Most think the the Federal Reserve monetary actions has been successful in supporting GDP. If that were the case it should be expected that a change in the Fed balance sheet should result in a comparable change in GDP level. Was the large addition to the Fed balance sheet increased GDP? This has not been the case. The recent increase in Fed balance sheet has not been seen experienced, in terms of speed and size, since World War II. So far the economic impact has been negligiable.

The Federal Reserve is now “pushing on a string”, or has completed ‘Japanification’.


Risk Premium

The “risk premium”, the amount of yield required to compensate for extending one more year maturity is first derived. Most wrongly - including the Fed - see the risk premium as the yield increase per year in US Treasurys from 2 years to 10 years or longer. The 2 year maturity is too short as the Fed basically sets all rates under 5 year to 5 years. This report does not use the yield curve to calculate risk premium, but “deconvexes” the curve well past 5 years adjusted using multiple inputs.

Another plotting of the risk premium over a shorter time period.

The risk premium is now over 20 basis points, after reaching a low of 8 basis points in Q3 2019. Any forward growth in NGDP implied by steepening risk premium is more than offset by increased volatility and the Fed “dropping” forward rates.

The Term Structure of Fed Funds/NGDP out to 7 Years

The first 5 years of the yield curve is an adminstrated rate set by the Federal Reserve. The risk premium derived, from structure and rates past 5 years, is used to build a Fed Funds yield curve out for 7 years. This is, according to Fisher, one and the same with NGDP.

The term structure of NGDP shows the progression of change from December 2018, when Powell announced that normalization ceased and that a steady ease would commence.


A close up of the Fed Funds term structure during the Trump administration with the rise in furture Fed Funds anticipated (normalization), from the election to March 2018 highs, was was undone to the Covid-19 lows of Q2 2020. The recent lows were at levels worse than those reached in 2012.

However, there has been a large inporvement in forward expected Fed Funds and thereby implied forward expected NGDP, to levels just below those attained with the Trump peak in 2018.


The term structure of US GDP at key dates:

The term structure of GDP currently and then for the last 8 months and then for November 2018 when Powell announced that the Fed would no longer normalize rates.

The term structure of GDP currently and then for the last 8 weeks.

With Term Structure of NGDP Growth, Expected GDP Level in 7 Years Derived

The term structure of GDP (NGDP) growth per year is used to derive a NGDP level in 7 years.

The GDP level in 7 years is derived by compounding out the term structure of NGDP growth.

The 7 years forward GDP level is then compared to current GDP. This is the 7 year “basis” of GDP.

The “Basis” of 7 Years Forward GDP to Current GDP

The 7 Years forward GDP is netted against current GDP and a basis is calculated. This is the level (in billions here) of expected growth in GDP over the next 7 years.

The basis has dropped from peak level of 4.71 trillion, only recently achieved in 2018 to the current basis now at 1.47 trillion, a change of 3.24 trillion from peak to now.

Using Current GDP to Qualify the R2000

The below uses a current GDP level on a daily level. This is from a smoothed spline and disaggregated reported quarterly GDP with last GDP level coming from Federal Reserve “NowCasting” of GDP. )

Using Current GDP to Qualify the SP500

The below uses a current GDP level on a daily level. This is from a smoothed spline and disaggregated reported quarterly GDP with last GDP level coming from Federal Reserve “NowCasting” of GDP. The SP500 is scatter plotted against and shows that SP500 is fair value, as most perceive it in relationship to the economy. HOwever the SP500 has a duration of approximately 7 years so to compare it to current GDP is apples to oranges and does not provide information. This has been overlooked for decades as SP500 had always an increasing forward value until 2012 and from 2018 to date.

The US Treasury Curve Flattens Jan 2019 to Q1 2020, But Then Steepened.

Most watch the yield curve from the 2 year. The curve from 2 years to 5 years is an administrated rate set by the Fed and does not reflect the US economy. The yield curve that does reflect the US economy is from the 5 years and this report uses the 20 years as there is a continuous time series - the 30 years stops in the 90s when the 30 years were no longer issued for a while. The yield curve of 5 years US Treasury to 20 years US Treasury is given,

The “Maturity” of R2000

The 7 Years Forward GDP Level Does Not Support Current R2000 Levels

A Significant Sell Off In R2000 Likely to Occur

The “Basis” of 7 Years Forward GDP to Current GDP

The 7 years forward GDP level difference to current GDP - the " GDP basis“. The R2000 level prices an implicit growth rate of the US economy. The R 2000 members cannot use offshore tax avoidance schemes such as the infamous”Irish Double-Dutch" structures or offshore tax havens. It makes sense to compare the GDP basis to current R2000 levels. Note the forward GDP is in the then current dollars, or is NGDP.

The Same Analysis Using 7 Year Forward GDP and the 7 Year GDP Basis to Qualify SP500

The above analysis is applied to the SP500. The ETF “SPY” is used for levels over time.

The SP500 level is rich versus the R2000 level. The R2000 is perceived as a domestic US stock index, with the members not able to arrange tax avoidance strategies. The leading weights of the SP500 all are intent in using international tax avoidance schemes as well as Chinese excess capacity to produce goods.

As forward GDP, the basic input throughout this report, was almost always a steady 2% to 6% per annum growth given the rather steady forwards in volatility and the instantaneous rates, there was little ongoing difference between comparing risky assets to current dollar GDP even though current dollar GDP has by definition “0” duration and and all risky assets have long duration.

A Fisherian analysis has it that the US Treasury rate curve and US GDP and US risky assets like the R2000 or SP500 will, over time, be in synch.

The Federal Reserve has evoked a “Japanification”, or a “Lost Decade”, similar to what Japan experienced from the 1990 crisis well in the 2008 crisis. This will mean that the Fed stimulus in response to Covid-19, that was not a classic Bagehot “discount window” solvency action lending freely against “good collateral”, will cap if not offset the fiscal stimulus. Furtermore the fiscal stimmmulus is not public investments but transfer payments. These transfer paymnents have made savings surge given the general alarm. The fiscal stimulus is not, but has a less than 1 Keynesian multiple.

While the US Treasury rate and risk premium may adjust to levels that support the current equity levels, this is unlikely as a “catch all” that higher rates are negative for equities will likely drive equity down to recent lows. If Chinese excess capacity is no longer dumped into the US and with the massive fiscal and monetary intervention, then significant inflation will begin forcing the Federal Reserve to tighten at levels not seen since Volcker. But such ending of Chinese mercantalism is still not appearing and even more unlikely given a Biden administration.