 minutes reached 27632, up 458.  There was a slow climb to the hi of 27723, up 549 before 1:00, then it was mostly sideways for the next 2 hours.   The lo to hi span was 360 points.

Last week I cited 27500 as a benchmark, stating that a continuous rise above that level could cast doubt on the idea that the main thrust is down.  That level was breached, but not in a convincing manner.  Today’s hi, 27723, is 12 points short of a .618 retracement of the loss from the 9/16 hi to the 9/21 lo.  So nothing has happened - yet - to refute the idea of a downward impulse.

At the hi, the Index did pop out of the trading channel on the chart I drew last week - but, again, only by a little.  There’s no room there for a sideways move, so I expect tomorrow’s action will either validate the channel or refute it.

Closings -

9/28/18 - 26458

1/02/20 - 28869

8/28/20 - 28654

9/29/20 - 27584

NYSE Internals -

A/D = 2585 = 5.45

A/D Vol = 4.67

New Hi/Lo = 49/10

Tuesday, 9/29/20

Reddish Arrow slightly down

DJI30 Index at the close   —-   27,452.66   -131.40 (-0.48%)

The index opened at 27560, off 24 points.  It gyrated a bit, then hit a hi of 27606, 22 points into the green, before 10:00.  It then went into free fall, losing 268 points as it hit a low of 27338 just before noon.  It slowly climbed back up to 26566 at 2:30, before a jagged 114 point slide into the close, with a 78 point drop from a temporary hi in the last 11 minutes.  The lo to hi span was 266 points, the smallest since 8/28..

I could have called this a sideways move, since the change is less than 0.5%. Yesterday, I said, “There’s no room there for a sideways move, so I expect tomorrow’s action will either validate the channel or refute it.”  This was a clearly down day - but by such small margins: 117, 24 and 131 points, respectively for the hi, lo, and close - that these values really did just hug the channel border and avoid a strong sense of either refutation or validation.  So I’ll kick the can one day down the road and say we should expect something more conclusive tomorrow.  

Reading Elliott waves in real time is always a dicey proposition, and I’m not very good at it anyway, but what the hell - he goes.  As i see it now, the main thrust is down in a 5 wave pattern.

Wave 1 down from the 9/03 hi of 29299.35 to the 9/10 lo of 27447.08 was a drop of 1752.27 points.

Wave 2 [countercurrent] up ended at the 9/16 hi of 28364.77, covering 917.69 points  a retracement of 52.37%.

The next wave down ended at the 9/24 lo of 26537.01, covering1827.76 points.  This could conceivably be a complete wave 3 down, since it is larger than wave 1.  But this is only by a tiny margin, so I think it’s more likely that wave 3 is subdividing and this is subwave i of 3 down.  That would make yesterday’s hi of 27722.6 the top of subwave ii, with a retracement of 1185.59 points, or 64.87%  If this is the case, subwave iii of 3 will unfold over the next several days, and it will be scary.  A drop of over 2500 points will likely occur, bottoming in the low 25000s as a best case.  A 3000 point drop to the mid 23000s would not surprise me.  After that subwave iv up and subwave v down would follow.  And, even scarier, this could all be wave 1 down at a higher level of trend.

Don’t hold my feet to the fire on this - I’m just an amateur, and this a field where the experts remind us that these expectations are probabilistic not deterministic.  So I will be watching with anxious anticipation.  A strong turn upward will cause a complete re-evaluation.

All the indexes has similar contours today, though the NASDAQ was choppier.  They were all off a fraction of a percent.

Closings -

9/28/18 - 26458

1/02/20 - 28869

8/28/20 - 28654

9/29/20 - 27553

NYSE Internals -

A/D = 1114/1900 = 0.59

A/D Vol = 0.37  The total volume of 700.7 million share was the lowest since I started keeping track in on January 20.

New Hi/Lo = 56/11 = 5.09

Wednesday, September 30, 2020

Green Arrow Up

DJI30 Index at the close   —-   27,781.70   +329.04 (+1.20%)

The index opened at 27514, up 62 points, and quickly shot up to 27672.  It then climbed more slowly hitting the hi of 28026, up 574, before 2:30.  It then dropped rapidly, hitting 27592 an hour later.  From there, it was a choppy rise into the close.

I didn’t expect a significant increase, but this was clearly up day, and not by small margins — 421, 173 and 329 points for the hi, lo and close.  Fortunately, I weasel-worded my prediction yesterday, giving myself an out if the index went up. So, now there are two possibilities.  One is that the index is headed back up, possibly to new highs.  To get there requires sustained increases. The first hurdle is the 9/16 hi of 28365, less than 350 points above today’s hi.  After that it’s the 9/03 hi of 29199.  Beyond that, the sky’s the limit.

The other possibility is that a counter-current wave is still unraveling.  Today’s hi is a 81.5% retracement of the fall from the 9/16 hi. This is an extreme retracement but that seems to be the way things go in 2020.  The channel I drew was violated in a way that can’t be ignored.  I’ll see what to do about it in the next few days.

Closings -

9/30/18 - 26458

1/02/20 - 28869

8/28/20 - 28654

9/30/20 - 27782

NYSE Internals -

A/D = 160/1462 = 1.14

A/D Vol = 2.27

New Hi/lo = 70/14 = 5.00

Thursday, 10/1/20

Yellow Arrow Sideways.

DJI30 index at the close   —-   27,816.90   +35.20 (+0.13%)

The index opened at 27941, up 159 points, and rose to the day’s hi of 28041, up 260. Over the next hour if fell to 27760, 22 points in the red.  It hit 27950 about a half hour after that.  It was then mostly sideways until 2:00 when there was a sharp drop to 27669, the day’s lo, 112 points in the red at about 2:15.  It rose to 27860 at 3:00, then fell to 27720 at 3:45, followed by a rise of about 100 points into the close. The lo to hi span was 372 points.  

This is a clearly up day, with the hi, lo, and close up by 15, 152 and 35 points, respectively.  This is pretty anemic, though, and after the early morning surge, the Index fell the rest of the day - though not in monotonic manner.  This might have been the last gasp of the counter-current move.  But who knows?  

I’ve been expecting clarification most of this week, and it’s not presenting itself.  Broad brush, it’s been sideways since mid-September. The market finds its own way. 
 

Closings -

10/01/18 - 26651

01/02/20 - 28869

09/01/20 - 28646

10/01/20 - 27817

NYSE Internals -

A/D = 2079/958 = 2.17

A/D Vol = 1.32

New Hi/Lo = 78/22 = 3.55

Friday, 10/02/20

Red Arrow Down

DJI30 Index at the close   —-   27,682.81   -134.09 (-0.48%)

The index opened at 27536, off 280 points.  It immediately dropped to 27383, off 434. There was a sharp rebound that topped out at 27700.  If bounced around from that level down to 27500 until noon, then abruptly rose to 27820 at 12:20. It hit the hi of 27861, 45 points above water just before 1:30.  It dropped to 27700 a half hour later, rose to 27840 at 2:30, then slumped a bit, rose a bit and dropped over 120 points in the last half hour.

There was a lot of up and down, with a couple brief bobs into positive territory. The lo to hi span was 478 points.  This is a clearly down day, with the hi, lo and close off by 180, 286 and 134 points, respectively.  The lo was about 30 points above the 55 day EMA.

This could be the end of the counter-current move — maybe.  It will take a drop below 26500 to confirm that the major move is down.  It will take a gain above 29200 to confirm that the major move is up 

Today’s jobs report was positive, but weak.  Covid Karma has entered the White House.  Millions have used up their savings and might be facing eviction soon.  This is the economy collapsing at its base.  We do live in interesting times.

Closings -

10/02/18 - 26774

01/02/20 - 28869

09/02/20 - 29101

10/02/20 - 27683

NYSE Internals -

A/D = 1904/1117 = 1.70

A/D Vol = 1.81

New Hi/Lo = 67/37 = 1.89

Taking Stock - Mid-September edition

 A week's worth of my market musings.

Monday 9/14, 2020

Green Arrow Up

DJI30 Index at the close   —-   27,993.33   +327.69 (+1.18%)

The index opened at 27719, up 53 points, and immediately jumped up to 27875.  It reached a hi of 28064 before 10:30.  After that it was mostly sideways. It reached the final hi of 28086 a 1:00 and again 10 minutes before the close, with a dip in-between to 27915 before 3:30. In the last 10 minutes there was a 46 point drop into the close.

The lo to hi spread was 367 points the smallest since 280 on 8/31.  The 10 day average is 554.  

The up-down-up contour of the last four days might be an a-b-c counter-trend move in a downward impulse.  If so, this could go on into a more complex pattern, or turn sharply down tomorrow.

The alternative possibility is a continuing increase from the 3/23 bottom, with the potential of a new all time high. The very strong NYSE Internals today are consistent with this view, but the last time this happened on 7/15 there was no follow through.

Closings -

9/14/18 - 26155

1/02/20 - 28869

8/14/20 - 27931

9/14/20 - 28018

NYSE Internals - Strongest since 7/15, an unremarkable day with a 379 point span and a 228 point gain, closing at 26870. 

A/D = 2448/591 = 4.14

A/D Vol = 5.59

New Hi/Lo = 60/12 = 5.0

Unhealthy Inequality

This is from 7 1/2 years ago.

Imagine how much worse things are now.

Taking Stock

My recent bold prediction did not come to pass.  The recent channel I thought looked pretty good got blown away rather quickly.  So, it's time to step back and have another look.  Here in Graph 1 is a view of the Dow industrials index over this century.

Graph 1 - Dow Industrials since 2000

I have highlighted some trend channels.  The light green lines contain the first big rise of the century.  They are projected into the present, which might or might not mean anything.  The heavy purple lines indicate the present trend channel from the recovery after the 2008 recession.  The yellow line was the top channel border until the index burst through in 2017.  This effectively doubled the width of the channel - this happens sometimes - and it is now the center line of the channel.

The red line connects two major bottoms.  Whether that has any significance is yet to be demonstrated.  This is the big picture, covering close to two decades of index movement.

This recovery is now over a decade old, which is quite rare. Further, I find it hard to believe that American industry is worth about 1.75x as much as it did 3 1/2 years ago. The bold move that occurred through 2017 looks a lot like irrational exuberance.  What reasonable explanation is there for most of that 75% rise happening in the first year of the Trump administration?  Since then, with a lot of gyrations, the index has gone essentially nowhere.

Graph 2 is a closer focus on the index during the recovery since 2008. This is just for perspective.  Can it make any kind of sense that the nominal value of the Dow 30 industrials has increased by more than a factor of 4 in the last decade?

Graph 2 - Dow industrials since 2008

Graph 3 is a look at the Dow Industrial Index during this calendar year.  The heavy green line connects the 3 tops since early 2018. The light green lines are the extended trend borders from the pre-2008 upward trend.  The yellow and red lines are as described above.  The orange lines might be the current short term decline trend channel- but it's not pretty, and I've been fooled before.

Graph 3 - Dow industrials, Jan 1 to Sept 24, 2019

My current sense is that we are now post peak.  If the index were to rise above the heavy green line, then this idea would be refuted.  The next resistance would then be at the top purple line that you can see going off the top at the left side of Graph 3.  But I think we're going down from here.  Each of the light green lines might offer some resistance.  You can see this has already been happening at several points during the year.

Should the index continue down, the next major resistance level would be yellow line - the channel center line, since I have no faith in the potential orange channel. If that is breached, the red line might come into play.  After that, it's the bottom purple line shown in Graphs 1 and 2.  This could happen somewhere between 20000 and 22000, depending on the timing and fall rate of the decline.

If that is breached, there might be support near 15500, the double bottom surrounding the beginning of 2016.  A 61.8% decline of the entire gain from the 2008 bottom would put a target low at about 14500.  A 50% decline would put the low around 17000.

This gives a broad range of potential resistance targets that land in the range of index values from CYs 2014 through 2016. For reference, that time period is shown in Graph 4.  Back then, the yellow line was a hard upper barrier, and the purple line was robust support.  When situations reverse, support and resistance lines can exchange their functions. If all of these potential support levels are breached, the entire gain from 2009 could be given back.

Graph 4 - Dow Industrials from 2014 through 2016

Of course, that is [I hope] worst case, and every bit of this is speculative. September is historically a weak months for stocks, but this year it has gained back most of the 2000 or so points lost in August.  On average, Octobers have been net positive, but the most dramatic historical declines [1929, 1988] have been in October, which is right around the corner.

Things don't happen to satisfy my expectations.  But I am quite pessimistic.  This recovery has been over-long for quite a while already, so we're way over-due for a major correction.  Trump's economic and trade policies are based on abysmal ignorance, have already done significant harm, and those buzzards will be coming home to roost some time soon. If you think the national debt level is important, it has ballooned under Trump - contrary to his campaign lies. Unsecured consumer debt is at a historically high level.  Our economy is about 70% dependent on consumer spending.  How can that continue when wages have been static for 40+ years, even when inflation is low?  This is why personal debt is high.  People have leveraged their livelihood, and are badly over-extended.  Where are future profits going to come from?  If things get tough and lay-offs occur, spending and profits will take bigger hits. This is how things spiral out of control.

Maybe there is some reason for optimism that I'm overlooking.  If so, point it out in comments.

Income inequality Over Time

Some people think that other people, like Krugman, Piketti, Saez, and - well - me have it all wrong about income inequality. I might take a deep dive into that link at some future date, but for now here are quick graphical looks at reality.

I plotted data from the Census Bureau Historical Household Income Tables to get these graphs.

First, here are the upper income limits for the bottom 4 quintiles, along with the lower limit for the 95th percentile for years from 1967 through 2017.

Graph 1 - Income limits per population slice

Clearly, the spread between quintiles has increased, and by larger amounts as you go up the income ladder.

Looking at it in constant 2017 dollars in Graph 2 makes this picture even more stark.

Graph 2 - Income Groups in Constant 2017 Dollars

The modest nominal gains in the bottom two quintiles have been largely obliterated by inflation. The spread between groups has widened.

What is the mechanism for increased disparity?  The data shows that it is income captured by each group.  This is presented in Graph 3.

Graph 3 - Aggregate share of income

Even into the 4th quintile, the aggregate share of each lower group has declined, while the top quintile has captured more than 100% of the gains, almost every year over the last 50 years.

Graph 4 shows the 1st and 4th quintiles along with the top 5%.

Graph 5 - Including the Top 5%

The top 5% have gained a significantly increasing share of the pie, and now are receiving about as much as the entire 4th quintile.  The pie is growing, but the rich are taking an increasingly larger slice.

I haven't taken a hard look yet at the article I linked at the beginning of this post.  We'll see what kind of arguments are put forth to counter the reality I have presented here.
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Household Debt Service vs GDP Growth

In conversation at Art's we wondered about the relationship between household debt service payments as a percentage of disposable personal income and YoY GDP growth.  A scatterplot of the quarterly data from FRED, covering Q1, 1980 to Q1, 2015 looks like this.

Graph 1 - FRED Plot

There's a broad hint of an overall negative slope.  But if you lop off a few points on the right and the left, the remaining central cluster is relatively shapeless.   But, there does seem to be some negative slope to at least certain line segments, so that might mean something.

My first cut at figuring this out was to download the FRED data and make a new plot - Graph 2 - with line segments separated in what I hope is a coherent fashion.  I did this by eyeball, then labeled the segments according to the dates they include.   In the process I inadvertently reversed the axes, but this shouldn't change whatever conclusions might be drawn.

How Mythical is Reagan's Debt?

J. W. Mason makes the excellent - and largely unrecognized - point that the great majority of the federal debt increase during Reagan's term was due to high interest rates rather than a combination of reduced taxes and high spending.  Fair enough, but I think he takes this observation too far when he says:

 If something everyone thinks they know -- Reagan's budgets blew up the federal debt in the 1980s -- turns out not be true, it's worth pointing out. Especially if you thought you knew it too.

However, it's also worth pointing out that Reagan's budgets really did blow up the federal debt - high interest rates at the time just made this a whole lot worse.  J.W.M. is looking at surplus or deficit as a % of GDP.  Conclusions based on ratios always make me want to take a different look.   There may not be much distortion from a denominator effect in this specific case, but a close look at the primary budget [total budget less interest payments] results tells a rather different story.

Graph 1 [click to enlarge] illustrates the total budget Surplus or Deficit [red] along with the primary S or D [blue] for the years 1950 to 2000, in billions of dollars.

Graph 1 - Total and Primary Budget S or D, Billions

For the period in question, this does not look substantially different from JWM's graph, with data as percentage of GDP.

Graph 2 shows only the primary budget surplus or deficit for the same time period.

Graph 2 - Primary Budget S or D, Billions

The years 1981-88, Reagan's term, are highlighted in Red.  For no good reason, the Nixon-Ford and G. H. W. Bush terms are in yellow.  Reagan's primary budget deficit of $118 billion in 1983 was 2.5 times larger than the previous record of $47 billion of 1976.   For the next three years, the primary deficits were $74.3, 82.8 and 85.2 billion, respectively.

Cutting across this a different way, Graph 3 shows the accumulated S or D since 1950, in billions, with Reagan's term highlighted in red.  Reagan is responsible for 86.47% of total primary deficit accumulation from 1950 through the end of his term.

Graph 3 - Accumulated Surplus or Deficit, 1950 to 2000

In fairness, Reagan's last two years added very little to the accumulated deficit.  But there is no denying that his profligacy was dramatically different from that of any previous president.

Despite my perhaps niggling disagreement with JWM, his post is well worth reading, and I recommend it highly.  His point about interest rates is just as relevant to today's situation as it was to circumstances three decades past.  Here is his closing thought.

If high interest rates and disinflation drove the rise in the federal debt ratio in the 1980s, it could happen again. In the current debates about when the Fed will achieve liftoff, one of the arguments for higher rates is the danger that low rates lead to excessive debt growth. It's important to understand that, historically, the relationship is just the opposite. By increasing the debt service burden of existing debt (and perhaps also by decreasing nominal incomes), high interest rates have been among the main drivers of rising debt, both public and private. A concern about rising debt burdens is an argument for hiking later, not sooner. People like Dean Baker and Jamie Galbraith have pointed out -- correctly -- that projections of rising federal debt in the future hinge critically on projections of rising interest rates. But they haven't, as far as I know, said that it's not just hypothetical. There's a precedent.  

 _____________________________

Data Source Link

Industrial Production Index

Mark has a pessimistic look at the Log of the Industrial Production index and sees a curved, and flattening, trend channel.  It's a good fit, but I see it a bit differently.  The Data set goes back to 1946, and the measurements follow a perfect linear trend channel through late 1981. 

You can always divide a curve into a series of straight line segments.  But when the first segment is half the data set, you have to give it some credence as the trend candidate.

Note also that when the trend fails, it fails at the mid line of the channel.  This happens commonly in all sorts of data sets.  

After a decline into early '83 pierces the former lower boundary, a new upward trend with significantly lower slope developed.   This channel was also much narrower than the previous one.  The inability to sustain vigorous growth is yet another anemic manifestation of the Great Stagnation.   This trend failed by starting a decline from the top channel boundary in late 2000, then dribbling along the bottom boundary for about 3 years.  No surprise, since the first decade of the century was marked by the closing of 10's of thousands of factories.

The top in 2000 might have been the start of a new trend, and I've indicated it as such.  It's still slanting up, though at a very weak slope.  Since the bottom in 2009, production has made a comeback, rising with a slope slightly greater than that of the '83 to early naughts trend.  It's approaching the upper bound of the presumed current trend channel on both my graph and on Mark's.

Whether you prefer Mark's vision or mine, a test of the upper limit is coming soon.  But with the economy at the effective demand limit, I see very little chance that the upper channel boundary will be breached.

One From the Krugman Archives.

Alan Simpson is "this cantankerous, potty-mouthed individual, who evidently feels not a bit of empathy for those less fortunate."

In other words, a crank and a sociopath.

Today's Terse Testimony

Shorter Paul Krugman:

David Brooks is an idiot.

That is all.

Update:

On further review, it's not all.  Some piling on

Brad Delong.

LGM.

Republicans: All Wrong, All the Time, Pt. 12 - Taxes and Revenues

While mucking around in the archives, I somehow made this old post from 2/25/10 inaccessible.

So, I'm reposting it now, because it has important information.

________________________________________


 The liars at the Heritage Foundation will tell you that lowering taxes increases federal Revenues.

A New York Times article, Deficit Spending Can Help Republicans, by Daniel Altman, shows that old, wrong assumptions die hard. The article reports that:

"From the beginning of 2001 through the third quarter of 2002, the federal government leapt from a surplus (including Social Security) amounting to 2.3 percent of gross domestic product to a deficit of the same size. By itself, the current deficit is not terribly threatening. Indeed, running a modest deficit during an economic downturn can be useful, as long as the policies behind the deficit — lower taxes and higher spending — benefit consumers and businesses."

The article then claims that the 1980s Reagan tax cuts failed to increase tax revenues;

"The White House says lower tax rates will lead consumers to work more and businesses to expand, resulting in higher tax revenues and eventually closing the budget gap. That notion, chided as "voodoo economics" by critics, turned out to be false when it was last in vogue, during the 1980's."

However, the numbers, crunched by Heritage's Brian Riedl, show otherwise (see chart below). In 1980, the last year before the tax cuts, tax revenues were $956 billion (in constant 1996 dollars).
Revenues exceeded that 1980 level in eight of the next 10 years. Annual revenues over the next decade averaged $102 billion above their 1980 level (in constant 1996 dollars).

They even offer this chart as proof!  (Click the link, expressed in constant 1996 dollars.)  But the real Voodoo is in achieving an actual reduction in revenues, as they did according to the Heritage Foundation figures in 1982 and (quire dramatically) 1983, in the context of an economy that has achieved 3.7% annual growth for 200 years!

And that is key.  Every year the population grows.  Almost every year the economy grows.  There is inflation in the background, most of the time.  In fact, the compounded annual growth rate of federal tax revenues from 1970 through 2008 was just slightly over 7%.   (Current dollars, not inflation adjusted.)

Here is reality, presented in non-inflation adjusted dollars   Data from the Congressional Budget Office.

Actual revenues are shown on the broken red and blue line, with segments color-coded to indicate the party of the White House occupant.  The purple curved line is the 7% growth line, starting in 1970.   The pink line is the best-fitting straight line.  Each President's term has also been overlayed with a best fitting straight line. In retrospect, these straight lines don't tell us much of anything. 

One interesting facet of this display is that most of it lies well above the 7% growth curve.  This is entirely due to increases during the Carter and Clinton administrations, as a visual inspection reveals, and we will also prove mathematically.

Here is the compounded  annual growth rate of tax revenues, by President, over the 1970 to 2008 period.

Well, Nixon and Ford managed to top the long period average by a slight margin, but they were not under the thrall of Voodoo Economists.  Neither was Clinton.  Bush I wasn't either, but he inherited Reagan's vultures.  Look at Reagan's revenue growth rate: 5.35%.  Consider that average inflation over Reagan's years was 4.56%, and GDP growth averaged 3.4%.  Under those circumstances, revenue growth should have been at least 7.96%, not a paltry 5.35%.  The average compounded growth in constant 1996 dollars, using the Heritage Foundation table is 2.38%.  This is more than a full percentage point below real GDP growth. 

Bush II's revenue growth rate was 3.01%.  But inflation averaged 2.84% and GDP growth averaged an anemic 2.16.  Together they total 5.0%.  So, Republican tax revenue growth cannot even match the inflation adjusted level of growth in the economy.


Many years ago, my dad told me that figures don't lie, but liars sure know how to figure.  The bullshit you get from the Heritage Foundation is exactly what he was talking about.  It's another example of the conservative ploy of willfully denying reality.

Which is just one more reason why WE ARE SO SCREWED.
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Quote of the Day

The quickest way to build a wrong story is to adopt the wrong ideas of others. And that, I think, is how economics got into trouble: by building on Milton Friedman's ideas instead of doubting them.

----  The Arthurian

Equity Extraction and Personal Consumption Expenditures

In comments to my previous post I made this statement of historical fact: "home price bubble equity was an ATM that grew consistently as a fraction of PCE after 1996, and accounted for over 2% in 2005 – and I got this from Greenspan and Kennedy, Table 2." In my estimation, this implies that the collapse of the housing bubble eliminated the possibility of equity extractions, and was therefore a major contributor to the decline in personal consumption expenditures [PCE] that led into the Great Recession.

Here is the explanation.

Bill McBride at Calculated Risk has been following the equity extraction data. Here is the March, 2014 update. Dr. James Kennedy, mentioned above, wrote that for technical reasons, the data set that he and Greenspan were using was no longer valid after 2008, and presented an alternate calculation method [link at the linked CR post.] McBride uses this alternate measure, calculated from the Fed's Flow of Funds data and the BEA supplement data on single family structure investment. Also linked at the CR article is a spread sheet with the two data sets. Graph 1, from CR, shows how the two data set compare.

Graph 1 - Equity Extractions - G-K Data vs CR Calculation.

I'm looking at the correlation between equity extractions and personal consumption expenditures during the housing bubble and collapse to support my claim. The method is to compare McBride's calculated data, which extends past the end of '08, and FRED Series PCE. Graph 2 shows Equity Extractions [blue, left scale] and the YoY dollar change in PCE [green, right scale] from 1991 through Q1, 2010, both in billions, quarterly data.

Graph 2 - Equity Extractions and PCE Change

The traces start rising together after the 1991 recession. There's a disconnect during the 2001 recession, when PCE takes a dive, but extractions continue to increase. From 2003 until the crash, they are close to being in lock-step; but from the peak, extractions fall farther and faster leading into the recession. One objection to my claim is that extractions decline a year earlier than PCE. We'll get to that.

Graph 3 shows a scatter plot of Year-over-year PCE dollar change vs equity extractions from Q1 2001 through Q3 2008

Graph 3 - PCE Dollar Change vs Equity Extractions - '01 to '08

The period from Q1, '01 through Q2, '03 is highlighted in red. During this time, PCE falls and levels off without a correlation to extractions. After mid '03, extractions and PCE rise together into the peak values highlighted in yellow, then fall together into the crash. R^2 for Q3 '03 through Q3 '08 is .75. This includes the blue and yellow points.

Graph 4 is a scatter plot of the Q1 '91 through Q1 '10 period. I've color coded data subsets representing different coherent realms.

Graph 4 - PCE Dollar Change vs Equity Extractions - '91 to '10

Starting from the 1991 recession in red, PCE increased into the cluster of purple dots representing Q1 '92 to Q1 '98. From Q2 '98 until Q1 '01 is another [less tight] cluster representing a greater change in PCE but only slightly higher equity extractions. This is the peak of the dot com bubble. Q2 '01 to Q2 '03 is again in red, the slide into and climb out of that recession. The blue dots, as in Graph 3, represent the period from Q3 '03 to Q3 '08 - the housing bubble peak and decline into the crash. The green dots are from Q3 '08 through Q1 '10, when everything collapsed and the correlation fell apart. The R^2 for all the data points except the green is .49. Eliminate the red dots as well, and it rises to .70. Take out the top 4 yellow dots, Q4 '99 to Q3 '00, and it rises further to .81.

This suggests that outside of recessions and the peak of the dot com bubble, which can be considered as distortions to a underlying trend, from 1992 on, changes in consumption expenditures were strongly correlated to mortgage equity extractions.

I used an ATM analogy for equity extraction, but there's a big difference. You can go to the ATM as often as you like, but extracting equity is an event that is unlikely to be repeated very often. So it's not out of the question to expect that the flow of equity dollars into consumption expenditures would be spread over several months - possibly a year or more.

I also looked at the correlation between extractions and the PCE dollar change 4 quarters later. This is shown in Graph 5.

Graph 5 - PCE Dollar Change vs Equity Extractions - '91 to '10

Color coordination, based on the PCE values, is the same as in Graph 4. The blue dots now make a more spiky array, but there is almost no loss in the coherence of the data sub sets. Only the green dots, now extended though Q1 '11, look substantially different.  R^2 for the blue dots slips from .75 to .56, but for the entire data set [except the green dots] it increases slightly from .49 to .55.

Extraction data is seasonal, with local peaks in Q's 2 or 3, and valleys in Q's 4 or 1.  This accounts for some of the data scatter.  PCE dollar change data is smoother, with no consistent seasonal pattern.  Graph 6 shows a scatter of 4Q averages of each variable, same color coding as graphs 4 and 5.  Not including the recession-related red and green dots, R^2 is .75.  Include the red dots and R^2 drops to .588.

Graph 6 - PCE Dollar Change vs Equity Extractions - '91 to '10 - 4 Q Avgs

It's now very easy to see the two variables rise and fall together from the time after the 2001 recession into the Great Recession.

I know correlation is not causation, but I have a coherent narrative that is completely consistent with the data. The behavior of the [blue dot] data from 2003 until deep into the collapse is striking, either with or without a 4 Q lag. Non-conforming data [other color dots] are explainable variances. I think the counter assertion that equity extractions had not a darned thing to do with the collapse into the great recession is not supported by real world data.