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We Were Too Optimistic
When government tilts toward redistribution, the growth rate of potential GDP slows down.This hurts job creation.We should have more fully accounted for this in our forecast last year. Some will ask: Then how can you forecast 3% growth in 2012?The answer is relatively simple.1) The Fed is even more accommodative today than it was last year.2) Government spending will be basically flat in 2012 for the third consecutive year.3) Technology continues to advance. These developments mean the tailwinds are stronger at the same time the headwinds are diminishing.
Was the 2011 Economy a Miracle?
Government spending may be falling as a share of GDP, but it is still very high. This limits job creation and holds back real GDP growth from its potential. Excessive regulation does the same.And while an easy Fed boosts growth, it also creates inflation, which will become more of a problem in the years ahead.
Netting all this out, the scale is still tilted toward growth.New US technologies and the productivity that they create are so powerful that they are overwhelming the drag from bad government policies.Compared to forecasts of recession, its a miracle.Look for another one in 2012.
Greedy Innkeeper or Generous Capitalist?
The Bible story of the virgin birth is at the center of much of the holiday cheer at this time of the year. The book of Luke tells us Mary and Joseph traveled to Bethlehem because Caesar Augustus decreed a census should be taken. Mary gave birth after arriving in Bethlehem and placed baby Jesus in a manger because there was no room for them in the inn. Over the centuries, people have come to believe that because Jesus was born in a stable, and not in a hotel room, Mary and Joseph must have been mistreated by a greedy innkeeper.
Obama's 8%: Sounds Right
Given his advisers track record, you would think President Obama would be very cautious when making predictions about the unemployment rate. As we all now know, even though the stimulus bill was fully implemented, the jobless rate kept heading north, peaking at 10.1% in October 2009 and never once falling even remotely close to 8%. Nevertheless, President Obama is doing it again and predicting unemployment will be 8% around Election Day. This time, we think hes right.
Economy Improving, Stocks Cheap
Remember the big fat zero jobs reports back in August? The US was supposedly teetering on the brink of another recession, or maybe depression. Democrats wanted more government spending stimulus. Republicans said President Obama was the equivalent of a zero. With all this negative sentiment, the Dow fell 250 points that day. But something happened on the way to the bank. One month later, that big fat zero was revised up to a +57,000, the next month it was revised up again to +104,000. All that recession talk in early September was highly misleading.
Occupy The Shopping Mall
No one knows exactly what the near future holds for Europe. We still think the odds favor tough austerity programs that reduce the size of government a long-term plus. But more sovereign defaults are entirely possible and problems with European banks have yet to be thoroughly addressed. What we do know is that US consumers are ignoring the experts, appear more confident about their future and want to spend their hard-earned income. Instead of panic, weve seen a lot of joy,on both sides of the cash register.
What's So Special About America
Thanksgiving is about the bounty of this great land, and the plenty that ingenious and hard-working people have been able to create. Other countries have been around longer, but none has been as generous, or had a more positive impact on the world, than America. So, pardon us when we express shock about some recent polling by Pew Research that showed only 38% of Americans believe the United States stands above all other countries in the world. We are stunned by the difference among age groups. Only 27% of people aged 18-29 agreed, while 50% of those over 65 agreed.
Don't Fret the Foreign Stuff
Guess what? Japans real GDP grew at a 6% annual rate in the third quarter, a sharp snapback from the downturn following that awful earthquake and tsunami. Much of the rebound was auto-related, as manufacturers overcame problems with electricity and the supply-chain. While the swings in Japan are more dramatic, US economic data shows the same pattern. Real GDP accelerated in the US to a 2.5% annual growth rate in Q3. If we exclude the large drag from an inventory slowdown, real final sales grew 3.6%.
Time to Raise the "Natural Rate"
We think the jobless rate is headed down in the next few years and think it will decline a bit faster than the Fed believes. But the only way to get it down to 5.6% is to dramatically reduce the size of government or to push so much money into the economy that it artificially pushes unemployment below the natural rate. But that second method can only work for a short period of time. Eventually, a monetary policy loose enough to lower the unemployment rate that much would create a 1970s-style inflation. That would make todays inflation problem look minor in comparison.
What's Going Right?
Everyone knows housing is still weak. And, everyone knows jobs are growing, but not fast enough to seriously lower the unemployment rate (9.1%). Everyone also knows real GDP has expanded for nine consecutive quarters, at an average annual rate of 2.5%. No one is satisfied with this; but it is a recovery, not a recession. So, how can real GDP grow when housing and employment are so weak? Well, it turns out that the strongest part of the economy has been business investment. Equipment and software investment has grown five times faster than GDP-12.9% over the past nine quarters.
The Consumer Is Not Dead
Not a day goes by where we dont hear a talking head say something like, the consumer is weak. A headline from the WSJ was more specific. It said, Spenders Become Savers, Hampering Growth. The WSJ based its theory on some interesting anecdotes, but the authors missed some very basic facts. Organic changes in consumer behavior are not responsible for any lack of rapid economic growth. Instead, the economy would be growing much faster if we had a better set of policies coming from DC the past few years, focusing on restraining the size of government rather than expanding it.
Solid 3.5% Growth in Q3
When real GDP growth barely budged in Q1 (0.4%) and sputtered in Q2 (1.3%), conventional wisdom became convinced that a recession was on its way. Many argued that unless the US stimulated the economy with more spending, temporary Keynesian tax cuts, or another round of quantitative easing, it was in for another recession. With the Fed accommodative, and productivity strong, we never believed the pessimistic narrative. Conventional wisdom has been wrong. With most monthly data in, it looks like real GDP grew at a 3.5% annualized growth rate in the third quarter of 2011.
The Economic Twilight Zone
The pessimists say, we will scare ourselves into recession. And they ask; what about Europe? We dont ignore either of these possibilities. It might be possible to scare ourselves into recession. But true panics are very rare. And Europe could theoretically take us out, but mark-to-market accounting no longer can cause a contagion like it did back in 2008. Some investors say they wont invest until this episode of the Twilight Zone ends. But, the market is cheap and the economy is growing. Accumulating assets, with values so battered down is successful long-term investing.
Forecasts, Confidence and Facts
When fearing recession, investors can rely on three different sets of information forecasts, confidence and facts. These days, forecasts and confidence are both very negative. Recession fears have been on the rise. But, the facts dont back up all these fears. The economy is not contracting. Fear overlooks these facts and fear has driven stock prices to undervalued levels. When the facts win and thats what we expect equity markets will get over the fear and move significantly higher.
A Whiff of Volcker
Equities will soon shrug off last weeks news. The economy is not in a recession and while European problems are a real issue, US banks have plenty of capital to sustain the system in case of further crisis. Despite all the dour language and the volatile market reaction, we like the downward move in gold. What it says is that the Fed will no longer follow a path of policy that seemed to print money with no regard for any historical lessons. As Paul Volcker showed us, tighter money can be in a countys best interest. Gold investors should look out below. But, for equities, this is a good sign.
No Recession, No Panic
Online markets (at Intrade) put the odds of a recession in the next year at 40%. The consensus of economists (in a Wall Street Journal poll) has the odds of recession at one in three. These elevated fears are hitting consumer confidence, creating political pressures and causing volatility in financial markets. We think the actual odds of a recession are much lower than the consensus thinks. We place them at 20%, barely above the 15% that history tells us exists in any year.
The Long Run is Now
President Obama delivered his long-awaited economic address Thursday night and Fridays reaction in equities was a major Bronx cheer. Obviously the news from Greece, with that country teetering on the edge of a default, was also a big negative. But we believe the lions share of the problem is that, once again, a president is proposing policies that are both primarily oriented toward the short-run and unlikely to succeed at lifting the pace of economic growth.
Want Jobs? Have Faith
The private sector created 17,000 new payroll jobs in August and the government lost 17,000. The net was zero. Nadazipzilchnothing. Some would say that this is a perfect metaphor for the economya big fat zero. The stock market is getting drilled, politicians are frothing at the mouth, the Fed is having longer meetings, and investors are scared. So, whats going on? First, let us say that we have been overly optimistic. We expected better growth in jobs and the economy. We have been wrong, but we still dont expect another recession.
Stocks Undervalued by 65%
Market turmoil and a cycle of shrill headlines and worrisome breaking news convinced many to evacuate the equity markets. That was a mistake. The odds of recession are low, but the stock market seems to have priced one in, anyway. We use a capitalized profits model to value stocks, dividing corporate profits by the 10-year Treasury yield. We compare the current level of this index to that from each quarter for the past 60 years to estimate an average fair-value. Not only are 10-year yields low (2.2%), but corporate profits are growing strongly.
Europe, Not a Repeat of 2008
Some are drawing parallels between todays European debt problems and the sub-prime problems of 2008. We dont think European debt problems will cause a recession in the US. However, there are clearly similarities between the two events. Those similarities result from the role of government. Both the 2008 panic and todays European debt crisis result from policy mistakes. In the US politicians of all stripes decided that using subsidies and regulations to boost homeownership was a legitimate goal. All of these policies came together in a perfect storm of over-investment in the early 2000s.
Fed Looking in Wrong Tool Shed
The Fed made history again last week when it specifically committed to near-zero short-term interest rates through at least mid-2013. This commitment was a first for the Fed, and while it can always renege, the bar for doing so is now very high. The Fed also said it had discussed a range of policy tools to strengthen the economy. If theyre the ones the Fed has been leaking to the media, count us as unimpressed. One option would be to launch QE3, modeled after round two that ended in June. Trouble is, other than boosting commodity prices, QE2 had little visible affect on the real economy.
Focus on the Economy
Investors remain on edge and stocks are down about 2% around the world today. Combine last weeks sell-off, the debt ceiling debate, financial instability in Europe, the recent soft patch, and a downgrade by S&P and this fear is understandable. Short-sellers and pessimists are in their glory. And for the umpteenth time, Nouriel Roubini said that a double-dip recession is on its way. We understand the uncertainty. What we dont get is why it's so hard for economists to look at economic data. There was a soft patch but, it is not getting worse. In fact, data has been improving.
US Debt: Moody?s AAA / S&P AA+
If this move by S&P helps the US get more serious about cutting spending, then it will have been a very positive development. If it influences the political environment by pushing the US to a more conservative set of fiscal values it will be even more positive than that. There is a titanic battle of economic and political philosophy taking place in the US today. S&P wants to be a player in this battle, but in the end it will have a relatively minor role.
Dow Down 500, But Fundamentals Still Strong
Major stock market indices are down 4-5% today as investors move into panic mode. There is no single piece of news driving the sell-off; rather the market seems to be gathering downward momentum on its own. Selling is creating more selling. Like 1987, the sell-off does not appear to be driven by fundamental factors. In fact, the fundamentals suggest the market is undervalued and getting more so as it drops. Many investors assume (or wonder) if the sell-off is indicating deep economic problems. However, there is no evidence that this is true.
Hysteria and the Debt Debate
Contrary to popular belief, the debt ceiling has turned into the investors best friend. Professional politicians dont like it, because they dont want to limit their degrees of freedom. But the limit on debt, forces a debate about the size of government before a country gets to the point of no return. In other words, the debt ceiling is a good thing. Moodys has said that the US should get rid of the debt ceiling altogether, but this is backward. Greece never had this debate and spent its way into oblivion. The debt ceiling could very well keep the US from that fate.
Looking Past a Weak Q2
While some economists are reducing their projections for second half growth, we remain confident in a relatively strong rebound from a weak first half. We forecast that real GDP will grow at a 4% to 4.5% average annual rate in Q3 and Q4 2011. Productivity is strong, monetary policy is loose and fiscal policy is getting no worse. Jobless claims are falling again and auto production is set to surge. In addition, with full expensing allowed for tax purposes this year, record levels of both profits and cash will fuel growth in business investment.
Jobs Versus Government
After the very strong ADP employment report on Thursday, many economists marked-up their forecasts for Friday?s official payroll report. We moved ours up 5,000, and went into the report at 140,000 net new private sector jobs. Ouch?the official report showed just 57,000 new private sector jobs and equities immediately headed south. For bulls, this data was a huge disappointment. But employment is a lagging indicator. Other data have already been into, and out of, a ?soft patch.? Moreover, as a forecasting tool, employment data has not always been perfect.
Hasta La Vista, Soft Patch
The big report this week will be on employment for June, to be released early Friday morning. Private sector payrolls only expanded 83,000 in May. But, given the drop in unemployment claims, we think the job market re-accelerated in June. It?s no surprise to us that the Dow has now fully recovered back to where it was when the soft patch started to materialize. Despite the end of QE2, the economy is going to surprise the consensus to the upside. Monetary policy is loose, tax rates are relatively low, and the technological revolution continues.
Inflation Now and Later
The Fed believes with all its heart that inflation only occurs in economies that are producing at or above their potential. As a result, with unemployment above ?normal? and growth below ?trend,? the Fed sees little threat of inflation. As far as the Fed is concerned, any increase in commodity prices is temporary and any increase in the consumer prices due to commodities (like energy) is transitory. We wish we could be as sanguine about inflation as the Fed, but we heard all the same arguments back in the 1970s. The Fed was wrong then, and we think it is making the same mistake(s) today.
Soft Patch Already Fading
The soft patch is nothing more than a temporary and superficial blow to the economy. If it was anything more than Japan?s disasters and the tornado season, the good numbers we?ve been seeing lately ? on lending, tax revenue, trade, hours-worked, ex-auto sales, and commercial building ? wouldn?t be happening.
Is It Really a Soft Patch?
The idea that the soft patch could be due to one-off events, like the tsunami in Japan is bothering quite a few people.A good question came from one of our readers and we thought it was important to post the answer. We remain convinced that the economy will accelerate in the second half of this year. The question: "Id like to believe you when you write"Never mind that much of the slowdown is so obviously tied to temporary Japan-related disruptions in manufacturing and tornado-related dips in home building."But where's the evidence of negatively affecting the U.S. economy and/or GDP?"
Economic Rapture?
Harold Camping predicted the "end of the world" on May 21st. Let?s imagine that the world really did end. Let?s imagine that we?re now living in an artificial world. Ben Bernanke is making the sun rise with monetary policy. Federal spending is generating oxygen and enormous increases in federal debt are making water. Everything seems relatively normal, but it?s all ultimately just a mirage, created by artificial means, and it can't last forever. This is an extreme example, but that's what it seems many believe about the economy today.
The
Not since the early 1980s has such widespread pessimism about the US economy been so prevalent. This pessimism ? fueled by political demagoguery and an overbuilt short-selling industry ? denies and ridicules any upward move in growth or stock prices. Basically, if something moves up, then the pessimists argue that it cannot possibly be ?real.? Even smart analysts, like Robert Arnott, have fallen into the trap of looking at the world in a negative way. Mr. Arnott argues that much of our recent GDP growth is ?unreal,? because it has been driven by government debt.
Don't Sweat
Some recent reports on the economy have been tepid and that?s likely to continue for at least a few more weeks. For example, back in early March the four-week average for initial unemployment claims hit a recovery low of 389,000; now they?re 439,000. Manufacturing production dropped the most in April for any month since the start of the recovery. Meanwhile, for May, we witnessed declines for both the Empire State index and Philly Fed index, which are measures of manufacturing activity in their regions. Both were still in positive territory but not as rapid as earlier this year.
Public Policy Looking Better
We think there are five (5) reasons to be bullish about the US economy. First, monetary policy is loose and likely to remain so. Second, the financial panic is over, thanks to the end of mark-to-market accounting rules. Third, technological advances continue to boost productivity growth. Fourth, our free market economy is incredibly resilient, more so than the pessimists believe. And fifth, the policy environment is improving. Despite what Bernanke might say (that quantitative easing lifted stock prices), we think the return in the S&P 500 has to do with a positive shift in government policy.
Bulls Versus Bears, Again
The big news last week was the execution of Osama bin Laden. It was both the end and the beginning of an era. It provides closure on at least some part of 9/11. However, terrorism is still with us, just with a different face. The same is true for the economy and markets. Last week real GDP was released for the first quarter of 2011 and was up for the seventh consecutive quarter, hitting a new all-time high. Even though unemployment is elevated, US economic output has recovered from the Panic of 2008. Nonetheless, investors remain nervous, even bearish, about the economy and financial markets.
Bernanke and the Teflon Fed
The Fed acts like an academic institution, but it operates in a political environment and it is really good at navigating the landscape. Alan Greenspan (Chairman 1987-2006) was one of the most successful politicians ever to set foot in Washington DC.He never won an election, but was called the ?maestro.?His critics could not scratch his Teflon coating. Lately, he has come under attack for the housing bubble. And even though it is clear that 1% interest rates back in 2004 had a huge role in causing over-investment in housing, the Fed and Greenspan have once again come through unscathed.
The Greatest Speculators
It?s as predictable as birds flying south in the winter. When gas prices rise, politicians (most recently, President Obama), feign outrage and then threaten to ?investigate? the ?speculators.? The irony is that these politicians are the real speculators ? making a bet that they can use government to create wealth. No government in the history of the world has made it work, but they keep on trying ? with other people?s money. In one sense, this is all about economic and financial literacy. Of course there are investors who speculate on energy prices. Thank goodness.
GDP at 2%: Seventh Consecutive Quarter of Growth
Anyone forecasting first quarter real GDP growth with a high degree of confidence needs to have their head examined. On the positive side industrial production grew at a 6.1% annual rate in the first quarter. Manufacturing output was up at a stellar 9.2% rate ? the most rapid increase since 1997. Unemployment claims fell sharply, another sign the economy was growing at a robust rate. Meanwhile, total hours worked in the private sector climbed at a 2% annual rate. Add 2% increases in productivity to that increase in work effort and a 4% growth rate in private sector output is easily reachable.
The Taylor Rule Is Wrong
The working hypothesis of just about every forecaster or Fed-watcher in the world has been that the Fed would not tighten at all until 2012. That meant no interest rate hikes this year. And to avoid putting on any brakes at all, the Fed would even think about QE-III. But this view is now coming under fire, not just from the private sector, but from inside the Fed itself. Stronger gains in employment, along with some relatively hot inflation reports have pushed many regional Fed presidents to make hawkish statements.
The Shorts Get Whipsawed by the VIX
Getting to fair value would require the US equity markets to rise 31% from Friday?s close. That assumes no further gain in profits after Q1. These results are pretty robust. If we stress test for rising rates, the 10-year Treasury yield would need to rise to 6.5%, with no intervening increase in profits for the model to show equities are at fair value already. We stand by the forecast we made at the start of the year that the Dow should hit 14,500 by year-end 2011, while the S&P 500 strikes 1575. In other words, short the shorts ? equities are still cheap. And watch out for the VIX, too.
Japan,
While the news coverage of problems at Japan?s nuclear power plants was sensationalized and misleading, the death toll from the Japanese earthquake and tsunami is horrendous. Moreover, the economic damage to the affected areas is substantial and will require a large re-direction of resources. Japan?s economy will not gain from this shift in resources because the cost of repair only replaces what was lost. That said, after the initial economic blow is fully absorbed, Japan?s economy may accelerate for a time because people change their labor-leisure trade-off.
Fed Pays Lip Service to Better Economy and Higher Inflation
The Federal Reserve made several changes to the language of its statement today, acknowledging an improving economy andhigher overall inflation. However the Fed also made it clear it does not think any of this warrants a change in the stance of monetary policy. The Fed was more bullish on the economy, saying it was on a ?firmer footing? and that the labor market was ?improving gradually.? Previously the Fed had said economic growth was not enough to generate ?improvement? in the market. The Fed recognized faster growth in household spending and finally omitted language concerning restraints
It's A Natural Disaster, Not A Black Swan
At times of natural disaster and personal tragedy, it can be difficult to focus on economics. However, there is an economic component to the Japanese earthquake as there is with any disaster. In Haiti, for example, decades of awful leadership have created deep-seated poverty and corruption, which amplified the size and scope of its recent earthquake. In Kobe (1995), Chile (2010), San Francisco (1989), Katrina (2005), mostly free markets, accumulated wealth and a disdain for corruption helped overcome those disasters relatively quickly. In Japan today, the same will be true.
Who Gets Credit For the Recovery?
What?s the opposite of a double dip? Whatever it is, that?s where we are. Remember commercial real estate, re-setting ARMs, foreclosures, muni-bond defaults, Greece, Ireland, Egypt, Tunisia, Libya, high unemployment, more savings, or just plain old government debt? At least one of these, or maybe all of them, was going to make recovery impossible, or end any recovery prematurely. But none of it happened. The double dip turned out to be a figment.
Stay Positive - It's The Right Thing To Do
The gloom is hard to miss: Libya, oil prices, budget battles, a pull-back in stock prices, or downward revisions to GDP?and about how these will cause weaker growth (or even a recession) ahead. But the world is always full of potential events that could cause a panic, recession, even a depression. The world is never perfectly ?safe.? If nuclear war broke out or if Saudi Arabia got into a nasty civil war, the risks to the US economic environment and the stock market would rise immeasurably.
Debt Limit Brinksmanship
Don?t get us wrong. The budget is a total mess. The equivalent of a financial root canal is necessary. We fully support newly elected lawmakers who want to maximize the political leverage created by the debt limit issue to move in this direction. In fact, we?d like to see only short-term increases so the issue can be revisited time and time again, to hold the spenders? feet to the political fire. But ripping all the teeth out at once is not the answer.
The Federal Budget: It's a Mess
If the US federal government were a bank, the FDIC would close them down this Friday night. Earlier today, President Obama submitted next year?s budget. The new budget, despite ?cutting? the deficit by $1.1 trillion, will require Congress to pass a large increase in the ?debt ceiling.? Claiming budget savings by freezing spending at today?s levels is like an alcoholic who says he?s sober because he?ll never drink more than yesterday?s bender. Trouble is, this alcoholic doesn?t even pay his own tab.
FASB Surrenders - America Wins
The good news, which went virtually un-reported on January 25, 2011, was that FASB surrendered on fair value accounting for loans. In the face of overwhelming opposition, banks will be allowed to carry loans on their books at amortized cost, reflecting cash flow (payments), as well as reasonable estimates of likely loan losses.
This decision is a huge win for the markets and the economy.
Egypt, Dollars and History
When the Fed prints too many dollars, the inflation that results often shows up in commodity prices first. When it lifts energy commodities, countries and regions of the world which export oil typically benefit and have largesse to throw around. Egypt is an oil producer and a large refiner. So, rising energy prices are neutral to slightly positive for the nation?s economy. Food prices are a different story.
Results 651–700
of 757 found.
