The Marta Report September 6, 2010
We'll be lucky to merely brush by another recession
Much like Hurricane Earl did with New Jersey and New York City, the data published last week suggest that we might just merely brush by another recession. The developments last week were sufficiently mixed to dissuade markets from the notion that the economy is going down in flames, although the data remain weak enough to underscore the characterization of the trajectory by Pimco's El-Erian as the "new normal" and keep the probability of tipping into another recession by yearend in our minds at a worrisome 40-50%.
As to the consumer, on the positive side, spending in Jul rose more than expected, 0.4%, a welcome increase in a time series that has been trending lower since late-'09. Furthermore, consumer confidence for Aug managed a stronger-than-expected increase, keeping the modest uptrend in place. However, confidence remains "recessed" at a level that but for the past two years, marks a low since 1992. Worse, even though spending increased more than expected during Jul, personal income rose a tepid - and less-than-expected - 0.2%. The payrolls figure also beat expectations and fed into a "not so dire" mood in markets. Private payrolls rose more than expected by 67K (consensus 40K), although this still lies far below the roughly 150K jobs necessary to be created each month into to simply absorb new entrants into the workforce.
In terms of capital purchases by consumers, the data remained mixed. Pending home sales did manage to bounce, 5.2%m/m, far exceeding the -1.0% forecast, but the gain hardly made a dent in the catastrophic 29.9% collapse during May, and the index of sales stands, but for the past two months, at a record low. Auto sales, expected to have fallen during Aug, still managed to disappoint, with overall sales falling to 11.46m and domestic sales dropping to 8.66m. The time series for total sales appears to be stabilizing at a pace that, but for the past two years, would mark a low since 1991, and the series for domestic sales looks ominously as if it is trending lower. Moving back the production chain, factory orders rose only 0.1%, making up only a fraction of the 0.6% decline in Jun, and construction spending fell more than expected - and from a downwardly revised prior -0.8%.
Unfortunately, the activity indexes proved predominantly weaker than expectations. Markets took heart in the strong manufacturing ISM, which unexpectedly rose from 55.5 to 56.3, suggesting to many that the manufacturing recovery is not going to devolve into a contraction. The problem with the manufacturing indexes' strength is that it is inconsistent with the other indicators. The weekly leading indicators index fell 10.10%y/y, and the manufacturing ISM stands more than two standard deviations above where the leading indicators index says it should be. Perhaps this gap has opened because of the last gasp of inventory restocking occurring in the US and a rise in prices due more to dollar weakness than actual demand. Regional surveys from the Dallas Fed and Chicago also showed significant moderations. Finally, the services ISM fell more than expected, to 51.5, a low since January, suggestive of a sharp moderation in the economic recovery, and consistent with the decline in the leading indicators.
The FOMC minutes from the Aug 10 meeting indicate that even back then, the Fed was observing and sensitive to a moderating pace, and in some cases, an outright stall, in economic activity. The minutes noted only modest gains in consumer activity, little change in industrial production, and an outright drop in housing activity. The FOMC saw reinvesting its MBS cashflows back into Treasuries as a way to signal steady policy and eliminate a de facto tightening of credit through the drawing down of its balance sheet. The minutes also provided an indication that the Fed could restart and ramp up its quantitative easing efforts, although no threshold for such a move was provided.
A recession is arguably avoidable, despite the warnings being issued by the leading indicators. Much focus for avoiding recession has been placed on the Fed, but the Fed at this point is really only considering options that merely push on the string of monetary policy. Easy money and low interest rates aren't helping shell-shocked consumers and small businesses. Instead of the Fed, whether the US economy continues to recover depends on the actions of our elected political leaders.
Up until now, the Administration and Congress have acted in the same manner as the captain of the Titanic. Just as the captain took little heed of the iceberg fields and focused instead on speed, US leaders have focused on the speed with which they could remake the landscape of the US. With particular respect of the US economy, the political leaders have focused on pushing through healthcare entitlements and bullying business despite the known and ongoing threats to the economic health of the US economy. Just as the Titanic's captain, realizing that he had imperiled the Titanic by ignoring the threats to the ship, tried to turn the great ship and avoid a catastrophic collision, US leaders are now focusing on job creation and investment stimulus for businesses. On Friday, Obama announced that he wanted to extend the Bush tax cuts for the middle class (remember that only 50% of Americans pay taxes), support investment in sectors that will help employment, advance a small business jobs bill, eliminate capital gains on key investments, and provide $55bn in tax cuts for businesses that make investments to create jobs. Leaders still seek to saddle profitable small business owners with higher income taxes and businesses more generally with a still unquantified burden for healthcare costs, and this suggests they are not and/or do not believe they need to be fully committed to avoiding another recession. Whether the effort provided proves enough to steer the economy wide of a recession remains in doubt.
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