Dad?
Yeah, pal…
Are we there yet?
No, not yet and stop hitting your sister.
The third quarter GDP report last week showed 3.5% growth for the quarter. On Thursday, that was taken as positive evidence that the recession was over and stocks were pushed up over 2%. On Friday, the personal spending numbers reminded everyone that while we may be on the road to recovery, we aren’t there yet and stocks took it on the chin. In fact, some are even wondering whether Dad (Obama) might have taken a wrong turn somewhere back up the road and, like every other man, can’t bring himself to stop and ask for directions. Let’s hope we get a course correction before we launch this Family Truckster of a US economy past a dead end sign and into the desert a la Clark Griswold.
The GDP report proved nothing so much as that the calculation is somewhat of a tautology. Since the equation includes a variable, usually labeled G, that represents government spending, it shouldn’t surprise anyone that when the government borrows and spends a whole bunch of money, GDP tends to rise. A large portion of the gain was due to one of the dumbest economic policies to ever be enacted by any Congress and that is saying quite a lot. Cash for clunkers certainly had an impact; motor vehicles and parts represented over half the gain in consumption. The other program vying for dumbest economic program in history - the tax credit for first time home buyers - also had a predictable impact. Residential investment rose by 23.4%.
The rise in GDP was fueled primarily by three factors: auto sales, residential housing investment and federal government spending. In other words, it was composed of the same elements that produced the robust economic growth of much of this decade (he said in a sarcastic tone). Has anything changed? This time last year, the economy was falling off a cliff so I guess that has changed but one can’t help but be reminded of the old Wall Street saying concerning the elasticity of expired felines.
All of the problems that existed with the US economy a year ago still exist today and some are arguably worse. Regulatory reform seems likely to be shaped by the same group that shaped the last round of regulatory reform - the banking industry. Too big to fail is probably more accurately described as employing too many lobbyists to fail or making too many campaign contributions to fail. The US economy is still deeply in debt; in fact debt as a percentage of GDP is actually higher now than a year ago. The private savings rate has risen some but national saving is actually lower due to the rise in the government deficit. Investment is still anemic; non residential private investment fell 2.5% in the third quarter. So no, not much has changed.
The “growth” of the third quarter seems likely to continue into next year as the “stimulus” spending doesn’t peak until mid 2010, but what exactly we’ll do after that is a mystery. Unless there is really no limit to how much the rest of the world is willing to lend us, at some point we’ll need some other variable in the GDP equation to take over for the G component. The other pieces of the puzzle are private consumption, investment and net exports. Unless President Obama has a secret plan to hire a free market economist, the plan seems to be to increase net exports through the magic of dollar devaluation. The beauty of the plan from the administration’s view point is that a lower dollar will raise the price of oil so high that wind and solar power will make sense even without cap and trade. If you’re wondering what we’ll do for energy while the environmentalists tie up the wind farm and solar installations in court, well, join the club. And if we really do change the sign on the trade balance through dollar devaluation, what will happen to inflation? Even now, according to my reading of the GDP price indices, import prices are rising at a rambunctious 10% annual rate. That doesn’t sound like deflation to me, but I’m just an old fashioned guy who believes inflation is best defined by the value of the dollar measured against something real.
So, yeah, I guess the recession is over, but I’m not exactly excited about our future prospects. There doesn’t seem to be any kind of plan to encourage private investment beyond propping up the housing and auto sectors. The neglect of the dollar will not produce any better results for President Obama than it did for President Bush. Government spending that gives us a statistical bounce in GDP is not a long term plan. It’s just a rest stop on the road to lower growth and higher inflation. We aren’t there yet.
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Weekly Economic and Markets review
I already spent 800 words talking about the GDP report so I won’t rehash that, but there were a few other reports last week. The Case Shiller index of home prices rose for the third straight month and most seem to think that’s good news. I’ll just say that hoping for the price of housing to rise seems a pretty weak and frankly counterproductive economic growth strategy. Wouldn’t it make more sense to keep the price of housing low and invest in more productive things? Just a thought. Durable goods orders rose and that’s good news. Non defense capital goods ex aircraft (a good proxy for capital spending) rose 2%. New home sales were a disappointment, falling 3.6%. There’s probably some tax credit anxiety effect at work there, but the Senate will vote on an extension next week so have no fear, the politicians are here. Inventories are down to 7.5 months so the market is nearing “normal” assuming sales don’t fall off a cliff. Jobless claims fell by a mere 1000 on the week and remain stubbornly above the 500,000 level. Personal income and spending numbers were released on Friday and showed stagnant incomes along with a 0.5% drop in spending. Not exactly robust. Finally, a report that absolutely no one seemed to notice, the Chicago Purchasing managers index rose to 54.2, much better than expected. We seem to be at a point where the bad news gets highlighted and the good news is ignored.
Stocks sold off last week with the S&P 500 falling 4%. It appears the pessimists have gained the upper hand for now, but I don’t expect it to last too much longer. The sentiment has shifted markedly in just the last couple of weeks; bears now again outnumber the bulls in the weekly AAII poll. The VIX rose over 30 which historically isn’t far from levels associated with bottoms. The exception of course is last fall when it peaked at much higher levels, but that was an abnormal time. The dollar rallied some last week but also doesn’t appear to be starting a new trend. Commodities generally fell back with the dollar rally. I don’t see the current counter trend moves as anything other than corrections of ongoing trends.
Selected charts
The dollar came off the mat last week, but the trend is still down:
Gold performed surprisingly well considering the dollar rally:
Stocks are correcting, but support is near. The S&P should hold 1020 but if not 980 is further support:
VXX is nearing resistance. If you bought it last week as a hedge, consider taking profits:
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