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Rate Hikes To Start in 2015
Unlike most meetings, todays actions by the Federal Reserve were chock full of implications for the future course of monetary policy. At long last, the Fed finally removed the language in its statement that short-term interest rates will remain at essentially zero for a considerable time and replaced it with language that the Fed will be patient before starting to increase rates.
Oil Price: Looks Reasonable
A former economic colleague, and mentor, used to say: In the Bible, it says an ounce of gold will buy a fine suit of clothing. We have read the Bible, and we havent found this, although there could be some high-powered math, using talents, cubits, frankincense and myrrh that make it true.
Change Is In The Air
While many flay away, trying to figure out the meaning of last weeks GOP wave election, it seems simple. The government has tried for more than five years to turn a Plow Horse economy into a Race Horse, and failed. Yes, the economy is growing and creating jobs, but living standards are growing slowly, or not at all, for many.
Fed Will Make Excuses About Inflation
Inflation is tame. For now. The CPI was flat in January and is up only 1.6% from a year ago. The PPI rose a small 0.2% in January and is up just 1.4% from a year ago. And even though energy prices spiked in February, the year ago comparisons are likely to stay tame. The consensus expects the February CPI to rise 0.6% - the largest in 44 months. Nonetheless, it would still show just 1.9% inflation in the past year, which is still below the Federal Reserves target of 2%. This wont last. With the Fed loose; we expect consumer prices to rise toward 3% during 2013.
Defending Mickelson
Top golfer Phil Mickelson became a social-media whipping boy last week for saying high taxes were forcing him to consider drastic changes, in his life. We suppose these could include moving away from California, or possibly quitting golf. Liberal bloggers had a field day, with some sarcastically saying we should all chip in to help the poor guy out with his burdens. But this criticism masks the facts.
Temporary Weakness Won't Last
Hurricane Sandy knocked out electricity all over and is now causing some flickering in the economic data. Real consumer spending fell 0.3% in October, the steepest drop since cash-for-clunkers ended in 2009, while real income slipped 0.1%. The ISM manufacturing index fell to 49.5 in November. Considering that Sandy smashed the eastern seaboard and affected roughly 25% of the US population with the brunt hitting New Jersey and New York the economic damage will be spread out. Timing helped limit the impact on October data, given that the storm struck very late in the month.
Heads, I Win, Tails, You Lose
Up, down, sideways...it's all bad, all the time. Take oil, for example. Between September 2011 and March 2012, oil prices rose about 20%. This generated all kinds of "sky-is-falling" stories about consumers having less money to spend. But, recently, as oil prices headed south in May and June, do you think the negativity went away? Not! The Pouting Pundits of Pessimism said falling oil was a bad sign, signaling weak global demand. It's all bad, all the time. The glass is always half empty.
Stocks Are Really Cheap
America's equity markets have rallied sharply since last October, with the S&P 500 up 22%. Nonetheless, the stock market has been stuck in a range for 18 months, with the Dow Jones Industrial's Average trading between 10,650 and 13,280, well below the October 2007 high of 14,165. Financial markets have priced in all kinds of bad things a fiscal cliff, slower earnings growth, a potential recession, and big government. But, we think these markets are overly pessimistic.
Freedom and Health
Lets be absolutely clear: the health care system in the United States is excellentjust inefficient. No one lacks care. Stories of people being kicked out in the street have proven to be fabrications. Nonetheless, the system is politically untenable. Its a patchwork of third-party payers both private and public and the population is aging. The result is rapidly rising costs, surging anxiety, and a desire to do something.
Step Two - Going Backward - Election More Important Than Ever
In one of the least likely outcomes in Supreme Court history, Chief Justice Roberts, who was widely considered a conservative voice on the Court, proved to be the swing vote in one of the largest expansions of US government involvement in the economy ever.
Fed Does the Least
In the past few days, news outlets have breathlessly reported that the Federal Reserve would today launch into another round of quantitative easing, probably including major purchases of mortgage backed securities. Instead, the Fed did the least that was expected, extending Operation Twist until the end of the year, but not altering the size of its balance sheet at all and not as some analysts suggested it might changing when it thinks it will start raising rates (still late 2014).
Should Germany Leave the Euro?
The weekend victory for the center-right keeps the Greek austerity plan alive and makes it less likely Greece will try to leave the Euro. Leaving the Euro would be an unmitigated disaster for Greece and a problem for the Eurozone, but the odds of this happening are priced into the Euro already. What isnt priced into the Euro is the exit of another country. No, not Spain, Portugal, or Italy. Were talking about the inner-most core of the Euro-zone: Germany.
Bet Against QE3
Since the financial crisis in 2008 the Federal Reserve has done extraordinary things lowered interest rates to essentially zero, increased the size of its balance sheet by $2 trillion and announced Operation Twist. With unemployment still relatively high and real GDP growing at a 2% rate in the past year, there are many on (and off) the Fed who think more should be done. If we thought liquidity was a problem, we might agree, but its not.
Speeding Up the Plow Horse
We call it a Plow Horse Economyit aint gonna win the Belmont, but it aint gonna keel over and die, either. And there is nothing in the latest data or market action that changes our mind; the economy is not in recession and we highly doubt it will fall into one anytime soon.
Is Obama a Big Spender?
Last week, Rex Nutting, a reporter for MarketWatch, became famous when the White House used his analysis of government spending. He wrote that there has been no huge increase in spending under the current president.
We like Rex Nutting. He seems like a fair-minded analyst. But we emphatically disagree. This is not personal, heck, its not even political. Data from the Congressional Budget Office (CBO) shows President Obama has been a huge spender.
Through the Economic Lens: 2012 Looks More Like 2010
The recent selloff in the market, with nervous investors made all the more so because of the medias obsession with financial issues in Europe, is renewing talk about bear markets and recessions as people head for cover. In the midst of their misguided fears of a contagion effect, there is also concern about the fiscal cliff, spending cuts and higher tax rates that, at this point, will take effect on January 1. (Funny how that sounds like it would be a good idea for our debt problem.)
Let's Stress Test Governments
Several years ago, Treasury Secretary John Snow was testifying to Congress about the federal budget. He worked for President Bush and, after a long career of opposing deficits, was trying to justify a deficit of about 3% of GDP. Representative Barney Frank was incredulous. He asked Snow how he could now justify deficits. Frank then came up with a theory: He said Snow was opposed to deficits when the president was a Democrat, but didnt care about them when the president was a Republican. Frank was being sarcastic, but he had a good point.
Dead Cat Bounce for Socialism
The Social Welfare State is dying. Like the Berlin Wall and the Iron Curtain, the cradle-to-grave social welfare experiment must eventually collapse. A system of taxing work and profits, while subsidizing leisure, sloth, and retirement, must eventually fail. The end of the Social Welfare State is painful for many, and it will not end quickly or quietly as the elections of this past weekend prove. Francois Hollande, a Socialist, was elected president of France, while Greece saw a surge in votes for anti-bailout political parties in parliament.
Here We Go Again
We are not saying the negative data is meaningless. Its not. But some of the reaction is, once again, overdone. Debating the worry-warts has become a full-time job and we cant prove them wrong until the future becomes the present. So, lets look back to last year when we said in a few months we will be looking back at recent reports as just statistical noise. Sounded good then, so lets not mess with success. The more things change, the more they stay the same.
The Plow Horse Economy
Like a plow horse, the US economy just puts one hoof after the other. It aint gonna win any races, but it aint gonna keel over and die either. After slogging through the mud last year, and slowing down to just 1.2% annualized growth in the first three quarters of 2011, things have improved. In the fourth quarter last year, real GDP grew a solid, work-horse-like, 3%. We expect that continued in the first quarter of 2012. If anything, other indicators suggest real GDP growth might be even stronger. Nonfarm payrolls rose 635,000 in Q1, the largest gain since 2006.
After the Speed Bump...
Slow down: Speed bump. After that, accelerate with care. Thats the essence of our near-term economic outlook. Although a tapping of the brakes is likely, there is virtually no danger of going off the road. The economic engine, having finally gained some sustainable momentum, will probably keep moving at a slow and steady pace, with a general upward trend overall for the rest of the year.
"On Your Own" Economics
The genius of capitalism is that it harnesses self-interest to get people to cooperate. Most observers, including us, describe capitalism as a system of competition. But on a day-in, day-out basis, this competition is not direct hand-to-hand combat to find a victor; its a race to see who can provide the best products at the best price. Its about service to others, not finding ways to force others to bow to our will. More importantly, we work in cooperative effort with others to accomplish these tasks. Government has a role, but economic growth is always strongest where it governs least.
Supremes Hear No Limiting Principle
Those who followed last weeks Supreme Court arguments on President Obamas health care law got a primer in Constitutional Law. The scope of the three-day hearings was breathtaking. While legal issues dominated the conversation, economics also came into play. The question: Is the market for health insurance so unique that the federal government can penalize someone for not buying it.
Heard the One About a "Fiscal Cliff"?
For three years the market has suffered from a severe case of economic hypochondria. Headline after headline proclaimed that this time, for sure, the recession would return. All of these have come and goneand yet the recovery is three years old. Now, some doomsayers are pointing ahead to a fiscal cliff in 2013. Bottom line: expect to hear more about the fiscal cliff for the next several months. Then, when it doesnt cause a recession, youll never hear about it again.
Regressing to the Mean Asset Values Returning to Low Correlations
Asset values are finally marching, once again, to the beat of their own drummers. This is a welcome change of tune. Among the many investing challenges of the past few yearsbeyond the aftermath of a near-meltdown of the financial system and a global economy that went into a deep recessionwas the high degree of correlation among different assets. Assets moved in tandem, whether in lockstep or with inverse moves, based largely on risk on/risk off investment decisions. Concerned about Europe? Sell stocks, buy bonds. Think the EU ministers will reach a deal? Buy stocks, sell bonds.
The Fed's March Madness
The best currency to be in over the next year or so is the US dollar. Yes, the Fed is loose, but everyone already knows that. Its priced in. The issue today is whether the Fed tightens policy faster than investors previously thought. And that looks increasingly likely. Momentum is now shifting toward the US, with some global investors looking at equity returns sweetened by currency gains. Add higher US bond yields and emerging markets should be even more willing to buy US assets. A self-sustaining, virtuous cycle is emerging, the kind that often forms in long-term bull markets.
The Bears' Five Stages of Grief
The economic bears have had it rough the past few years. They keep bashing the economy, but it keeps recovering. Watching them fight through the five stages of grief is educational. First there was denial, then anger (some are still in this stage), now its bargaining.
Viva La France?
Its not happening just in America. France will also elect a President this year. The two top candidates are current president Nicolas Sarkozy and Francois Hollande. Last week, Hollande announced he wants to raise Frances top income tax rate to 75% from the current peak of 41%. He said patriotism and justice should convince French citizens to support his candidacy and his tax hike. We are not friends of higher tax rates. Nonetheless, we see Hollandes proposal as a win-win for global supporters of small government and free market capitalism. Ether through repudiation or bad example.
Don't Bet on a Correction
There may be a trader who can capture all of this, but in the end, the history of America is clear. Bears make money every once in a while, but its the long-term bulls, who believe in the steady progress of technology and wealth creation, that make money most consistently. Dont bet on a correction.
Stocks Rising, But Still Cheap
The rise in equities so far this year is not just a sugar high. The Fed has done nothing new, while Keynesian pump-priming is on the wane. Federal spending peaked at 25.3% of GDP back in 2009. Its still way too high, but has fallen to 23.7%. Meanwhile, despite shenanigans like the temporary payroll tax cut, federal revenue has risen from 15.1% of GDP to 15.4% in the past year. Spending is down and taxes are up. Fiscal policy is contractionary. Yes, the Fed is loose and is holding interest rates down. But even if we assume normal interest rates and stable profits , stocks are very cheap.
Be Confident in the Recovery
Two prominent measures of consumer confidence dropped unexpectedly in recent weeks. This provided plenty of fodder to those who still think the US economy is teetering on the brink of a long awaited double-dip. But when it comes to the consumer confidence data, the only thing were confident about is that confidence doesnt matter. Not one bit.
Despite Naysayers, The Recovery Is Real
The US economy is far from perfect. Economic growth has been positive, but mediocre over the past year and a half. The unemployment rate, at 8.3%, is still elevated, higher than it ever was from 1984 through 2008. When it comes to bashing government policies, from either party, we do not take a back seat to anyone. What we cant do, because it makes no sense, is allow our dislike of current government policy to influence our view of the actual economic data. There really is a recovery underway. If it quacks like a duckit must be a duck.
Fed Forecasts Depend on Data
Last summer, the Fed promised to hold rates down through mid-2013. Headlines from last week suggest that the Fed now thinks 2014. But, how committed is the Fed to this strategy? What will it take to change course? Some analysts argue that this is an ironclad commitment and there will be no course changes. We believe this is a misreading of the Feds intentions. There are 19 potential economic views that are important at the Federal Reserve 7 are on the Board of Governors and 12 are Presidents of regional banks. There is more disagreement at the Fed than meets the eye.
Fed Language Goes Dovish, But Policy Unchanged
Investors should take note that at his press conference today Chairman Bernanke made it clear that if the Feds economic forecast proves either too optimistic or too pessimistic, that it would change its forecast and alter its policy expectations for the funds rate as well. The importance of this statement cannot be underestimated. We anticipate faster economic growth, lower unemployment, and higher inflation than the Fed projects over the next few years. As result, we believe the Fed will start raising interest rates well before late 2014.
Rally Not Built on Complacency
No matter how we make our argument, and no matter how consistently the economy grows, the doubt and fear and disbelief just wont go away. We noticed this recently, when conventional wisdom started to say that investors were being complacent these days. In other words, when the equity markets go down, investors are living in reality and accepting that the economy and financial markets just arent in great shape. But when the equity markets go up, they are being schizophrenic, overly optimistic, and now some are saying complacent.
Q4 GDP - No Recession In Sight
Three months ago, we added up the major components of real GDP for the third quarter and predicted a solid annualized growth rate of 3.5%. Instead, the advance report came in at 2.5% and was later revised down to a tepid 1.8%. We were too high on inventories as well as government purchases, and that made our overall forecast too high. However, our estimates of consumer spending, business investment, home building, and the trade balance were all pretty darn close to the mark. Final sales (GDP excluding inventories) grew at a 3.2% annualized rate.
Nonsense Arguments About Jobs
The better the employment reports get, the more ridiculous the assertions from those who deny the improvement. Fridays report, was the best since the recovery started. Private payrolls rose 212,000, while the number of hours per worker and earnings per hour went up as well. As a result, total workers earnings are more than keeping pace with inflation. Even the unemployment rate went down again and is now at 8.5%, almost a full point below where it was a year ago. Our observation is that most of these arguments against optimism are driven by politics and border on the ridiculous.
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%.
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