What Inflation?

Financial FAQs

We have seen this before during past budget battles. How much spending is necessary to create future economic growth and more jobs, without higher inflation? This is important because the amount of inflation will probably determine how long the Federal Reserve’s current easy credit policy can continue without creating too much future inflation.

So is inflation rising or falling? Is it a danger, or is inflation necessary for growth? This is what the whole deficit-debt debate is really about. How much inflation hurts economic growth by eroding spending power (and the value of debt), vs. how much inflation is needed for companies to raise their prices, hence profits.

Graph: WSJ Marketwatch

The Federal Reserve prefers the Personal Consumption Expenditure inflation index, because it measures the widest basket of goods and services purchased by consumers when the Commerce Department calculates the total amount of their personal expenditures.

And it has been less than 2 percent for more than one year. Why? Because consumers cannot afford to spend more when household incomes have barely kept up with inflation. Wages and salaries have become stagnant, in other words, as household earning power has eroded. And since consumers power 70 percent of economic activity, their spending power is the main determinate of overall prices.

Graph: Econoday

But what about raw material costs, such as for oil? Those costs are also dependent on the demand for the finished products they make, whether it is gasoline or animal feed, or plastics, hence also largely dependant on consumer demand.

The inflation debate is really about Federal Reserve policy for the moment. The Fed has said that as long as inflation remains moderate, then it can keep interest rates at record lows. It in turn increases the demand for loans, since cheap money encourages borrowing, and borrowing encourages both spending and investment.

This has boosted vehicle sales, in particular, and brought back Detroit’s Big Three. Motor vehicle sales have been very strong the last four months, above a 15 million annual unit rate compared to low 14 million rates through much of last year.

Graph: Econoday

So we don’t have to worry much about inflation, or the Fed tightening credit too soon at at the moment. This is why they have focused on the unemployment rate being 6.5 percent or lower before tightening begins. Another correlation of higher inflation has been with full employment, and historical unemployment fell to between 4 to 5 percent before that happened.

In fact, past administrations have tolerated up to 8 percent inflation rates in order to bring back full employment.  Today,  5-6 percent could probably be tolerated without much damage to consumers’ spending power.  And it should be tolerated, if that gets US back to full employment.

Harlan Green © 2013

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Consumers Are Doing Fine

Financial FAQs

Consumers seem to be doing fine, in spite of their worries about jobs in the latest University of Michigan sentiment survey, the economy and budget deficits (their own more than governments’). June average hourly earnings improved to a 0.3 percent boost from 0.2 percent in May, in the latest unemployment report.  And two leading indicators for hiring were up.  First, the average workweek edged up to 34.5 hours from 34.4 in May.  Second, temp worker hirings were up 25,000 after a 19,000 boost in May.  This should presage more job creation in the fall.

Graph: Calculated Risk

Even though job creation was sluggish in June so that the unemployment rate didn’t change at 8.2 percent, there are some positive signs for manufacturing and personal income. Strength was in the goods-producing sector. Employment in this sector rebounded 13,000 after a 21,000 decline in May.  Manufacturing increased 11,000 after a 9,000 rise in May.  Construction posted a modest 2,000 gain after dropping 35,000 the month before.

Either consumers are little more optimistic about the economy than they admit in confidence surveys or cars are getting too old and need replacing or some of both.  Regardless, demand picked back up in this portion of the consumer sector in June.

Graph: Econoday

Unit new motor vehicle sales rebounded 2.2 percent to a 14.1 million annual rate from May's rate of 13.8 million.  Strength was in domestic cars which jumped 5.5 percent and in domestic light trucks, up 3.6 percent, for combined domestic units of 11.1 million annualized versus 10.6 million in May.

So personal expenditures are still increasing, up almost 2 percent, which is why Gross Domestic Growth is also up 1.9 percent this year to date. It means consumers are still cautious, as not enough jobs are yet being created.

Lastly, the surest sign of consumer health is the Federal Reserve’s monthly Consumer Credit report, which totals all consumer borrowing. Borrowing is up a whopping 8 percent in May, most of it revolving, credit card debt. This is the highest total since 2007, before the Great Recession, and double recent borrowing, which means consumers are feeling confident enough to actually increase their spending. Consumer borrowing had averaged 4 to 5 percent increases since 2007.

We will have more to report on industrial production, retail and housing sales next week. They may show that although the economy has slowed during the summer months, growth should pick up in the fall.

Harlan Green © 2012

Employment Report Means Holiday Cheers!

Popular Economics Weekly

Not only were the employment numbers for the past 3 months much higher than originally estimated, but job openings are growing. All we need now is for consumers’ credit conditions to ease to bring back their confidence.

Much of the pessimism and predictions of a second recession were based on faulty data, and that has caused lenders to pull back. For instance, instead of 0 job growth in August that scared the markets, more than 104,000 jobs were created after ‘revisions’ to the seasonal adjustments that we have discussed in past columns. In fact, payroll jobs in October posted a gain of 80,000 after rising a revised 158,000 in September (originally 103,000).  So revisions for August and September were up net 102,000.

In fact, consumers are spending for the holidays as if the Great Recession is finally over, in spite of still uncertain income and credit conditions. The caveat: It took 23 months for consumption per person to return to its pre-recession level in earlier recessions. At 42 months, personal consumption has not yet returned to 2007 pre-recession levels, though some of that consumption was fueled by the housing bubble and may not be desirable, says Kevin Lansing of the San Francisco Federal Reserve.

Graph: Calculated Risk

Firstly, the number of job openings in September was 3.4 million, up from 3.1 million in August. Although the number of job openings remained below the 4.4 million openings when the recession began in December 2007, the level in September was 1.2 million higher than in July 2009 (the most recent trough for the series). The number of job openings has increased 38 percent since the end of the recession in June 2009, which tells us growth is picking up. We should therefore see 3 percent plus GDP growth for the rest of this year, at least, contrary to the Federal Reserve’s downwardly revised forecasts.

The consensus expected unemployment to be stuck at 9.1 percent instead of dropping to 9 percent in the Labor Department’s October household report, which tracks self-employeds as well.  The unemployment rate declined largely on a sizeable 277,000 boost in household employment which has posted significant increases for three months in a row.  The increases in August and September were 331,000 and 398,000, respectively.

And there is additional favorable news in the household survey.  Part-time employment for economic reasons is down and the duration of unemployment declined in October.  In nonagricultural industries, the number of those employed part time instead of full time for economic reasons dropped 328,000, says Econoday.

By downgrading its growth estimates, the Fed is leaving the door open for additional ease with the emphasis on significant downside risks remaining. For real GDP, the central tendency forecast for 2011 is now a 1.6 to 1.7 percent versus the prior range of 2.7 to 2.9 percent.  The large downgrade likely is due to a large downside miss to second quarter growth.  (But we believe growth will also be upgraded in coming months.) For 2012, forecast growth is 2.5 to 2.9 percent versus June’s 3.3 to 3.7 percent.   For 2013, forecast growth is 3.0 to 3.5 percent versus June’s 3.5 to 4.2 percent.   The Fed doesn’t see sustained growth until 2014—a range of 3.0 percent to 3.9 percent.

And early data for October on actual purchases by consumers indicate that this sector is doing better than suggested by surveys on the consumer mood, as we said.  Thanks to the one area where credit is easing, unit new motor vehicle sales rose 1.2 percent in October after surging 8.0 percent the month before. October’s sales pace was 13.3 million units annualized, compared to 13.1 million in September.

The bottom line is that credit is still being tightened in most areas, according to the Federal Reserve’s October 2011 Senior Loan Officer Opinion Survey on Bank Lending Practices. Fewer domestic banks eased standards and terms on commercial and industrial (C&I) loans over the third quarter compared with recent quarters, particularly on loans to large and middle-market firms, said the survey. And all of the domestic and foreign respondents that reported having tightened standards or terms on C&I loans cited a less favorable or more uncertain economic outlook as a reason for the tightening.

And so consumers will have to be patient, if they want to see credit standards easing for such as home loans. We hope the HARP II loan modification program that allows lowered payments and shortened payoff terms Fannie Mae and Freddie Mac-owned mortgages, though no principal reduction, will spur refinances and thus many to move out of their homes to find new jobs to be helpful.

The bottom line is that consumers are borrowing again, but for longer term purchases and still reducing their credit card debt, in part because banks are still restricting credit card use. Consumer credit expanded $7.4 billion in September benefiting once again from strength in nonrevolving credit, said the Federal Reserve’s latest Consumer Credit report. So-called installment loans outstanding, reflecting strong vehicle sales, rose $8.0 billion in the month to $1.66 trillion. This offsets another contraction in revolving credit, down $0.6 billion to $789.6 billion outstanding.

Harlan Green © 2011

Consumers Are Spending Again!

Popular Economics Weekly

A little noted Federal Reserve report on consumer debt just pulled a big surprise. Consumers are borrowing on their credit cards again. Though personal consumption contracted in June, you'd never know it from consumer credit data, which show a $15.5 billion surge for the largest gain in more than four years. This is in part because auto sales are surging again, as well as back to school sales.

The gain is led by a $10.3 billion surge for non-revolving credit, less of a surprise given June's strength in motor vehicle sales, says Econoday. But the best news may be revolving credit which rose $5.2 billion for a second straight solid gain.

Are consumers really beginning to spend again? If so, look for higher GDP growth ahead, in spite of the S&P downgrade of federal government debt to AA+ from AAA, the first time that has happened to the U.S. It is too early to know if the downgrade of Treasury securities will have an effect on interest rates, or even be on the radar of ordinary consumers.

This is important because the personal consumption expenditures (i.e., consumer spending) has not yet recovered from the recession. Last Friday, the BEA released revisions for GDP that showed the recession was significantly worse than originally estimated, mostly because consumers had cut back. And Personal Income less Transfer Payments is one of four indicators the National Bureau of Economic Research (NBER) uses in business cycle dating to determine recessions, as we have said.

Here is Calculated Risk’s graph on the historical fluctuations in personal income that happens during recessions (blue streaks). Prior to the revisions, the BEA reported this measure was off close to 7 percent from the previous peak at the trough of the recession. With the revisions, this measure was off almost 11 percent at the trough - a significant downward revision and shows the recession was much worse than originally thought.

But the graph also shows that it is now less than 5.1 percent below its prior peak. Combined with a rise to 5.4 percent in the personal savings rate in July, this is another sign that consumers are regaining their financial health.

And motor vehicle sales soared in July. Unit sales show a big monthly gain, up nearly six percent vs June to a 12.2 million annual rate. The gain points to relief for the motor vehicle component of the retail sales report which has posted four straight declines in the aftermath of the March earthquake and tsunami that disrupted the Japanese supply chain.

And finally, jobs are returning to the private sector as the Bureau of Labor Statistics (BLS) reported 117,000 non-farm payroll jobs created, with the unemployment rate dropping back to 9.1 percent, and a good jump in average hourly wages, also a big improvement from last month’s jobs report.

The U.S. economy added an even larger 154,000 in the private sector, though partly because 193,000 people dropped out of the labor force, according to the latest government data. Job gains in May and June were also revised up by a combined 56,000, the Labor Department reported last Friday. Even better news was that average hourly wages rose 10 cents to $23.13, though the workweek was unchanged at 34.3 hours.

We can hope that with the debt ceiling crisis now on the back burner until 2012, the focus will return to job creation. There are lots of ways to create jobs in the private sector, which includes the return of some 70,000 private industry construction workers after temporary resolution of the FAA funding cutoff. Does it matter who pays them in times like these?

Harlan Green © 2011

What Will Bring Back Jobs?

Popular Economics Weekly

What policies that will do most to bring back jobs is being sidelined by the budget debate. Everyone agrees boosting aggregate demand; the sum of consumer spending, foreign and domestic investment, exports and government stimulus—is the way to create jobs. The argument is over whether the private or public sectors are better at it.

That shouldn’t be the debate. Given this is the worst downturn since the Great Depression, all stimulus cylinders must be firing. That increases both corporate profits—though already at record levels—and the revenues needed to pay down debt.

Here is why. As Calculated Risk reported recently, there are currently 130.738 million payroll jobs in the U.S. (as of March 2011). There were 130.781 million payroll jobs in January 2000. So there was no increase in total payroll jobs in over eleven years. Only in January 2010 did the number of ‘Hires’ and ‘Job openings’ again begin to rise above the number of ‘Layoffs’, according to the Labor Department’s latest Job Openings and Labor Turnover (JOLTs) survey.

And the median household income in constant dollars was $49,777 in 2009. That is barely above the $49,309 in 1997, and below the $51,100 in 1998. “Just a reminder that many Americans have been struggling for a decade or more. The aughts were a lost decade for most Americans,” said Econoday.

What are the 80 percent of consumers who are fully employed buying? Mostly durable goods, like cars. Manufacturing is leading us out of the recession, in part because of the weak dollar that has goosed exports. Econoday tells us over the past 12 months industrial production has been strong with a 5.9 percent gain and with manufacturing up a notable 6.6 percent.   Manufacturing has been led by durables (up 11.3 percent) with motor vehicles being particularly robust (up 16.3 percent).

So we are in bit of a Catch-22 situation. The weak dollar exchange rate is also worrying deficit hawks, since they believe it endangers foreign investors (mostly the Chinese and Japanese) from investing their excess dollars in the U.S., maybe causing interest rates to rise abruptly. Standard & Poor’s rating agency has put the U.S. on what is essentially a credit watch, saying it didn’t believe Democrats and Republicans would be able to agree on how to reduce the deficit by election year 2012.

Yet the only thing that does reduce budget deficits is growth. Great Britain has proved that with its conservative government that was elected on a drastic spending cut platform. The result is their economic growth has slowed drastically.

The New York Times reported on first year results of Britain’s austerity program in a recent article. “…one year into its own controversial austerity program to plug a gaping fiscal hole, the future is now. And for the moment, the early returns are less than promising,” said the NYTimes. “Retail sales plunged 3.5 percent in March, the sharpest monthly downturn in Britain in 15 years. And a new report by the Center for Economic and Business Research, an independent research group based here, forecasts that real household income will fall by 2 percent this year. That would make Britain’s income squeeze the worst for two consecutive years since the 1930s.” So many British economists now believe they are in danger of a double-dip recession.

This has to be a case of ignorance not being a blissful state. President Roosevelt attempted to balance the budget in 1937 after 4 years of recovery from the first Depression, but it plunged the U.S. into its second Depression, which wasn’t cured until WWII increased government spending (and borrowing) to the tune of 120 percent of GDP. It was only surging post-war growth of the 50s and 60s that brought debt down to 40 percent of GDP where it essentially remained until 1980, when President Reagan and the Republicans again attempted to balance the budget on the back of drastic tax cuts, lowering the top income tax bracket to 39 percent from 48 percent. This resulted in two back-to-back recessions in 1982-83.

So, when one side of the budget debate takes tax increases but not tax cuts off the table, there are two results. Tax cuts only provide limited stimulus, as the Bush tax cuts proved—they increased the deficits from essentially $0 in 2000 to more the $2 trillion in 2008, in spite of low unemployment and inflation. A failure to pay down the budget deficit and invest in needed infrastructure, education and research projects that increase productivity, damages both our economic growth and competitive position in the world.

“Every U.S. policymaker should therefore wake up every morning and remind themselves of the following,” says Econoday.  “There are currently 7.25 million fewer payroll jobs than before the recession started in 2007, with 13.5 million Americans currently unemployed. Another 8.4 million are working part time for economic reasons, and about 4 million more workers have left the labor force. Of those unemployed, 6.1 million have been unemployed for six months or more.

But that won’t happen if we continue to squabble over ideologies, rather than focus on how to create more jobs.

Harlan Green © 2011

QE2 Will Stimulate Economic Growth

Popular Economics Weekly

In a bid to stimulate banks to lend more by increasing their reserves, the Federal Reserve announced QE2 (Quantitative Easing 2). It will be buying up to $600 billion in Treasury securities from banks who hold them. We have no doubt this will kick start economic growth for several reasons. Not least, because there are signs of an additional pickup in both investment and hiring among small businesses.

In a New York Times’ column by Gretchen Morgenson, Ian Shepherdson of High Frequency Economics—noted for predicting the housing bust—sees growth increasing in the small business sector that creates the most jobs, because of a pickup in commercial and industrial bank lending.

And as commercial and industrial lending expands, Shepherdson maintains, it will unleash a pent-up demand among smaller companies for capital equipment, software, vehicles and other goods:

“The depression in small business pretty much explains everything in the weakness of this cycle,” he said. “I reckon in the last cycle they accounted for two-thirds of all new job creation. Not only are they big, they are better job-creation engines than big companies, which are more inclined to do their new hiring offshore.”

The deficit hawks maintain this will stimulate inflation down the road, because it puts too much money in circulation. But in fact buying back securities that banks have purchased from the U.S. Treasury doesn’t directly put money in the pockets of the consumers who spend it. It builds up banks’ cash reserves, which enables them to lend to small, as well as large businesses, as we have said.

Fed Chairman Bernanke downplayed the inflation danger in a recent Washington Post Op-ed: “Our earlier use of this policy approach (QE1) had little effect on the amount of currency in circulation or on other broad measures of the money supply, such as bank deposits. Nor did it result in higher inflation. We have made all necessary preparations, and we are confident that we have the tools to unwind these policies at the appropriate time. The Fed is committed to both parts of its dual mandate and will take all measures necessary to keep inflation low and stable, he said.”

The big news was that October private nonfarm payrolls (excluding government jobs) jumped by 159,000, and September was revised upward to 107,000. With wages and hours worked also increasing, it looks like credit is already expanding. In fact, the $30 billion small business credit bill passed recently will also inject additional liquidity into small businesses.

Average hourly earnings gained 0.2 percent in October after rising 0.1 percent in September, while the average workweek for all workers edged up to 34.3 hours from 34.2 hours in October. The workweek has been on a rebound since mid-2009.  Between the gains in temp workers and the average workweek, one should expect a pickup in hiring as these two series typically rise before overall employment.

Service sector activity in October —which accounted for 154,000 of the 157,000 private payroll pickup—followed the manufacturing sector surge. So the bulk of the economy picked up steam in October, according to the ISM's non-manufacturing index which rose 1.1 points in October to 54.3.  This survey of ISM members covers services, construction, mining, agriculture, and forestry.

And lastly, motor vehicles sales continued to surge, as all 3 Detroit automakers reported surging profits, with GM on track to pay back its government bailout with an upcoming IPO. Combined domestic and import nameplate autos and light trucks (includes minivans, vans, and SUVs) jumped 4.2 percent to an annualized pace of 12.3 million units. While still below the cash for clunkers recent peak of 14.2 million in August 2009, the October number represents nearly steady growth from the recession low.

Deficit hawks tend to forget that some inflation is necessary for an economy to grow. The Japanese deflationary experience is crucial to understanding this. That is why the Fed is still in effect easing credit conditions by adding to bank reserves. And why small businesses should be the biggest beneficiaries of QE2.

Harlan Green © 2010

Consumers Push Third Quarter Economic Growth

Popular Economics Weekly

The Great Recession was officially over in June 2009, and we now know there won’t be a ‘double-dip’ recession—since the economy has been growing since then. While the debate rages on how much more to stimulate demand, there is a consensus that the third quarter will show higher growth—more than the final 1.7 percent growth rate estimate of Q2.

Buried in the second quarter statistics was that so-called final demand of domestic purchases rose 4.3 percent, though much of it was from imports. That is the total amount bought by U.S. citizens, and shows consumer spending is recovering. But domestic durable goods and industrial production are also rising, which feeds exports and should boost GDP growth further.

Though new factory orders for durable goods in August dipped 1.3 percent, following a 0.7 percent rebound in July, new orders excluding highly volatile transportation orders gained a large 2.0 percent. This series has risen in three of the last four months and in five of the last seven.

And the consumer made a comeback in August-in both income and spending. Despite sluggish job growth, the combination of modest growth in average hourly earnings, private employment, and steady or firming weekly hours is gradually boosting wages and salaries-at least in the private sector. Personal income in August advanced a healthy 0.5 percent, following a 0.2 percent rise the month before. This report is not stellar but it is welcome news that the consumer sector bounced back and should help support overall economic growth.

And the Fed still has plenty of room to continue with quantitative easing as core inflation is still below the Fed's implicit target range. It was an 18-month recession, as we said last week, the longest in fact since the 1929-33 first Great Depression that lasted 43 months. So Fed policy has to put more money in consumers’ pockets—because the Middle Class lost much of its earning power over the last 3 decades.

There are many reasons for this, as Clinton Labor Secretary Robert Reich catalogues in his new book, “Aftershock”. With wide-open globalization of labor markets, it is more profitable to ship some jobs overseas these days. This benefits CEOs, their shareholders, and the financial institutions who lend and invest in them, but not domestic workers. It is primarily why the investor class of top 1 percent income-earners now earn 23.5 percent of total household income, just like in 1929.

The result is that corporate profits in the second quarter are soaring, up an annualized 3.8 percent, following a 54.1 percent surge the prior quarter. Profits are up 38.7 percent on a year-on-year basis, compared to up 50.8 percent in the first quarter.

The latest personal income report clearly is good news as consumers are seeing income growth-especially in the private sector. And spending continues to be moderately healthy. Thus far, the numbers indicate a strengthening in third quarter GDP from the anemic second quarter pace.

Harlan Green © 2010

Consumers Financial Health Improving

Popular Economics Weekly

Consumers’ financial health continues to improve. They are managing to both save and spend more, in spite of worries about both federal and state deficits. In fact, deficits don’t seem to matter to consumers, at least, as the latest consumer sentiment surveys show consumers’ spirits improving with better job prospects and increasing income.

A little known economic indicator—the Federal Reserve’s monthly report on consumer credit (i.e, outstanding revolving and installment debt, but not mortgages)—shows that consumers are still paying down their credit card debt, but borrowing money for larger loans, like auto and appliances that require a standard monthly payment.

The year-over-year debt to household income measure has fallen from 23.5 to 21.5 percent, while total outstanding credit is still contracting at slightly less then 4 percent per year. Consumer credit rose $1.0 billion in April in a gain far offset by a $7.4 billion downward revision to March which now shows a $5.4 billion contraction. Non-revolving credit, reflecting strong car sales, jumped $9.4 billion in April but was offset by a nearly as large of a fall in revolving credit.

Though retail slowed in May, thanks to a huge drop in building supplies and materials, consumer sentiment rose to 75.5 in the mid-June reading vs. 73.6 at month-end May. The nearly two-point gain is sizable and puts the index at its best level of the year. Gains were posted for both the expectations and current conditions components. Another plus is a definitive fading in inflation expectations, falling an unusually steep 5 tenths in the 12-month outlook to 2.7 percent. Today's report, because of its strength, hints at underlying improvement in the jobs market and should offset the sting from the May retail sales report.

Higher vehicle sales were a pleasant surprise that reinforces strong overall retail sales. Car and truck sales proved very solid in May, at an annual adjusted rate of 11.6 million surpassing April's 11.2 million and ranking alongside March's incentive-driven spike of 11.8 million. Strength was centered in domestic-made trucks which jumped 8.6 percent to a 5.1 million unit pace.

The other pleasant surprise was the continued rise in pending home sales. Already, February and March had spiked with help from last minute buyers wanting to ensure time to close before May 1. But apparently, many buyers decided to push their luck and buy during April in hopes of expedited paperwork by mortgage lenders. Pending home sales extended their surge through April, jumping 6.0 percent, following a 7.1 percent spike in March.  Year-on-year, pending home sales are up 22.4 percent.

Harlan Green © 2010