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An auspicious sign: the consumer (for now) is back

I remain very skeptical about the sustainability of the recovery, as the labor market is in shambles and nominal wage growth is unlikely to facilitate “healthy” deleveraging – please see this recent post “Reducing household financial leverage: the easy way and the hard way”. I digress; because you can’t fight the data. And for now, the consumer is back.

The latest retail sales figures reveal two bits of information worth noting. First, autos were a big factor in the March 2010 surge. Second, even though the large contribution from motor vehicles and parts compromises my enthusiasm somewhat, the underlying trend has emerged: consumers are less frugal in spite of income constraints.

The March advanced retail sales report was genuinely strong, 7.6% annual pace since March of last year or 1.6% over the month and seasonally adjusted. At first I thought that this heroic sales growth was just a scam. March auto sales were unusually large in response to the competitive pricing during the peak of the Toyota scandal. See’s preview of the March light weight vehicle sales that registered a large 11.75mn gain.

And in reality, the March number was driven largely by auto sales, contributing 1.1% to the 1.6% monthly growth in retail sales. Furthermore, 36% of the total sales bill drove 5.7% of the 7.6% annual gain: nonstore retailers, motor vehicles and parts, and gasoline stations.

One could stop there (which I almost did); but upon further examination, a real trend is breaking out: the growth is broadening across categories with each month that passes. Just look at the evolution since January 2010 (after revisions, of course).

The charts illustrate the sequential contributions to growth from each major category in the advanced retail sales report from left (January 2010) to right (February 2010) to lower left (March 2010). The number next to the date for each chart (title) is the annual total retail sales growth, and you can find the data at the census website here.

You might ask yourself now, what do retail sales look like when conditioning for the robust growth in nonstore retailers, motor vehicles and parts, and gasoline stations? What’s happening to the other 64% of sales? Here’s where the green shoots become even more evident.

The trajectory of retail sales ex nonstore retailers, motor vehicles and parts, and gasoline stations is more of the 60-degree type, an auspicious sign for the near-term recovery.

However, as I have stated time and time again, further deleveraging is imminent. Whether that happens through default or through income growth is all the same in the aggregate – that is, until default causes further macroeconomic instability. Until the economy generates income enough to pay down leverage, the risk of a double dip remains as the inventory cycle is laid to rest. Economic momentum is gaining; let’s just hope that policymakers don’t screw it up.

Here’s something of interest: our friend rjs is looking at a sales tax conundrum….

Rebecca Wilder

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Inflation Detour: Trimmed Mean PCE

Today’s release by the Federal Reserve Bank of Dallas of October’s Trimmed Mean Personal Consumption Expenditure gives us a chance to check this “alternative measure of core inflation.”

The clearest thing is that it does what the FRB Dallas intends: generally reduces the measure of inflation:

For the graphic above, any value above the line shows where the 12-month Average of the Trimmed Mean PCE is greater that the Annualised CPI for that same period. With few exceptions, those points are places where the actual CPI is negative for the period. (Note also that all of periods where CPI is over 5.0-5.5% are below the line. While the 12-month average of Trimmed Mean PCE has a maximum of 8.7%, while CPI reaches slightly over 14.75% in the same time period.)

So the natural next step is to compare it to a measure of Consumer Sentiment. Let’s do that below the fold

Comparing Trimmed Mean PCE to the University of Michigan Index previously referenced:

Again, the preponderance of data points are to the right of the line, indicating that the Michigan Consumer Inflation Expectations is higher than the monthly Trimmed Mean PCE. But there is much more balance: the largest cluster of Expectations Dominance is between 2 and 4%; that is, periods of normal inflation.

The two measures correlate rather well with each other (86.13%) while a simple fitted regression that excludes a constant term has an adjusted R-Squared of 94.1% and yields MICH = 1.0416*Trimmed Mean PCE.

Trimmed Mean PCE may well understate inflation, but it appears to compare fairly well with what people think of when they think about inflation.

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Consumer confidence: fluff or thrill

by Rebecca Wilder

Thrill. The Conference Board reported that the August consumer confidence index (CCI) jumped 14% in August to 54.06. In contrast, the August University of Michigan Consumer Sentiment index (CSI) fell; but the two generally trend together, and the CSI is subject to revisions reported tomorrow.

Confidence can be swayed by current political agenda or asset prices, but nevertheless, it is a coincident measure of the business cycle. And broken down into its two components – the present economic situation index and expectations index – the August report was quite positive (as positive as can be coming off of record lows).

The expectations index surged almost 16% in August to 73.48, its highest level since December 2007 and 2.7% over its previous high in May 2009. The current conditions index grew around 7%, but is hovering at low levels with no strong sign of improvement.

Clearly, the expectations index is making much more headway than the present situation index. And this is why that information is important: historically, the expectations index, rather than the current conditions index, is a good indicator of consumer spending growth.

The chart illustrates annual personal consumer spending growth and the two components of the CCI, with associated simple correlation coefficients. The correlation between the overall CCI and annual PCE spending growth spanning June 1977- June 2009 is 0.63. However, the biggest weight is coming off of the expectations component of the CCI, correlation = 0.69, rather than the present situation component of the CCI, correlation = 0.45.

On the other hand, the present-situation component of the CCI is a decent indicator of current labor market conditions.

The chart illustrates annual employment growth (measured by the nonfarm payroll), and the two components of the CCI. The simple correlation between the overall CCI and employment growth is 0.59 (noticeably smaller than the PCE correlation), which according to its correlation, is more heavily weighted by the present situation component of the CCI.

Based on this simple analysis, the CCI reading is consistent with an oncoming surge in spending growth over the next six months. Even in the recovery after the 1991 recession, when the expectations index improved quickly while spending growth was sluggish to rise, spending growth jumped from essentially 0% annual growth to almost 3.6% in just four months – after the surge in expectations index and before the bottom in the current conditions index.

Yes, there are plenty of credit-related issues why this might not happen. And there is an obvious economic link between employment, income, and spending. However, for those indicators that are critical to recovery, i.e., consumer spending (housing and inventories are important, too – see the second chart on this post), the expectations index is certainly a positive signal for spending events to come.

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Debt fueled consumption


Rebecca Wilder will begin writing as a Bear soon. Meanwhile, she maintains her own blog NEWSNECONOMICS. Here is an example of an Aug. 19,2009 post, which I am cross posting today, and a follow up post here. There were several questions raised, but I think it an interesting notion. I own an old Malibu and not a Porsche, and have watched my premiums and out of pocket health expenses skyrocket this decade. I knew the money went somewhere! Here is the cross post:

Today I plan to rant just a bit about consumption because I was reading Yves Smith’s article today, and she referred to “debt-fueled consumption” – the now pejorative phrase that just rolls off the tongue. She says:

“no where does the article [referenced WSJ article in her post on the consumption share] acknowledge that the consumption level was unsustainable and debt fueled.”
And this is where I get just slightly irked, because it seems to me that the phrase “debt-fueled consumption” strikes the following chord: every American household was loading up on home equity debt just to buy big ticket items like Hummers and large sofa sets with cup-holders galore from Jordan’s Furniture (a discount furniture shop in the Boston area – generically, every city has one).”

I am sure that Yves Smith knows this, but the debt-fueled consumption was more likely paying surging health care bills than buying cute kitchenettes.
(charts are fixed…update rdan)

Myth 1: The years of debt-fueled consumption went into goods spending, jumping the consumption share of GDP to an excess of 70%.

Update: large edition of graph here.
Reality: The goods share of total consumption has been falling quite dramatically, while the service component surged. Therefore, it is more likely that the debt fueled consumption was going predominantly into the service component (paying service bills).

In Q2 2009, 25% of service spending went to health care – outpatient services (physician, drugs, dentist) or hospital and nursing home services – and 29% of service spending went to housing and utilities – rent, water, electricity, and trash. As such, over 50% of service consumption is more likely to remain stable, even rise faster, with the Boomers out there.

And as for the speculation that workers are postponing retirement due the drop-off in wealth, and consumption will be meager into the medium term, I simply don’t buy it. If anything, the aging population is going to fuel recovery – no matter when they choose to retire. Service sector consumption growth – much of it based on health care consumption – will simply become a larger share of GDP growth (cutting out autos, perhaps), and pick up some of the slack.

And here’s another thing. Myth 2: durables consumption – i.e., autos and furniture – are important contributors to the initial stages of the recovery. It helps, but service consumption is the biggie.

Update: enlarged chart is here

The chart lists the average contribution each GDP component during the initial year of recovery spanning the 1950-2007 (nine recoveries in total).

Reality: The average growth accumulated during the initial stages of recovery (1-yr following the recession’s end) following the last nine recessions is a remarkable 6.43% (consensus forecast for growth in 2010 is currently 2.3%). Only 0.47% of that came from durable goods. A huge 1.67% of that stemmed from the service component of consumption (again, health care and housing).

And as long as service spending rebounds, so too will the economy – even without a big pickup in autos. Inventories are almost a foregone conclusion, the residential construction sector is bound to pick up – 500-600k units is simply unsustainable for a US population that is growing at roughly 1% a year, and growth rates on such a small base can be large.

And here’s another link to jobs that has not been incorporated to many forecasts – growth in jobs means new health care insurance, means added spending on health care.

I could go on, but I won’t.

Rebecca Wilder

Chart from follow up here.

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