Weekly Indicators for January 20 - 24 at XE.com

 - by New Deal democrat

Weekly Indicators for this week are up at XE.com.

One week ago rail traffic and consumer spending took a big hit, which I blamed on the extreme cold from the "polar vortex."  This week I look to see if they rebounded.  The long leading indictors also had something of a rare week of late.

The exception to the rule about interest rates and housing: "Buy now or be forever priced out"

 - by New Deal democrat

As I have written extensively in the last several months, a rise in interest rates has almost always - 17 of 21 cases since World War 2, to be precise - been consistent with an outright decline several quarters later in housing.  Typically a 1% increase in interest rates has been consistent with a 100,000 decline in the volume of housing permits and starts.

But what about the 4 exceptions?  Are they just random outliers, or is there a common thread linking them?

It turns out that, in at least 3 of the 4 cases, there is a common thread: in the immortal words of housing bubbleheads circa 2005, "Buy now or be forever priced out."

The housing bubble of 2004-06 remains the biggest exception in the nearly 70 year history of housing and interest rates that I've examined.  Here's the graph of interest rates YoY change (inverted, red) and housing permits YoY change (blue) during that period and the immediate aftermath:



As you can see, despite the fact that interest rates not only had not fallen, but in fact had risen somewhat and remained elevated for several years, housing permits continued to increase stoutly.  As we all recall that housing prices (Case Shiller Index, green, index values at right) were rising at the brisk clip of 10% or more a year for about half a decade at that point.  It was a common trope that "real estate only goes up!"  If so, you had better buy today, because tomorrow the house you wanted would only get even more expensive.  And for a long while it did.  Until it didn't, and housing crashed in equally spectacular fashion, as you can see from the latter part of the graph above.

A similar, although not identical, explanation can be found to the exceptional performance of housing in 1968, and to some extent, also in 1979.

Inflation and interest rates had remained tame throughout the 1950s, and slightly increased in the early 1960's.

But in 1965, Lyndon Johnson began his "guns and butter" fiscal policy.  Previously, it had been understood that you could only either finance wars (guns) or domestic programs (butter).  Johnson believed the US was so strong that he could do both.  The result wasn't just inflation, but increasing levels of inflation every year beginning in 1965.  By 1968, inflation had increased to 4% and showed every sign of accelerating further (and indeed it did).  In its report for 1968, the Federal Reserve Bank of St. Louis pointed out this increasing rate of inflation with alarm.  It appeared to be the number one economic issue facing the country.

This meant an aspiring homeowner had to deal with not only an increased mortgage rate (which would ordinarily drive housing construction down), but the belief that, if s/he didn't buy a house now, then in 3 or 6 or 12 months those mortgage rates would be even higher.  Needless to say, the prudent buyer bought now rather than later, despite the higher interest rates.

And that's what the graph shows (green line is YoY inflation rate):



Notice that these sales only borrowed from future demand, as at the end of 1969 the US entered its first recession in almost 10 years.

The same dynamic was in play in 1978, with the same result.  Here's the graph:



Additionally, in 1978, there were several months that mortgage interest rates (orange) declined significantly, and were in fact negative YoY.  This coincided with spikes in housing.  Contrarily, there were several months in 1978 that were negative YoY, although not negative enough to result in a negative YoY quarter. Nevertheless, the reckoning was only delayed until 1979.

That leaves only 1962.  I have been unable to find any reliable source of what may have happened with mortgage interest rates that year.  We can say that the increase in interest rates was relatively short-lived, and that while housing never turned negative, it did turn lower for about a year, falling under +50,000  for 3 of those months.  You can also see that inflation (green) began to tick up at this point:




In short, the exception to the rule that rising interest rates are associated with a decline in housing about 6 to 12 months later is when the costs of buying a house not only have risen, but it is expected that they will rise even further in the immediate future.  In those circumstances, it makes sense not to delay the purchase of a new house even though interest rates have already moved against you.

So, is there a component of "buy now or be forever priced out" in the present environment?   Actually, I believe there has been, evident in the spikes of demand in July and August in existing home sales, and in October and November in housing starts and permits, as shown in this graph of housing permits (blue), new home sales (red), and existing home sales (green) since January 2013:



A number of buyers may have tried to lock in rates before they rose any further, as evidenced by the surge in existing home sales in July and August, and permits and new home sales in October and November.  That dynamic appears to be fading, and there does not appear to be any mentality that mortgage rates will continue to rise significantly from here.  If anything, interest rates seem likely to meander around their current level, and buyers will take advantage of the dips.  But that is not the same as "buy now or be forever priced out."

The bottom line is that the exception to the rule that rising interest rates cause a decline in the housing market does not appear to be in play at present. So, having considered the exceptions to the rule, I continue to believe that housing will actually experience a decline (that has already begun) in approximately the first 6 months of 2014.

Existing home sales down YoY and down 10% from high for second month in a row

 - by New Deal democrat

Let me be the first to say that, of the measures of the housing market, existing home sales are the least important, because they don't have the impact that new home construction has on the economy.
But, that being said, they typically move in the same direction as new home construction.

So, for the Doubting Thomases who think my forecast of a weakening housing market due to the rise in interest rates last year is off the mark, the title of this post states the simple facts.

For the second month in a row, existing home sales are less than they were a year ago.

For the second month in a row, existing home sales are down over -500,000 sales annualized from their July and August 2013 peaks.  November was off slightly more than 10%, and this month was -9.6% off that peak.

Here's the graph of existing home sales since their bottom at the end of 2010, with 2013 highlighted in red (set to 100 for January 2013):



And here is the same data presented YoY:



In addition to existing sales, both housing permits and starts have cooled down from growing at a 20% rate in 2012 to +4.6% and +1.6% respectively at the end of 2013.

So far, only new home sales have not meaningfully decelerated.  Those will be reported next week.

Additionally, Bill McBride reiterated this week why he remains bullish on housing and accelerating economic growth in 2014.  He and I do disagree on what some of the facts mean, but I want to wait for next Thursday's GDP report before I explain why.

Meeting Minutes Indicates BOE Is In No Hurry to Raise Rates

This is up over at XE.com

Gas prices stay near seasonal low for nearly 3 months

 - by New Deal democrat

Gas prices have stayed at their seasonal nadir at an unusually long time.  Over at XE.com, I discuss this in the context of whether the Oil choke collar is continuing to loosen.

Australian Employment Situation Getting Worse

This is over at XE.com

Chinese Market Continues Moving Lower

The Chinese market has been in a bit of a funk over the last nine months.  Prices dropped to the 1950 level in late June.  They rose to the 2260 level twice; once in September and once in early December.  But since early December, prices have been dropping.

The reason for the lack of any meaningful rally in China is the slowing growth picture.  On Sunday, we learned that YOY GDP growth slowed again to 7.7%.  While this is still high by developed world standard, it actually represents a decline from the Chinese story.  As a result, traders are sending shares lower.

Why the decelerating trend in housing and car sales is a cause for concern

 - by New Deal democrat

As I have already written, there are increasing signs that the increase in interest rates and the death of mortgage refinancing are beginning to eat into consumer purchases.  Specifically, growth is flagging as to both the two biggest assets owned by families:  houses and cars. 

I have been sounding the alarm about decelerating housing for awhile, but now this may also have spread to vehicles as well.  I say “may” because typically vehicle sales plateau at some point in expansions – but in the last expansion vehicle sales plateaued at a level 1,000,000 vehicles per year above the maximum number sold on an annual basis in 2013.

Below is a graph (averaged quarterly to cut down on noise) of  the YoY% growth in housing permits (blue) and auto sales (green), compared with GDP (red) for the last 30 years:

Now here is the same data for the last two years, but monthly better to show up the recent trend:

Note that, measured quarterly, both houses and cars are selling at a level of YoY growth that is very strong compared with the last 30 years, even though there has been a significant decline in that rate of growth.  At the same time, when we look at the trend on a monthly basis, both housing and cars look set to turn negative by the end of the first quarter.

That housing and cars are showing relative weakness may not sound like a big deal.  Until you remember a paper presented by UCSD economist Edward Leamer at Jackson Hole in 2007, Housing and the Business Cycle, in which he said:

We have experienced 8 recessions preceded by substantial problems in housing and consumer durables....
....
Residential investment consistently and substantially contribute[d] to weakness [in GDP growth] before [these 8] recessions....
....
After residential investment as a contributor to prior weakness come consumer durables, consumer services, and then consumer nondurables.  Those are all consumer spending items -- it's weakness in consumer spending that is a symptom of an oncoming recession....  The timing is: homes, durables, nondurables, and services.  Housing is the biggest problem in the year before a recession... durables is the biggest problem during the recession [although consumer durables declined even more than housing before 2 of the 10 post World War II recessions]

The same interest rate or other variables [mainly employment] drive both the housing cycle and the durables cycle....  It turns out that much of the amplitude in consumer durables comes from vehicles not furniture

If you look at the first graph above, you'll see at least 3 occasions that were "false alarms."  Both houses and car sales turned negative YoY in 1987, 1994, and 1996 without any recession ensuing.  But they did turn negative significantly before all three of the last recessions, including the 2007-09 recession that was just about to begin when Leamer gave his presentation at Jackson Hole. 

Leamer said that on average housing's relative contribution to GDP turned down about 5 quarters before the onset of a recession, followed several quarters later by cars. *If* the present trend continues, there is an excellent chance that housing and cars will be negative by mid-2014.

A note for Sunday: a maturing expansion

  - by New Deal democrat

I thought I'd pen this note to clarify my 2014 forecast a little.

I wrote that I think this will be a year of decelerating growth.  I am still positive about the first three quarters of this year, and almost all of the indicators I use indicate that the present quarter, like the second half of last year, should be very positive.

And I do not foresee any recession, at least through the first three quarters of this year.  I'm withholding saying anything definitive about the 4th quarter until I see how corporate earnings play out in the current reporting season.

So I'm actually not pessimistic about this year at all.

Where I differ from most people who have written forecasts is that, while I expect the news to remain positive, I also see it being not quite so positive as the year progresses.

The most obvious difference I have with most is that I expect housing permits and starts to actually turn negative during the first half, in fact if the trend continues they'll be negative within 3 months.

If you want a simple phrase that captures my feeling well, it would be that we are in a maturing expansion.

All of the things that I would expect to turn up early have turned up.  With the exception of interest rates, none of the things I would expect to be negative a year or more out from a recession are negative.

Still, I feel a little like I did at the beginning of 2009.  We were in the epicenter of the recession, when I noticed that retail sales had stopped dropping like a rock.  I also saw that the pace of housing permits had been plummeting at a rate of -500,000 a year or more for several years, and was under the absolute level of 600,000 annualized.  Housing almost literally had to bottom in early or mid 2009, unless it was going all the way to zero!  So I started to watch for signs of a bottom or a turnaround.  And since I had been very bearish, even comparing the situation in 2007 to 1929, Doomers turned on me (and Bonddad) with a vengeance.

For a long time I've been trying to find sort of "anti-coincident" economic indicators.  These would be indicators that turn up or down after the lagging indicators but before the leading indicators of the next move.  There seem to be several, and they all appear to have peaked.

In general, what I am seeing are trends that I would expect to see in an expansion that is still moving along, but is getting a little long in the tooth.  For example, recently an increase in capital expenditures has been cited by bulls.  But that may well be a signal of a late point in the cycle.

This week or next week, I plan on writing about these trends, and more about my bearish housing call.  There is more supporting data, and I've pretty well figured out why 4 out of 21 times since WW2 that interest rates rose, housing didn't fall, so I'll explain that as well.

So I'm not actually pessimistic about 2014.  I am simply increasingly confident that we are in "a maturing expansion."  What is depressing is that wages are still stagnant, real disposable personal income has been improving at a pathetic rate, and employment is nowhere near recovering to its pre-recession level on a working-age population basis.

International Economic Week In Review: The Non-Threat of Inflation Continues

Last week, the biggest news was the continued lack of global inflationary pressures.  The US’ core PPI was 1.4% Y/Y while the core CPI printed at 1.7% for the same period.  Germany’s WPI was .4% M/M, Italy’s was .2% M/M and .7% Y/Y while Spain’s was .3% Y/Y.  UK inflation dropped a bit, with core CPI coming in at 1.7% Y/Y and core PPI coming in at 1% Y/Y.  The sum total of all this news is central banks in the US, EU and UK have nothing to worry about from inflationary pressures.  Should each bank want to continue their policy of low interest rates, they certainly can.

More over at XE.com

Weekly Indicators for January 13 - 17 at XE.com

 - by New Deal democrat

Weekly Indicators are up over at XE.com.

Remember the polar vortex from last week?  It seems to have kept consumers indoors and freight from moving.

December housing permits and starts: least improvement in almost 3 years

 - by New Deal democrat


I discuss this morning's report on housing permits and starts over at XE.com.

Both of these series continue their deceleration and are on the verge of turning negative YoY.

Housing: the last time low interest rates got 'less low,' it wasn't 'different this time'

 - by New Deal democrat

Two  signifiant arguments contra my contention that housing demand will actually decrease at least for awhile YoY this year are that (1) there is a lot of pent-up demand, and (2) interest rates at 3% are still low so there shouldn't be that much of a reaction.

Fair points.  But this isn't the first time that there has been pent-up demand for housing in an era of low interest rates.  While the statistical series aren't identical, they clearly show that there was a huge housing bust during the Great Depresssion, that lasted through World War 2.  Then all the GI's came home in 1945 and got busy making babies. Boom!

And interest rates were low throughout the 1940's and 1950's, rising to no more than 3% until about 1957.  While the 10 year or 30 year treasury bond series doesn't go back that far, the archival series "long term US government securities" does:



Note the series LTGOVTBD overlaps with the 10 year treasury series during the 1960's.  Here's the comparison of YoY% changes in each, to show how closely they correspond:



Similarly, the series "nonfarm housing starts" began in 1946 and ended in 1969.  Here is the YoY% change in each during their period of overlap in the 1960's:



Now that we've established that the late 1940's and 1950's, like the present, were an era of pent-up demand with low interest rates, and we have two data series that will show us the correlation between changes in interest rates and housing starts, let's plot their YoY% change on a quarterly basis from 1946 through 1962 (I've already covered 1963 to the present):



The argument against my bearishness is that minor changes in interest rates won't result in major changes in housing demand.  But in the post-WW2 suburban Baby Boom era, far from being muted, the changes were magnified.  A change of as little as 0.2% in interest rates was associated with changes of 200,000 or more in housing starts. On 5 of the  6 occasions from 1946 through 1962 that interest rates increased YoY, housing starts fell YoY, in each case by at least 100,000 units annualized (even in 1962, several months were negative YoY, although no quarter was).

Previously I've shown that on 12 of 15 occasions since 1962 when interest rates have gone up by 1% YoY, housing permits have fallen by -100,000 or more.  This data makes the total 17 of 21 times over almost 70 years, and even with interest rates rising by less than 1%.

So, could it be different this time?  Certainly.

But what we can say is that the last time, like this time, that it was "different this time" because of pent-up demand and low interest rates,  it turned out that it actually wasn't "different this time."

Population adjusted initial jobless claims and the unemployment rate: an update

 - by New Deal democrat

Occasionally over the last few years I have remarked upon the usually tight relationship between population-adjusted initial jobless claims and the unemployment rate. Overall the unemployment rate tends to follow the trend in the population-adjusted initial jobless claims with about a 6 to 12 month lag:



Thus, while we can quarrel about the reasons, the fact that the unemployment rate has continued to drop sharply over the last year, following the trend in initial claims, was not unexpected.

With initial claims near historical lows as a share of population, the issue becomes whetherr the unemployment rate can fall much below 6%, or whether the gap that opened up in 2009 will ultimately be closed.

I anticipate that the unemployment rate will continue to fall, perhaps at a somewhat slower rate, to about 6%, but have a very difficult time declining meaningfully below that level.

There is no "falling rate of personal consumption growth"

 - by New Deal democrat

Yesterday the blog "Capital Spectator" featured a post entitled Is the falling rate of personal consumption growth a new risk factor? featuring this graph of the YoY% change in real personal income:




The blog is a good and respectable source of information, but in this case, I think they made a mistake.  The entire "decline" for 2013 is contained in last month's data, and there's a very good reason why that happened.

Here's a bar graph of the monthly percentage change for the very same data:



Notice the huge spike upward in November and December 2012, and similar spike downward in January 2013.  That's because of moving taxable income forward from 2012 to 2013 due to the higher tax rates that were anticipated due to the "fiscal cliff" expiration of the Bush tax cuts  at the end of 2012.

So the November 2013 - January 2014 YoY comparisons now will be between "regular" monthly changes now vs. the very volatile changes of one year ago.

When we back out the months of tax law timing, here is the YoY% comparisons we get:



Flat.  There is no "falling rate of personal consumption growth."  Not that Zero Hedge won't have an article trumpeting the alleged downturn when the December comparisons come out at the end of this month.  Or that they won't be completely silent about YoY January comparisons too.

The relationship between interest rates and stock prices has changed

  - by New Deal democrat 

The correlation between stock prices and interest rates has completely changed for the last 15 years, compared with the previous 40 years.  I have a new post up at XE.com explaining how and why.

USD/JPY Tops Out For Now

This is up over at XE.com

The state of the consumer: "I'm not dead yet!"

  - by  New Deal democrat

Like the character in the "Bring out your dead!" Monty Python skit, the American consumer keeps protesting that s/he isn't dead yet.

So why, given wages that are several percent below their 2010 peak, do consumers keep spending?

Let's go back to the paradigm for the American consumer that I first set forth 6 years ago.  In order to increase spending, the American consumer must either:

• have a wage increase
• be able to refinance debt at lower rates, thus freeing up cash
• be able to cash in an appreciating asset

Let's look at each in turn.  First of all, while inflation adjusted wages have been overall flat for the last 5 years, there has been a tick up of several percent since the late 2012 bottom:



On the other hand, as shown in this graph from Mortgage News Daily, the increase in interest rates has well and truly killed refinancing:



Finally, here is a graph of Americans' total net household worth, via Doug Short:



Why has household net worth almost completely rebounded?  Mainly because of increasing house values, as shown in this graph of the Case Shiller index:



Secondly, more affluent households who rode out the downturn in the markets during the Great Recession are seeing their 401k balances completely recover along with stock prices, as shown in this graph of the S&P 500:



We know that there is a wealth effect, and for now the wealth effect is picking up where debt refinancing left off.

As an aside, here is the graph of those "Not in the Labor Force, Want a Job Now" I ran on Friday:



Notice the spike downward in the last 6 months.  I do not think it is coincidental that it mirrors the graph of household worth above.  The Altnata Fed has reported that in the last couple of years the percentage of those leaving the workforce due to retirements has increased, and I suspect that the recent spike in net worth has caused a stampede of Boomers for the exits.

International Week in Review: US Payroll Shocker Edition

This is over at XE.com

A thought for Sunday: when it comes to inequality of opportunity, yes there IS something wrong with the Pareto principle

 - by New Deal democrat

 Prof. Brad DeLong reposts an essay on inequality of opportunity from Angus Deaton:

Even if we believe that equality of opportunity is what we want, and don't care about inequality of outcomes, the two tend to go together, which suggests that inequality itself is a barrier to equal opportunity.

What about envy of the rich? Economists have a strong attachment to something called the Pareto principle ...: If some people are made better off and no one is made worse off, the world is a better place. Envy should not be counted....

.... 

To worry about these consequences of extreme inequality has nothing to do with being envious of the rich and everything to do with the fear that rapidly growing top incomes are a threat to the wellbeing of everyone else.

There is nothing wrong with the Pareto principle, and we should not be concerned over other' good fortune if it brings no harm to us....

I beg to differ.  The Pareto principle is an extremely conservative restriction that entrenches existing inequalities of power and wealth in place, virtually in perpetuity.

Let me explain.  Below is a graph taken from a recent Harvard and Duke study, in which they asked Americans what they thought the existing distribution of wealth is, and what they think it should be, comparing those with the actual distribution of wealth:



Americans think the top 20% owns about 55% of the wealth. They think a fair distribution would be for the top 20% to own 33% of the wealth.  In fact, the top 20% owns about 82% of all the wealth in the US, and the bottom 60% own only 4% of the wealth (and the breakdown only gets more lopsided when we consider the top 5%, top 0.5%, and top 0.05%).

So, let us say that we democratically as a society decide that equality of opportunity should result in our fair wealth distribution as described above, and so we enact frictionless and fair policies, consistent with the Pareto principle, to move to the wealth distribution that Americans say would be fair now. How long would it take to get there? When would we arrive?

The answer is:  never.

Under the Pareto principle, we cannot redistribute existing wealth, since doing so would make those from whom it is redistributed worse off.

We can try to get around this two ways:  the first is, we only pass policies to ensure that future economic growth winds up being allocated, after taxes, in the distribution we have chosen as fair, or some facsimile thereof.

So we arrange our tax and other public policies to assure that not a cent of existing wealth is redistributed, but future growth winds up adding 33% of the total to the top 20%.  Yes, I know we are talking unicorns and rainbows, but here's the point:  even if we could do that, even if we did it for 10, or 20, or 50, or 100 years, or forever, we would never arrive at the wealth distribution we believe is fair.  The top 20% would always have 33% of the wealth accumulated since now, and more than 33% of the pre-existing wealth.  Thus, out into infinity, they would always have more than 33% of the total wealth. (Yes, I know what I've just written is a vast oversimplification blah blah blah. Note to economists: just consider it a "model," and then it's all good.)

The only way to get to 33% via future policies is to ensure that, for some period of time, the top 20% accumulate less than 33% of the new wealth, which we already have agreed is unfair, since we have agreed that they should have 33% of the wealth.

Needless to say, if our policies are far more incremental, which is of course far more likely, then we never even get close.

But wait, you say, people die. We simply change our estate tax laws to approximate what they were back in the 1930s, and prevent the transfer of $Billions to succeeding generations of heirs.  There are several problems with this.  The first is that, depending on how the tax laws are written, it will take decades to lifetimes to come to fruition.  The second is the objection that existing plutocrats derive pleasure from the fact that they can dispose of their wealth, upon their death, as they see fit,  and if that means ensuring that their heirs out unto the generations remain among the plutocrats, that is their right.  If we interfere with that, we are making them very sad.  The Pareto principle is violated.

The bottom line is, any choice by society to enact policies to move away from an existing distribution of wealth - even, let me emphasize, unearned, inherited wealth - violates the Pareto principle.

If Prof. Garcia's and DeLong's critique of inequality is correct, then surely it should not take a lifetime of resolute effort to approach a fairer result, and in fact the Pareto principle does not even permit that. The Pareto principle entrenches plutocracy.

So, I am sorry, Professors, but when it comes to entrenched inequality, there IS a problem
with the Pareto principle.

UPDATE; Just to be clear that this is not just about envying wealth, let's consider in our land of unicorns and rainbows that we have had a Rawlsian conference in which we have agreed to relentlessly enforce equality of opportunity.  We then have a 10,000 year test run in which we reord the resulting distribution of wealth, which I'll call summation X.

We now go back into real history where we already have not had equality of opportunity, and we have any existing, different distribution of wealth.  The Pareto priniple forbids us from ever arriving at summation X.  A certain amount of wealth and assets can never be owned by those who should otherwise own them by dint of their efforts under conditions of equality of opporltunity. Why should we give our allegiance to such a principle?

======

P.S.: My primary solution to the above is to ignore the claimed utility as to heirs not yet in existence.  I have no problem with Bill Gates or Henry Ford passing on their wealth, minus a reasonable tax rate, to their children or grandchildren.  But by the time we get to great great grandchildren, inherited wealth should be taxed at confiscatory rates, e.g.,90%.  I would only apply this to that portion of wealth that is inherited.  If granddad leaves me $100 million, and by dint of acumen and industry I turn that into $1 Billion (after inflation) by the time of my death, only the inherited portion, i.e., the first $100 million, should be subject to the confiscatory rates.