Brad de Long reports on a dinner discussion with Paul Krugman and Janet Yellen, hinking About Puzzling Anomalies in the Flow of Macroeconomic Data . He says
We currently have two large, puzzling anomalies in the macroeconomic dataflow. First, productivity growth is ludicrously, ridiculously, unbelievably rapid. Second, the high current level of the U.S. trade deficit fits very uneasily with the relatively high value of the dollar and the lack of large interest rate differentials in favor of the U.S. relative to other countries
and says
Things that readers think are smart should be attributed to Paul Krugman or to Janet Yellen. Things that people think are dumb should be attributed to me.
. At the risk of showing myself up as dumb (at least relative to these very smart guys), I don’t see a problem in either case.
Beginning with productivity, it’s only labour productivity that’s grown rapidly and seemingly anomalously. Capital productivity has declined markedly, as has multifactor productivity (a weighted average of capital and labour productivity) In part this reflects the economics of embodied technical change – as computing power has become cheaper it has been applied more intensively. But there’s also a big hangover effect from the bubble and bust, when crazy signals from capital markets led lots of firms to undertake unprofitable investments. Once some semblance of reality returns, the natural response is to cut back and it’s much easier to sack the least productive workers than to reduce capital stock. So labour productivity rises fast, but output growth is weak. I’ve done the numbers here (see also here and here), and they fit the data neatly.
On the absence of a large interest rate differential and the relatively high value of the dollar despite the large deficit, this is only a problem if you assume capital markets operate rationally. All the recent evidence is against this assumption, but in any case the markets aren’t as crazy as all that. Most non-US participants are now selling US-denominated assets ,which are only being kept afloat by the efforts of Asian central banks. Strong versions of the efficient markets hypothesis would suggest that such activities must be futile, and that speculators, anticipating the inevitable decline of the dollar would drive the central banks to the wall, but I don’t have any problem ignoring strong versions of the efficient markets hypothesis.
John Quiggin 
I can understand why Asian central banks might not worry too much about their forthcoming capital losses on their dollar denominated assets.
But the rest of the guys? The rest of the guys seem remarkably slow to sell their assets. (Although “anonymous economist” is definitely on your side).
This post also gets back to my comment on a previous Pr Q post on the
The question remains – is the recent recovery of US financial indices caused by:
reality: the improvememt in US industrial productivity
financiality: the artificial subsidies of US asset values by Asian central bank investment in US forex
If Pr Q is correct, then inefficient financial markets, perhaps duped by the incidental spike in the former, are ignoring the fundamental irrationalities in the latter.
If that is the case, then at some point US industrial concerns will reach the point of diminishing marginal returns from labour cost reductions. US equity investors will then realise that earnings forecasts were overly optimistic and will have to be revised.
The only thing that is saving their financial bacon is the desire of Asian Central banks to artificially deflate their currencies to subsidise the exports of Sino Pacific manafacturers to the ravenous US consumer market. This wont last for long as it is leading to spiraling consumer debt and ravaging the US domestic manafacturing industry.
I conclude that we can expect a sensational deflation of the USD, which will wipe out some of it’s debt burden and ease the competitive position of home manafacturers. They will then be able to sell more goods, earn more revenue, and pay less in interest costs to foreign debtors.
I base my prediction on the fact that the US Treasury is now in the hands of Southerners, owners and producer of US domesticty traded assets with high foreign debts. A deflation of the USD would not hurt them, it would only hurt owners of RoW companies & owners of US debt.
Is the U.S. Dollar from Texas or New York?
PS Congratulations to Pr Q. and Pr De L. They are part of a select group, including Pr Gordon and Steven Roach, who are trying to get a handle on real productivity values whilst seeing through the noise created by phony financial markets signals.
I agree with John. The most discretionary unknowns – the solvents – are always available on the capital side.
Further, let me see if I’ve got this right. Low capital productivity creates an exaggerated impression of high labour productivity. So the key question is what accounts for the low capital performance. Reading back, it seems there are at least three possible scenarios, each of which would have a different outcome: (1) there is still massive over-investment, which means continuing scrapping (moderated behind low-dollar wall); (2) effective capital investment has been disguised (disembodied) by deflating capital goods; or (3) there is fresh investment and we are looking at an artificial lump, that will prove its worth into the future. It appears to me that you are favouring a mix of 1 and 2, but I’m just wondering what recent capital investment figures show? If anyone keeps tabs on this stuff.
I wonder what you learned folk think of the analysis of Immanuel Wallerstein (see his Commentary No. 122, Oct. 1, 2003 “Cancun: The Collapse of the Neo-Liberal Offensive”
http://fbc.binghamton.edu/122en.htm)
Wallerstein sees the world system moving from a Krondatieff A to a Krodatieff B at about 1970, presumably because modern technological advances don’t have the same grunt as earlier.
Since 1970 he sees increasing competition between firms and increasing competition beween the main capital centres – the US, Europe and Japan. Furthermore, he sees increasing predation by capitalists on the periphery (the South) on the workers, and on government (cost shifting to government, privatisation, lower taxes etc).
Finally, he sees the collapse, or deadlock, of the trade talks at Cancun, as the South successfully fighting back. Indeed he sees the WTO and neo-liberalism as basically finished, with the World Bank and the IMF next in the firing line!