E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 6 6 5 5 When fear rules … 4 4 3-month dollar-based Libor 3 3 3-month overnight indexed swap rate (OIS) 2 2 1 1 0 0 Jan 07 Apr 07 Jun 07 Sep 07 Dec 07 Mar 08 Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 Jun 08 Sep 08 Dec 08 1 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 In defense of policy activism … Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 2 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 Market economies cycle … US real GDP (percent change from four quarters earlier) 25 25 20 20 15 15 10 10 5 5 0 0 -5 -5 -10 -10 -15 -15 -20 Average historical growth = 3.75% annually -20 1852 1862 1872 1882 1892 1902 1912 1922 1932 1942 1952 1962 1972 1982 1992 2002 Source: NBER recession bars; US Department of Commerce; various academic sources Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 3 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 … when demand falters, yes … when supply shifts, no US real GDP (chained 2000 dollars) 13,000 13,000 12,000 12,000 11,000 11,000 10,000 10,000 9,000 9,000 8,000 8,000 Potential real GDP (maximum sustainable output) 7,000 7,000 6,000 6,000 5,000 5,000 4,000 4,000 3,000 3,000 Actual real GDP 2,000 2,000 60 65 70 75 80 85 90 95 00 05 Source: US Department of Commerce Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 4 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 Three hurdles, two cleared … (1) Inflated housing values (2) Oil’s convulsion (3) Irrational fears Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 5 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 A view about 2009 … nothing wrong that isn’t fixed US real GDP (percent change from four quarters earlier) 10 10 9 9 8 8 7 7 6 6 5 5 4 4 3 3 2 2 1 1 0 0 -1 -1 -2 -2 -3 -3 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 Source: JPMorgan Chase & Co. Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 6 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 (1) Ground Zero … inflated valuations are history Nominal income per household and house prices (ratio to 1970 Q1 level) 10 9 8 Existing house prices (Case-Shiller national index) FHFA (previously Ofheo) purchase only index Gross nominal income per household 2001 Q2 7 10 9 8 7 6 6 5 5 4 4 3 3 2 2 1 1 0 0 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 14 Sources: Standard & Poor’s; US Department of Commerce Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 7 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 (2) Oil’s speculative (?) convulsion … Global oil demand (millions of barrels daily) 90 86 82 78 74 70 66 62 58 54 50 46 42 38 34 30 Petroleum, WTI (dollars per barrel) Global petroleum demand (left) Petroleum price (right) 140 120 100 80 60 40 20 0 1947 1952 1957 1962 1967 1972 1977 1982 1987 1992 1997 2002 2007 Source: American Petroleum Institute Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 8 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 … was a headwind, now a tailwind … Contribution to real GDP growth (contribution to percent change from four quarters earlier) 1.5 1.5 Oil price assumption 1.0 1.0 2008 Q4 = $50 per barrel 2009 Q4 = $55 per barrel 0.5 2010 Q4 = $60 per barrel 0.5 0.0 0.0 -0.5 -0.5 -1.0 -1.0 2008 Q4 -1.5 2002 -1.5 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 Sources: US Department of Commerce; JPMorgan Chase &Co. Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 9 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 … that reached/reaches all corners of Planet Earth Real GDP in selected regions (percent change from four quarters earlier) 10 9 10 Emerging economies in Asia, Eastern Europe and Latin America (orange) 9 8 8 7 7 6 6 US (blue-gray) EU-11 (black) Japan (red) 5 4 5 4 3 3 2 2 1 1 0 0 -1 -1 -2 -2 -3 -3 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 Source: JPMorgan Chase & Co. Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 10 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 (3) Fear … irrational, if you ask me Market value of all publicly traded stocks (Wilshire 5000 index) 18,000 18,000 16,000 16,000 14,000 14,000 12,000 12,000 10,000 10,000 8,000 8,000 6,000 6,000 4,000 4,000 2,000 2,000 0 0 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 Source: Dow Jones Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 11 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 Two red herrings/myths … (1) The housing ATM story (2) Household debt Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 12 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 What the 2000s taught us about consumers Real consumer spending and income (annual percent change over period shown) 5 4 4.1 3.6 3.7 3.5 4 3 consumption (orange) income(indigo) 3.2 3.2 2.9 2.8 3 2.6 2.2 1.9 1.7 2 2 1 1 0 1980-84 1985-89 1990-94 1995-99 2000-04 2005-08 Source: US Department of Commerce Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 13 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 Debt … if you bought in the 80s/90s, you know the story Mortgage rates (percent) 20 Household debt (ratio to income) 1.4 30-year mortgage commitment rate (left) 1.3 18 16 1.2 1.1 14 1.0 0.9 12 Ratio of mortgage debt to disposable personal income (right) 10 0.8 0.7 0.6 8 0.5 6 0.4 4 0.3 2 0.2 Ratio of non-mortgage debt to disposable personal income (right) 0.1 0 1960 0.0 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 Source: Federal Reserve Board Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 14 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 Two structural “challenges” … (1) End of an era for consumers (2) Financial deleveraging Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 15 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 (1) End of an era for consumers/retailers Consumer spending (percent of GDP) 0.75 0.75 0.70 0.70 0.65 0.65 0.60 0.60 0.55 0.55 47 52 57 62 67 72 77 82 87 92 97 02 07 Source: US Department of Commerce Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 16 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 The Luckiest Generation … we hope … Saving (% of income) Net worth (ratio to income) 16 6.4 Ratio of net worth to income (right) 6.2 6.0 12 5.8 5.6 5.4 8 5.2 Saving rate, the line (left) 5.0 4 4.8 4.6 4.4 0 4.2 4.0 -4 1960 3.8 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 Sources: US Department of Commerce; Federal Reserve Board Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 17 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 … about equities (the economy), not real estate Saving (% of income) Net worth (ratio to income) 20 6.5 Ratio of net worth to income (right) 6.0 Saving rate, the line (left) 5.5 16 5.0 4.5 12 4.0 3.5 8 3.0 2.5 4 2.0 1.5 0 1.0 Real estate net worth (right) 0.5 -4 1960 0.0 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 Sources: US Department of Commerce; Federal Reserve Board Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 18 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 (2) Securitized finance … the end of shadow banking Assets held at financial intermediaries (share of all assets held at financial intermediaries) 100 Life Insurance Companies 90 Pension Funds 80 70 Brokers and Dealers, Finance, Mortgage, and Other Insurance Companies, and Funding Corporations 60 Money Market Mutual Funds 50 40 Mutual Funds, Closed-End Funds, Exchange-Traded Funds, and REITs 30 Government-Sponsored Enterprises, Federally Related Mortgage Pools, and Issuers of Asset-Backed Securities 20 10 Banks, Savings Institutions, and Credit Unions 0 50 53 56 59 62 65 68 71 74 77 80 83 86 89 92 95 98 01 04 07 Source: Federal Reserve Board Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 19 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 Inflation … R.I.P. Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 20 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 Markets sign the articles of surrender 10-year inflation expectations (percent) 3.00 3.00 2.75 2.75 2.50 2.50 2.25 2.25 2.00 2.00 1.75 1.75 1.50 1.50 1.25 1.25 1.00 1.00 0.75 0.75 0.50 0.50 0.25 0.25 0.00 0.00 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 Sources: Bloomberg; Federal Reserve Board Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 21 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 Inflation doesn’t do well when the economy chills Unemployment rate (percent of the labor force) 12 12 10 10 8 8 6 6 4 4 2 2 0 0 60 65 70 75 80 85 90 95 00 05 10 Sources: NBER recession bars; US Department of Labor Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 22 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 The Fed’s 30-year price stability battle … final days 10-year inflation expectations (percent) 12 12 10 The 10 FOMC's forecast for core 8 PCE chain 8 price inflation 6 6 Chain PCE price index 4 4 2 2 Core chain PCE price index 0 1960 0 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 Sources: Bloomberg; Federal Reserve Board Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 23 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 … the stuff of opportunity Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 24 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 Markets value the future at fire sale prices? I don’t think so US real GDP (percent change from four quarters earlier) 26 18,000 24 16,000 22 Price-earnings ratio (left scale) 20 Wilshire 5000 (right scale) 18 14,000 12,000 10,000 16 8,000 14 6,000 12 10 4,000 8 2,000 6 0 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 Sources: US Department of Commerce; Dow Jones Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 25 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 The world is not flat … circa 1980 Less than $5,000 per capita GDP $5,000 - $10,000 per capita GDP Over $10,000 per capita GDP Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 26 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 … but others want to make it so … circa 2005 Less than $5,000 GDP per person $5,000 - $15,000 GDP per person Over $15,000 GDP per person Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 27 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 Appendix I. Threats to our way Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 28 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 Anxiety about America’s living standard … it’s about us Labor compensation trends (percentage of nominal GDP) 0.64 0.64 0.60 0.60 0.56 0.56 Compensation 0.52 0.52 0.48 0.48 0.44 Wages and salaries (including average hourly earnings) 0.40 0.44 0.40 69 71 73 75 77 79 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 Source: US Department of Commerce Jim Glassman, jglassman@jpmorgan.com, 212-270-0778 29 E C O N O M I C O U T L O O K I S S U E S, N E E N G L A N D B O A R D O F E D U C A T I O N, B O S T O N, D E C E M B E R 5, 2 0 0 8 Analysts’ Compensation: The research analysts responsible for the preparation of this report receive compensation based upon various factors, including the quality and accuracy of research, client feedback, competitive factors and overall firm revenues. 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