Haver Analytics
Haver Analytics

Introducing

Paul L. Kasriel

Mr. Kasriel is founder of Econtrarian, LLC, an economic-analysis consulting firm. Paul’s economic commentaries can be read on his blog, The Econtrarian.   After 25 years of employment at The Northern Trust Company of Chicago, Paul retired from the chief economist position at the end of April 2012. Prior to joining The Northern Trust Company in August 1986, Paul was on the official staff of the Federal Reserve Bank of Chicago in the economic research department.   Paul is a recipient of the annual Lawrence R. Klein award for the most accurate economic forecast over a four-year period among the approximately 50 participants in the Blue Chip Economic Indicators forecast survey. In January 2009, both The Wall Street Journal and Forbes cited Paul as one of the few economists who identified early on the formation of the housing bubble and the economic and financial market havoc that would ensue after the bubble inevitably burst. Under Paul’s leadership, The Northern Trust’s economic website was ranked in the top ten “most interesting” by The Wall Street Journal. Paul is the co-author of a book entitled Seven Indicators That Move Markets (McGraw-Hill, 2002).   Paul resides on the beautiful peninsula of Door County, Wisconsin where he sails his salty 1967 Pearson Commander 26, sings in a community choir and struggles to learn how to play the bass guitar (actually the bass ukulele).   Paul can be contacted by email at econtrarian@gmail.com or by telephone at 1-920-559-0375.

Publications by Paul L. Kasriel

  • Federal Reserve monetary policy has enormous effects on the behavior of the business cycle. These business-cycle effects, in turn, affect the political environment. For example, the surge in consumer price inflation in 2021-22 appeared to be an important factor in the 2024 presidential election. In previous commentaries, I have argued that Fed monetary policy in 2020-21 exacerbated the inflationary environment in 2021-23. In my July 8, 2025 commentary “Fed Operating Behavior – Don’t Let the Perfect Be the Enemy of the Good”, I argued that the Fed should act so as to have the sum of the monetary base plus loans and securities on the books of depository institutions (thin-air credit) grow at a constant annual rate of 5 percent. Would the business cycle be eliminated under these circumstances? No. Would the amplitude of business cycles be damped? Yes. Could the Fed legitimately be criticized for political bias if it maintained thin-air credit growth at 5% per annum, regardless of what political party held the presidency? No. Would the Fed lose its mystique? Yes.

    Let’s take a trip down memory lane to see how Fed monetary policy has exacerbated the business cycle. The Fed opened its doors for business in 1914, the same year that World War I started. Although the US did not enter WWI until April 1917, we were supplying war materiel and foodstuffs to the Allies prior to our entry. Plotted in Chart 1 are the year-over-year percent changes in the annual average M2 money supply (annual data for thin-air credit did not become available until 1946) and the annual average CPI. Growth in the M2 money supply accelerated to 8.5% in 1915 from 3.4% in 1914. In the six years ended 1920, M2 grew at a compound annual rate of 11.9%. And you know what else grew rapidly in these six years? The CPI. In the six years ended 1920, the CPI grew at a compound annual rate of 12.2%. So, right out of the box, the Fed was aiding and abetting consumer price inflation.

  • The Federal Reserve currently is involved in one of its periodic navel-gazing exercises to try to improve its monetary-policy procedures. Most likely this introspection will involve issues such as identifying the level of the “neutral” federal funds interest rate, the lags between a change in the federal funds rate and the cumulative effect on the inflation rate and the unemployment rate, how to move the federal funds rate in periods of heightened uncertainty and how to more effectively communicate with the public on monetary-policy issues. But, it is doubtful that the Fed will contemplate abandoning the federal funds rate as its primary policy tool. In what follows, I am going to propose that a lot of the Fed’s monetary-policy conundrums could be solved by targeting a monetary quantity, rather than an interest rate. The monetary quantity I would propose the Fed target and hit is the sum of the monetary base (which is the sum of cash reserves of depository institutions plus currency in circulation) plus the loans and securities held by depository institutions (commercial banks, savings and loans and credit unions). I have called this monetary quantity thin-air credit because it is credit that is created, figuratively, out of thin-air. In what follows, I will present a theoretical argument for proposing thin-air credit as the Fed’s operating tool as well as empirical evidence for supporting thin-air credit. I will argue that targeting and hitting a steady rate of growth in thin-air credit in periods of exogenous shocks to the economy, such as pandemics, tariffs, etc., will prevent the Fed from making policy moves that will exacerbate the effects of these exogenous shocks on the economy. The proposal that the Fed target a monetary quantity rather than an interest rate was popularized by Professor Milton Friedman. The only difference between my proposal and Friedman’s is that the monetary quantity I prefer is thin-air credit rather than some money supply definition.

    What does it mean that the sum of the monetary base and the loans and securities of depository institutions are created “out of thin air”? When the Fed purchases securities in the open market, from where do the funds come that the sellers of these securities to the Fed receive? They come from bookkeeping entries on the Fed’s balance sheet. On the asset side of the Fed’s balance sheet, “securities held” increase by the amount of securities purchased by the Fed in the open market. On the liabilities side of the Fed’s balance sheet, “deposits of depository institutions” increase by the same amount. These deposits of depository institutions are also referred to as reserves held by depository institutions at the Fed. These reserves were created by nothing other than Fed balance-sheet entries. On the balance sheet of the depository-institution system, the asset item “reserves held at the Fed” increase by the amount of the securities purchased by the Fed and the liabilities item “deposits” increase by the same amount. Again, nothing but bookkeeping entries. The sellers of the securities to the Fed now have deposits that they can use to purchase goods, services and/or assets. Moreover, the depository-institution system has additional funds that can be used to make additional loans and/or purchase additional securities. The recipients of these additional loans issued by depository institutions are able to purchase goods, services and/or assets. Because depository institutions desire to hold only a proportion of their assets as reserves, the depository-institution system is able to increase its holdings of loans and securities by some multiple in excess of the reserves created by the Fed. This enables the recipients of funds from increased depository institutions loans and securities to purchase goods, services and/or assets without any other entity needing to reduce its current purchases of goods, services and/or assets. It is as though the Federal Reserve and the depository-institution system are legal counterfeiters. They can create additional credit, not with a literal printing press, but by bookkeeping entries. The Fed and the depository-institution system are able to create credit, figuratively, out of thin air.

    Now, let’s rewind the tape. Instead of the Fed purchasing securities in the open market, assume that the purchaser of securities was some entity other than the Fed or the depository institution system. From where did this entity get the funds to purchase the securities? This entity might reduce its current spending on goods, services and/or assets by the amount of its purchase of these securities. This is often referred to as an increase in saving. In this case, the seller of securities can purchase goods, services and/or assets. But the buyer of these securities is reducing its purchases of goods, services and/or other assets. In this case, the purchaser of securities is transferring purchasing power to the seller of securities. Under these circumstances no net increase in the purchases of goods, services and/or assets occurs. In contrast, the sale of securities to the Fed set in motion a series of bookkeeping entries that did result in a net increase in the purchases of goods, services and/or assets. To a borrower, it makes no difference whether the lender is the Fed or a depository institution. But to the borrowers’ effect on the aggregate economy, it makes all the difference in the world whether or not the lender was the Fed and/or the depository institution system.

    The Fed’s so-called dual mandate is to promote low unemployment and low inflation. Real GDP growth is related to the unemployment rate. All else the same, if real economic growth is close to its potential, which is a function of available productive resources and the productivity of those resources, a low unemployment rate would likely result. In the past 70 years, the compound rate of growth in real GDP has been 3.03%. In the past 70 years, the compound rate of growth in the Congressional Budget Office’s estimate of real potential GDP has been 2.99%. So, let’s say that growth in real GDP of 3% would come close to generating an acceptably low unemployment rate. For reasons unknown to me, the conventional wisdom is that the consumer inflation rate ought to be around 2% annualized. In the past 70 years, the compound annualized rate of growth in both the GDP and Personal Consumption chain prices indices has been 3.2% on a rounded basis. What I am suggesting is that if the Fed could conduct policy such that the growth rate in nominal GDP were around 5% (3% real and 2% GDP price inflation), the Fed would come close to meeting its dual mandate of low unemployment and low inflation.

    If only there were some monetary quantity whose behavior would be relatively highly correlated with the behavior of nominal GDP. Oh wait, there is. It is the sum of the monetary base plus depository institutions’ holdings of loans and securities, i.e., thin-air credit. Plotted in Chart 1 are the year-over-year percent changes in annual averages of nominal thin-air credit (blue bars) and nominal GDP (red line) starting in 1955 and ending in 2019. That “r = 0.65” in the upper left-hand corner of the chart is the correlation coefficient between the two series. If the two series were perfectly correlated, the absolute value of the correlation coefficient would be 1.0. Because there is an implicit “+” sign in front of the 0.65 correlation coefficient, it means that when thin-air credit growth increases, nominal GDP growth also increases and vice versa. An absolute value of 0.65 for a correlation coefficient is not bad for government work. Why did I truncate the series to 2019 rather than 2024? Because the correlation coefficient is higher for the truncated period. How’s that for honesty? My deceased friend and former colleague, Robert “Bob” Laurent, remarked that I was the most honest economist he had ever encountered. NOT the BEST, but the most honest. The correlation coefficient drops to 0.45 when the years 2020 through 2024 are included. This is because of the record growth and near-record growth in nominal thin-air credit in 2020 and 2021 and the unusual contraction in nominal GDP in 2020. All of this was due to the once-in-a-century (I hope) pandemic and the Fed’s errant response to it.

  • Milton Friedman taught us that when it comes to evaluating the stance of monetary policy, look at monetary quantities, not the level of interest rates. A given level of federal funds rate can represent a tight monetary policy if the demand for credit is weak. In this case we would expect to see a relatively low rate of growth in bank credit. Similarly, that same level of the federal funds rate can represent an easy monetary policy if the demand for credit is strong. In this case we would expect to see a relatively high rate of growth in bank credit.

    The federal funds rate has been at a level of 4.33% since December 25, 2024. Yet, as can be seen in the chart below, growth in bank credit has increased significantly. In the 13 weeks ended May 21, 2025, the annualized growth in bank credit was 7.9%, the highest since mid-August 2022. Adjusted for consumer inflation, today’s 7.9% growth in bank credit is higher than it was in August 2022.

  • Looking a bit deeper into early April economic data, I detect some worrisome issues regarding the health of the economy. Let’s start with the April 2025 Nonfarm Employment Survey, specifically, the Manufacturing Index of Aggregate Weekly Hours for the manly guys on the factory floor. (We don’t care about the supervisors and suits in the C-suites because we know that they don’t produce things you can touch and feel.) This index of aggregate weekly hours is a proxy for output in the manufacturing sector. It represents the number of factory-floor workers times the weekly hours they toiled. This index does not take into consideration any changes in the workers’ productivity. As you can see in Chart 1, this index contracted by 5.6% annualized in April. One month does not a trend make, but …

  • USA
    | Apr 30 2025

    Good Bye Mr. CHIPS?

    The CHIPS (Creating Helpful Incentives to Produce Semiconductors) Act was signed into federal law on August 9, 2022. The CHIPS Act provides various subsidies for the production of semiconductors in the US. Semiconductors are an integral component in numerous kinds of equipment, including defense equipment. A major impetus for passing the CHIPS Act was national security.

    The encouragement of domestic semiconductor production seems to be coming to fruition. In the advance estimate of Q1:2025 real GDP, released on April 30, 2025, the annualized change in the production of real information processing equipment skyrocketed to 69.3%, as shown in Chart 1.

  • Private credit involves nonbank financial institutions direct lending to private firms. It is a rapidly growing sector of the financial markets. According to McKinsey & Company, private credit “totaled nearly $2 trillion by the end of 2023, roughly ten times than it did in 2009”. Private credit increased in popularity following the Great Financial Crisis after which commercial banks came under increased regulation. But US commercial banks have steadily become involved in the private credit market indirectly. Banks have done this by increasing their lending to nonbank financial institutions, the institutions that make the direct loans to businesses.

    Chart 1 shows the steady growth in commercial bank lending to nonbank financial institutions starting in 2015 (when the series first became available form the Federal Reserve). In January 2015, commercial bank loans to nonbank financial institutions were 4.2% of commercial banks’ total loans and leases. By February 2025, this percentage had risen to 9.4%.

  • Can it be that every geographic region of the World, save for South/Central America practices unfair trade with the US? Since 1976, the only geographic region of the World that the US has come close to running a trade surplus in goods is South/Central America. Are the other regions of the World practicing unfair trade practices with the US or might there be another reason why the US consistently runs goods trade deficits with them?

    Of course, if I did not think there is another reason, I would not have posed the question. Consider the following identity:

    Gross Domestic Production = Gross Domestic Purchases + (Exports – Imports)

    Rearranging some terms, we get:

    Gross Domestic Production – Gross Domestic Purchases = (Exports – Imports)

    If Gross Domestic Purchases exceeds Gross Domestic Production, then imports must exceed exports. In simpler terms, if the households, businesses and government entities of a country, collectively, spend more than they produce, they must run a trade deficit. Collectively, the rest of the World is “lending” the trade-deficit country goods and services.

    Let’s go to a chart. Plotted in the chart below are the annual trade deficits in goods the US runs (blue bars) along with the difference between annual US Gross Domestic Production and Gross Domestic Purchases (the red line).

  • Sort of like the chicken or the egg conundrum, a perennial question is whether the U.S. federal government has a spending problem, a revenue problem or both. In this commentary, I will compare the U.S. federal budget data with those of the euro zone. On this comparative basis, I would say that that the US has a revenue problem. Then I will examine the CBO’s latest baseline forecast of federal outlays and revenues to try to determine where our fiscal “problem” lies. I will conclude that we have both a spending and revenue problem.

    Chart 1 suggests that the federal government has a fiscal “problem” inasmuch as federal outlays have, with a few exceptions, been higher than federal revenues in the fiscal years starting in 1966 through 2024. The exceptions were in fiscal years 1998 through 2001. According to the Congressional Budget Office’s (CBO) January 17, 2025 baseline (current law) forecast, total federal outlays as a percent of total federal revenues will remain above 100% through fiscal year 2029 and will remain above the 1966-2024 median of 117.05% through fiscal year 2029. This does not tell us whether forecast federal deficits are due to a spending problem or a revenue problem. Rather it just establishes that federal budget deficits relative to their median value will persist through fiscal year 2029.

  • On Sunday, October 27, 2024, Elon Musk claimed that he could find at least $2 trillion of potential spending reductions in the federal budget if Donald Trump were elected in the upcoming November 5, 2024 presidential election. I assume he could find the same magnitude of budget cuts if Donald Trump were not elected. Well, if Musk can return a rocket to its launch pad, why wouldn’t we expect him to identify $2 trillion in federal budget cuts? After all, in Fiscal Year (FY) 2024, federal net outlays were $6.75 trillion. Surely, Musk could identify $2 trillion of “fat” to trim. Or could he?

    Shown in the Chart below are net federal outlays in FY 2024 minus net outlays for national defense, interest payments on the public debt, Social Security, Medicare and veterans’ benefits/services. The amount remaining of net federal budget outlays after these subtractions is $2.3 trillion. That’s $2.3 billion for Medicaid, SNAP (food stamps), civilian retirement, earned income tax credits and the operating /capital costs of nondefense federal departments, including, but not restricted to, Justice, Agriculture and Transportation. So, if Musk had been able to identify $2 trillion of cuts in FY 2024 federal outlays, net of defense, interest, Social Security, Medicare and veterans’ benefits/services, that would have left him with $300 billion to fund the rest of federal outlays. Would you want to fly on commercial airlines knowing that airline regulations might not be enforced? You might want to start growing your own vegetables and raising your own animal protein, because the FDA might not be able to inspect food. Those Venezuelan gangs might be taking over more towns because of a lack of FBI agents to stop them. You get the picture. Unless Musk is going to cut spending on defense, interest, Social Security, Medicare, and veterans’ benefits/services, cutting $2 trillion from federal outlays would not leave enough to fund the rest of the government adequately. And if Musk, as part of a Trump administration, were to cut Social Security, Medicare and veterans’ benefits, the Democrats would likely win large majorities in the House and Senate after the 2026 midterms. So, although Musk can return a rocket to its launch pad, I don’t think he can cut $2 trillion from federal outlays in one year without causing severe political problems for a Trump administration.

  • Living in a “swing” state, I am bombarded with political television ads. The GOP ads blame the 2021-2022 surge in inflation on Bidenomics and, by association, Harrisomics. A number of the elements of Bidenomics increased the federal budget deficit. But I will argue that federal budgetary deficits do not cause higher inflation. Rather, the actions of the Federal Reserve and the depository institution system cause higher sustained inflation rates by their combined ability to create credit figuratively out of thin air. The Federal Reserve and the depository institution system are, in effect, legal counterfeiters, i.e., they have the unique ability to create credit, figuratively, out of thin air. (Thin-air credit here will be defined as the sum of the Federal Reserve liability items, reserve deposits and vault cash of the depository institution system, currency held by the non-depository institution system, and the sum of depository institution system items, debt securities and loans. (An equivalent definition of thin-air credit is the monetary base, created by the Federal Reserve plus credit created by the depository institution system.) When credit is created out of thin air, the recipients of this credit are able to increase their spending without necessitating any other entity to reduce its spending. With some exceptions, when an entity other than the Fed/depository institution system lends to another, the lender reduces its current spending, transferring spending power to the borrower. This is called saving on the part of the lender.

    Let us look at some data relating net federal borrowing as a percent of nominal GDP versus thin-air credit growth to goods/services price inflation. The inflation measure I will use in this analysis is the chain-price index for Gross Domestic Purchases. This inflation measure includes the prices of personal consumption expenditures, business expenditures, residential real estate services expenditures and government expenditures on goods/services. It excludes the prices of US goods/services exports. I have tested lead-lag relationships between net federal borrowing and inflation and thin-air credit growth and inflation. For both variables, the highest correlation coefficients occur when both net federal borrowing and thin-air credit growth lead inflation by two years. So, this year’s inflation rate is most highly correlated with net federal borrowing and/or thin-air credit growth two years prior.

    If federal government net borrowing influences inflation, we would expect a negative correlation between the two series. And that is what we observe in Chart 1. The correlation coefficient between the two series is negative 0.14. Although the correlation coefficient has the correct sign, the absolute value of its magnitude, 0.14, is low, suggesting that there is not much association between the two series.

  • Auto and light truck assemblies sprinted 21.1% month-to-month (not annualized) in June to a seasonally-adjust annualized level of 13.1 million units, the highest level of monthly of production since July 2015. In May, retail dollar inventories of motor vehicles (and parts) relative to dollar retail sales of them continued their upward trend, reaching 1.93, the highest since April 2020, when Covid infections were in their early stage. The retail inventory-to-sales ratio of motor vehicles will artificially rise higher in June due to the surge in June assemblies and the curtailment of sales related to the computer hacking of car/truck dealers last month. But discounting the likely increase in the I/S ratio in June because of the hacked software, retail inventories of motor vehicles are starting to look a bit excessive, albeit below the ratio to sales pre-Covid. (See Chart 1 for these data.)

  • I thought that by 2023 the US economy would have entered a recession. My favorite recession indicators, the yield spread between the Treasury 10-year security and the federal funds rate and changes in real “thin-air” credit, both suggested a recession was imminent. When the yield spread enters negative territory and remains negative for as long as it has of late (see Chart 1), since 1970, a recession has occurred. But not this time. Similarly, when the yield spread persists in negative territory, typically, real thin-air credit (depository institution holdings of loans, securities and reserves deflated by the Gross Domestic Purchases chain-price index) contracts and a recession is underway (see Chart 1). The percent contraction in real thin-air credit of late has been the largest since the Great Depression. But still no recession. It’s been a long time coming, but I do believe the US economy finally stands on the precipice of a recession.