Happy days are here again, so let’s break out the party hats and balloons. One might be so inclined if they happened to see the National Bureau of Economic Research’s report last week that said the recession has been over for more than a year now. Most Americans seemed to have missed their party invitations however, maybe because they were standing in line waiting for an unemployment check. So do these claims of recovery stand up to scrutiny or is this just another example of redefining economic misery out of existence? By now euphemisms such as the “new normal” or “jobless recovery” are common place in the current economic lexicon. These new terms for a dismal economy serve but one purpose, to keep the political class in power despite a condition that should be unacceptable to voters. Redefining what is acceptable makes our bitter pill much easier to swallow if we are all resigned to the fact that there is no changing the current state of affairs. Why devote any time trying to understand or change something that is normal and expected? If it’s not broken, don’t fix it appears to be the underlying message. However, the numbers and trends that have emerged in this economic recovery are anything but normal (see previous post here for a quick refresher).
Some of the metrics touted by the NBER seem fairly impressive on the surface and look like a reason for the punch bowl and streamers, while other numbers are simply dismissed. A classic example of this would be durable goods statistics. Durable good orders are down again for the month of August. The reason is quite simple. Consumers are having more and more of their personal income going to staple necessities. The average American consumer is still reluctant to debt finance conspicuous consumption of larger ticket durable goods. Unfortunately, there is less disposable income to go to discretionary spending these days due largely to the 8 million plus people still out of a job since the beginning of this crisis which is now in its 3rd year. In an economy so largely built the ability of the consumer to afford to buy (or willing to finance) items other than food and energy, people need job and income growth, neither which are occurring. Perhaps this is why Warren Buffet scoffed at the notion of the recession being over? Actually Mr. Buffet may just be listening to the Federal Reserve and the bond market to make the determination that the “Great Recession” (another euphemism) is still in full swing.
There were many weasel words in the NBER report, but the most evident may be simply the claim that we are in recovery because we have not gotten any lower since June of 2009. There used to be another term for this, stagnation. To the NBER, June 2009 was the bottom. Because June 2009 was a bottom, everything else must be a recovery, no matter how anemic or unsustainable. I personally am not a “double-dipper” mainly because it is hard to have a second dip when still in the midst of the first one. Having a double dip gives the connotation that a return to normality was achieved after the first bust; clearly this is only the case if you buy into the newspeak of the Administration’s establishment economists. Another instance of weasel wording comes in the form of the assurances from the Federal Reserve that any additional accommodation the economy needs to sustain itself will be provided. A basic understanding of the English language should tell a reader that the Fed’s stance has to mean there is no recovery. During a recession, no matter how incorrect the policies may be at addressing the true underlying conditions of the boom-bust cycle, governments use stimulus to help an economy recover. In a depression, governments (and their central banks) use stimulus, or “accommodation” to keep the economy afloat. A recovered economy has no need for continued manipulation and support from the central bank. A thirsty man will need water; a perfectly hydrated man does not. According to our economic stewards, our economy is hydrated yet in need of additional water.
Another red flag screaming “look at me” is the bond market. Most people fail to realize that the bond market is nearly twice the size of the stock market yet the only thing people wish to focus on is nominal increases in the Dow. Sure, this thinly traded stock market and the program trading robots behind the scenes have been operating in a trading range of about 9,800 – 10,800 for a few months now and this is much better than 6,600 or 8,000. The Dow has also had a nice few weeks adding to the elation, however the bond market is telling us there is nothing for which to base this increase in the price of the Dow. Take for example the recent Microsoft corporate bond sale of a 3 year bond at a whopping .93%. This was a significant signal because that .93% is the lowest yielding corporate bond ever publically sold. Despite this historically low rate of return, there was no shortage of buyers. Investors are seeing a .93% return on a bond as a superior investment to over-inflated equities that have no fundamental backing. To stimulate the economy, the Federal Reserve is not buying stocks, it is buying bonds.
Why are stocks still rising if the bond market is painting a totally different picture than the Administration or the NBER? The answer is really no different now than it was last year at this time when the Dow recovery was six months past the March 2009 lows. 50% of American corporate earnings now come from outside of the U.S. This leads to a huge disconnect between Wall Street and Main Street. Corporate profit margins (and thereby stock prices) may be increasing, yet for all the wrong reasons. The main cause for increases in profitability is still downsizing, cost cutting and layoffs. Let us look for instance at first time unemployment claims at the start of this year, which were hovering around 450,000 per week. At the beginning of September 2010 that number is a little higher at around 465,000. Corporations are still cutting and there has been no marked improvement in the labor market. One can only trim so much fat, at some point this revenue model will hit a wall. At some point the Administration must certainly realize that having engineers working at McDonald’s part time is not job creation. Aditionally, if we look at the S&P we notice that most of the gains here have been in the financial services industry. The reason for the imaginary profits in this segment can be traced directly to the fraudulent accounting practices that are now allowed after ending mark to market. Essentially, the financial services industry was allowed to arbitrarily value their toxic assets based upon criteria unbeknownst to most investors. No longer is the sale price of an asset its market value, it is whatever the “Too Big to Fails” want their asset values to be. The allowance of fraudulent accounting as it pertains to collateralized debt in the financial services industry makes me wonder why we have a Sarbanes-Oxley Act? Isn’t phony accounting bad for investors? I suppose not as long as it is done by the properly connected financial firms. Our financial oligarchs always know better. They only conceal because they care about your money. That may be true in one sense. They care about relieving you of the burden of having any money.
Circling back around to the DJIA, it has risen about 5% year to date. If we look a little closer at this increase in the Dow we notice that 40% of this increase is in just one company, Caterpillar. Once again, most of Caterpillar’s revenue growth is occurring outside of the country as well. Perhaps the only positive news is the fact that this economic crisis has forced corporations to become cash abundant. Access to cash and capital is not the problem the administration or Federal Reserve paints it to be. Corporations and small businesses alike have shunned the bankers and refuse to be dependent on their credit to run their operations how they choose. In this sense, American businesses are in a pretty decent cash position; however this has come at a tremendous tradeoff. Being awash in cash has come at the expense of many people’s jobs. There is no reason to believe this is going to change any time soon or that there will soon be an incentive to hire amid all this government created uncertainty.
One final piece of data which the conventional wisdom has declared to be a leading indicator is new home starts. 550,000 new starts sound like a good number and signs that the construction industry and housing is rebounding. This is only half the picture. The other half that is not discussed from the economic punditry is out of those housing starts, how many are sold? After all the point of production is not to endlessly build inventory only to have it sit there with it’s associated carrying cost, it is to sell what you produce. Only around 60% of those new homes are being sold per month, or about 350,000 out of the 550,000. All of this excess inventory is having an adverse effect on home prices, which are still in decline nationally. Since much of the opulence of the recovery after the DotCom / 9-11 market crash was due to increasing home prices and consumption leveraged against home equity, this should be an ominous sign that all the cards have been played and there is little the central planners can do at this point to reinflate another bubble. The recovery from the crashes of 2000-2001 was anywhere from 46 to 51 months depending on what statistics you reference. Despite the excessive stimulus in the form of historically low interest rates, false credit and government spending, there was not a sustain snap back from the 2000-2001 crash. The S&P is lower now than it was ten years ago and the Dow is roughly at the same nominal levels (although measuring the Dow in gold shows a complete market collapse coupled with a 30% depreciation in the value of the U.S. dollar). The last decade of government stimulus has nearly the same characteristics of Japan’s lost two decades. So far, we have only lost one decade, yet if the government stewards of the economy choose a continued interventionist approach; prepare to keep your party hats and balloons in the closet for a while longer.