Retail Sales Rising Again

Popular Economics Weekly

Calculated Risk

Retail sales were strong in August from motor vehicle sales, mainly. On a monthly basis, retail sales increased 0.4 percent from July to August (seasonally adjusted), and sales were up 4.1 percent from August 2018, but there was no gain if auto sales are excluded.

We can say this is good news for maintaining some economic growth this year with manufacturing declining and no end in sight for the trade wars.  But how long can consumers flush with cash from rising incomes continue to spend? 

The retail sails boost comes from falling interest rates, as the Fed is scheduled to drop their overnight rate 0.25 percent for a second time this year. It controls the rate on most consumer loans. But should interest rates be pushed down further to keep consumers in the game that are the sole engine of growth these days?

Avi Tiomkin in a very prescient Barron’s article, believes interest rates should be rising and governments spending more, if we want to prevent another Great Recession.

“The primary cause of the deflationary process of the past decade is expansionary monetary policy and ultralow (and negative) interest rates,” he said. “In modern times, monetary policy has been the main instrument used to fight recessions, including the Great Recession that followed the financial crisis of 2008. Central banks lowered rates and infused capital into the markets, but this strategy has exhausted its usefulness and should no longer be applied.”

The result has been near-zero or negative interest rates that exist in many EU countries and Japan, which not only fail to contribute to healthy economic activity but are also causing “omnipresent damages,” said Tiomkin.

The EU and Japan are examples of what happens when interest rates turn negative as their populations age and spend less. This suppresses the overall demand for goods and services. Seniors spend less and save more because of their static savings/pensions when they retire. Lower interest rates lower incomes, in their case, causing them to save more to maintain their income level.

Another way to describe “the deflationary process of the past decade” is the austerity policies initiated after the Great Recession that cut government spending across the board while cutting taxes. It ended up benefitting the one percent, but no one else.

In fact, it led to a second mini-recession in the EU, whereas the U.S. dodged a second recession bullet with the ARRA—The American Reconstruction and Recovery Act of 2010 that momentarily boosted growth with an initial $787 billion put into economic growth that kept many states solvent and boosted infrastructure spending.

But not in the EU, as Germany and the Nordic countries cut back on their spending while penalizing Greece and other heavily-indebted southern EU members for their spending excesses.  So Europe became infected with “austerity mania” rather than formulating a modern Marshall Plan to speed a recovery because of what Nobel economist Paul Krugman described as the “confidence fairy” at the time.

In 2011, the Nobel laureate economist Paul Krugman characterised conservative discourse on budget deficits in terms of “bond vigilantes” and the “confidence fairy.” Unless governments cut their deficits, the bond vigilantes will put the screws to them by forcing up interest rates. But if they do cut, the “confidence fairy” will reward them by stimulating private spending more than the cuts depress it.

However, “Econ 101 said that slashing spending in a depressed economy was a terrible idea,” said Krugman.

Following several years and nearly four trillion euros ($4.4 trillion) of monetary expansion, and negative interest rates, Europe now finds itself on the verge of a recession and a potential political crisis, says Tiomkin. “Persistent deflation, economic weakness, and inequality fomented by a low-rate regime invariably lead to political and social extremism.”

To stem and reverse these trends, governments, led by the U.S., the European Union, and the United Kingdom, must increase spending aggressively in the next few years to spur growth, directing outlays to infrastructure and public services, defense, domestic security, and more.

This prescription for our aging economics has been recommended by other economic giants such as former Harvard President Larry Summers, and Nobelist Joe Stiglitz, who have been lamented the stagnated thinking prevailing among current policymakers.

Old and supposedly sacrosanct budget-deficit ratios—limiting budget deficits to 3% of gross domestic product, for instance—must be ignored, said Tiomkin. They are archaic and detrimental in light of today’s reality.

It took such government programs to recover from the Great Depression and World War II. How else should we behave after the Greatest Recession, since the Great Depression?

Even consumers have limits on what they can spend to keep this recovery alive.

Harlan Green © 2019

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