Thursday, August 4, 2011

An Appraisal of the Current US Economic Situation

Over the last few days I've spent a fair amount of time talking about the stupidity of the budget deal (see here, here, here, here and here). Frankly, it's been difficult to state just how ridicules it is considering our current economic situation. Suffice it to say that after a period of roughly a month and a half of weakening economic data it does appear the deal puts a final nail into a coffin of at best median GDP growth in the 2% range for the foreseeable future (as in the next 2-4 quarters).

However, let's pull the camera back a bit a take a look at the 30,000 macro view and see what the numbers say. In other words, let's look at the data rather than the hyperbole.

Let's start with the most recent Beige Book, which has data through July 15:
Consumer spending increased overall, with modest growth of nonauto retail sales in a majority of Districts. Falling gasoline prices throughout most of this reporting period may have encouraged a pickup in shopping trips and some additional spending since the previous Beige Book. Price pressures from food, energy, cotton, and other supplier inputs continued to squeeze retail margins. Auto sales slowed a little since the previous Beige Book, with inventories still lean due to Japanese supply chain disruptions. The summer tourism season has started off stronger than last year in most areas unaffected by severe weather.

Activity among nonfinancial service sectors improved overall in most Districts. Of the five Districts reporting on transportation services, volumes were mostly up. Manufacturing activity expanded overall, with two Districts growing at a somewhat faster rate since the last Beige Book, many Districts reporting steady or slowing growth, and two Districts reporting little change. Among firms reporting on near-term expectations, the manufacturing outlook remained generally optimistic, but capital spending plans were somewhat more cautious.

Most residential real estate activity was little changed and remained weak, although construction and activity in the residential rental market continued to improve since the previous Beige Book. For six Districts, activity in the nonresidential real estate market has improved slightly for specific submarkets, although conditions generally remained weak across all twelve Districts. Since the last Beige Book, overall loan volumes have increased in three Districts, decreased in two Districts, and were relatively flat, often with mixed trends across the banks' portfolios, in five Districts. Credit quality was steady or improving.

The consumer is in fair shape. He is spending a bit, but not a lot. Gas prices are dropping which may be encouraging some activity. Both the service and manufacturing sectors are still increasing, although manufacturing is slowing. Real estate is still weak.

Let's look at some broad data.

Real PCEs are now above their previous highs. However, they have dropped the last three months. Put another way

After growing at a decent pace for the last year and a half, they have clearly slowed. Another way to say this is aggregate demand is clearly dropping, which is a sign the overall pace of economic activity is slowing. However, also note there is a roughly two year intervening period of growth in this number, indicating expansion.

Real retail sales slow a stalling of upward momentum, but no serious downward move.


The ISM aggregate manufacturing index is nearing 50. However, this part of the economy is still expanding, albeit at a slower pace. In addition, note the period of expansion between the last recession and the current readings which show a two year period of expansion.

Let's look at the anecdotal information from the latest ISM report on manufacturing:

  • "Inflation pressures have finally slowed down." (Chemical Products)
  • "With products sold internationally, the business conditions we are currently experiencing are declining from abnormally [high] record-breaking levels. Business conditions are currently flattening to more normal volumes, while trending slightly downward." (Machinery)
  • "Market conditions — Europe weak, U.S. soft, Asia strong." (Computer & Electronic Products)
  • "Demand from automotive manufacturers continues to improve." (Fabricated Metal Products)
  • "Export sales very strong, while domestic sales are sluggish." (Paper Products)
  • "The looming debt ceiling has government agencies backing away from spending. Forecasting a slowdown in demand in the short term." (Transportation Equipment)
  • "Generally seeing a slowdown, which is typical this time of year. Hopeful that this is seasonal only." (Plastics & Rubber Products)
  • "Most industrial customers seem to be sustaining their business. Export orders continue to remain strong. Price pressures persist, especially with commodity materials." (Chemical Products)
There are a few trends in the above data.

-- The US and Europe are weak
-- Asia is still strong
-- Price pressures from rising commodity prices are slowing
-- The debt ceiling debate was a net negative for the economy

One point of concern in the latest report is the drop in new orders to a level of 49, which shows contraction. That could lead to a negative ISM print in the next 2-3 reports.

Let's turn to the ISM service index

This number is still positive and turned higher by a few points in the latest report. Let's look at the anecdotal points from the same:

"Sales and customer traffic recovered slightly, pulling even with last year after trending lower for several months. Discretionary spending per customer has continued to decline in all areas of the operation." (Arts, Entertainment & Recreation)

  • "Sales volumes are steady. Input costs are increasing." (Agriculture, Forestry, Fishing & Hunting)
  • "Business outlook remains steady, but concerns about the second half of the year remain." (Professional, Scientific & Technical Services)
  • "Municipal government has not bounced back at a similar pace to the private sector." (Public Administration)
  • "New home construction is still very slow. Repair and remodel is the only bright spot." (Wholesale Trade)
  • "Commodities cooling off and dropping a bit." (Retail Trade)

The above comments indicate a moderate pace of expansion with concern about the next 6 months. But there is no indication of a serious contraction.

Both new and existing home sales appear to be bumping along a bottom -- and have been for the last few years. However, it's hard to see how we can have a serious contraction with both of these numbers already in the doldrums.

The point is that the economy is weak and has been for some time. The recent GDP revision indicate the first half of this year was considerably weaker than first thought. However, there are currently no signs of an impending financial or economic Armageddon. There are serious concerns that the budget deal certainly did not help our current situation in any way, shape or form. In fact it probably added to downside economic pressure. But as of now there is no sign we'll be repeating anything like 2007-2008.