The economy , markets and inflation
Demand destruction. Demand destruction. Demand destruction.
That is all one seemed to hear from analysts and managers for months as food and energy prices soared. But now that we are actually seeing demand destruction, no one seems to recognize it.
Yes, much of the May drop in auto sales was due to supply chain interruptions. But the bulk of the other economic weakness is due to higher inflation generating weak income and demand growth. Over the past six months the monthly change in real average weekly earnings has been:
Nov. Dec. Jan. Feb. Mar. Apr.
-0.1 -0.6 -0.3 -0.0 -0.7 -0.2
The change in real personal income excluding transfers, the single best determinate of consumer spending, has been:
Nov. Dec. Jan. Feb. Mar. Apr.
0.1 0.2 1.1 0.0 -0.1 0.1
The January 1.0% jump was due largely to the payroll tax cut.
Given this weakness in real income, it should be no surprise that consumer spending and the economy has weakened.
Real average weekly earnings growth is a leading indicator much like the stock market in that it has forecast 10 of the last seven recessions. But every recessions was accompanied by falling real weekly earnings.
The consensus still is calling for significantly higher growth in the second half. But this depends on weak food and energy prices allowing real incomes to expand. Over the last month commodity prices have weakened and this is encouraging for the inflation outlook. But so far the commodity price weakness looks more like a correction than a trend change. Oil prices in particular have not broken cleanly below $100 and Brent crude is still above $110. Copper, aluminum and other metals prices have yet to break below their 12 month moving average and their current drop is not out of line with past corrections, as in early 2010. Meat prices have fallen sharply, but grain and soybean prices are still near their record highs. Cotton prices, for example, are still well above their year-end level.
What demand destruction is really about is firms ability to pass higher cost through to the final consumer. Corporate managements and analysts have assumed in their earnings forecast that firms will have no trouble realizing higher prices. In an inflationary spiral this is a safe assumption. But demand destruction implies that we are not in an inflationary spiral
Spencer, thie seems to need a fix: “Real average weekly earnings growth is a leading indicator much like the stock market in that it has forecast 10 of the last seven recessions.”
On the bright side, it clear that the employee payroll tax holiday was a rousing success, because this quantitative stimulus (QS1) boosted real disposable income higher than the counterfactual would indicate.
However, I see a red flag; we have reached the zero bound for employee QS. The Obama admin has seen this too and there is talk about an employer payroll tax holiday (QS2). They may commission a study by the Heritage Foundation or possibly the Cato Institute to confirm likely effects of this policy, but the target answer would be it will increase corporate profitability (relative to the counter factual), and then good things just happen from there.
A potential risk is that we will be at the zero bound on both employee and employer payroll tax, but we should be out of the woods by then, so why not just try it and see what happens?
Another piece of unreported news is that the Treasury has embarked on “unconventional” fiscal stimulus. Geithner said he can postpone the Treasury breach of the debt ceiling until August 2. Apparently one of the “accounting gimmicks” he is employing to accomplish this is to sell some “Marketable Treasuries” he has found in Federal government employee pension funds. I imagine that to keep the accounting straight, he has typed up some IOUs (signed by Tim, of course) and filed these in the government pension filing cabinet.
This has been kind of quiet so far, but sooner or later economists will be figuring what the GDP multiplier is for this kind of stimulus and then we’ll know for sure how good this new policy tool works.
I realize your comment is tongue-in-cheek, but just to be clear for any newbies who wander by, inter-agency transfers only change the bookkeeping, not the real economic result.
spencer,
I think there is a big dose of “well, my trend assumption must be right” in quarterly forecasts. If Q2 is weaker than expected, that’s just noise, and the soon will be made up. Bloomberg’s monthly survey of quarterly GDP estimates shows, however, that the trend assumption is being reduced. The median GDP growth estimate for every quarter over the next 12 months is lower for June than it was in early May, with Q2 revised down by a full 1%.
KH, not only does it change the accounting, moving from intra-governmental to publicly owned, it DOES raise cash for Government general fund spending. It is, of course, outside the original Trust Funds’ purposes.
It is this exact history that makes me think that the next target will be the SSTF, if there is no debt ceiling solution by 8/2/2011. If it happens it will add several trillions to the possible borrowing pool, at a cost of destroying any faith in Govt promises for generations.
No that is correct.
It gives false signals of recessions.
So it has called for more recessions than we have had.
Yes, the stock market is correcting because investors are lowering their 2011 EPS expectations.
Of course that also lowers the base for future EPS growth.
Six weeks ago investors were expecting double digit 2011 earnings growth.
Now EPS growth expectations are probably in the low single digit level.
But that is all you need to explain the last few weeks stock market decline.
spencer,
Your data on the payroll tax cut would show that tax cuts, that directly place money in peoples hands who can spend it, is a good idea. So can I expect to see some more tax cut fever from the AB posters?
Islam will change
The type of tax cut I would support would never get enough congressional support to have a chance.
Remember, tax cuts are one of the main reasons we are in the mess we are in.
Yes, but it is the spending, not the bookkeeping, which changes the economic result.
Got it!
Spencer, only liberals believe: “Remember, tax cuts are one of the main reasons we are in the mess we are in.” There is an obvious alternative view.
Yes, I hear them all the time.
But, I’m not so much a liberal as a “reality based” analyst and the facts very strongly support the conclusion that tax cuts are a main reason we are in the mess we are in. Remember, many right wing proponents of tax cuts believe that they would create exactly the mess we have and that is why they favor tax cut. In case yopu have not heard, that strategy is called “starve the beast”.
See, sometimes I agree with right wing analysis.
Cutting regressive taxes is a good thing the money faster spent in the economy. Bush tax cuts caused money to be spent building things in the PRC.
What is funny is that nearly 95% of the assets in the OPM trust fund were placed there the same way the assets of the military retirement trust fund. Congress passed a bill and “POOF” $100B a year goes to the OPM trust funds, no cash ever raised…………………………
GAO does an audit every year and shows how those trusts grow.
Only about 3% of the assets in the OPM fund is from employee “depositis”. In the Mil retirement there are no contributions from future beneficiaries, except “lower cash wages and current benefits now”.