The Independent Market Observer

Summer Slowdown

Posted by Brad McMillan, CFA, CAIA, MAI

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This entry was posted on Jun 22, 2012 9:03:30 AM

and tagged Market Updates

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We talked yesterday about the unemployment statistics and about how what is generally reported is not so much misleading as it is incomplete. That discussion is actually—and not by accident—a good lead-in for today.

There has been a great deal of coverage of the slowing recovery and of how that slowdown might mean a recession. Let’s look at what this means both for now and into the next six months or so.

The most recent reports on pretty much everything show that, to a greater or lesser degree, the U.S. recovery has been decelerating. Retail sales, employment growth, housing sales, you name it, have slowed. All true, but, as with the employment stats, sometimes things look different—not necessarily better, but different—once you start peeling back the onion.

For example, let’s take retail sales. As I have said before, the consumer is about two-thirds of the economy, so retail sales (i.e., how much people spend) is a big deal. In the middle of last week, the retail sales report stated that sales actually fell. Terrible news, right? Not so fast. It was mostly due to a larger decline in gasoline sales as gas prices dropped, which is actually a very good thing. Falling gas prices puts money in people’s pockets for other, more stimulative spending. Another positive factor was an increase in auto sales, which is also very stimulative for the economy as a whole.

Overall, the report still was not great, but fully understood it probably indicates future sales growth of about 1.5 percent to 2 percent per year, which is reasonable and consistent with expectations. That is a lot better than the decline, as reported.

Another good example is reports of the continued focus on the weakness of the banking system and the credit crunch that has been crippling businesses. Again, these effects are real; however, bank lending has actually started to grow again and consumer credit has also been increasing. The increase has not been as large as before, but that too is in fact a good thing because it was excess credit that helped get us into this mess. The credit markets are still slowly normalizing, but progress is being made, and overall growth is approaching a normal level.

Finally, I want to make a point about employment reports. As I discussed yesterday, I believe that the U-6 series is the best unemployment indicator, but multiple factors affect even that. Another way to look at the issue is by employment growth versus the growth of the working population.

Employment growth, which was around 250,000 a month earlier this year, has declined, most recently to about 70,000 a month—a big slowdown, extensively reported, and certainly a negative factor. Nevertheless, slow growth remains growth, not a decline, and employment growth is also only part of the picture.

The other part is the size of the working population, and two factors are at work here. The first is that, from 2002 to 2007, times were pretty good, and demand was inflated by the availability of cheap credit. To assume that the employment levels of that time period were normal doesn’t seem reasonable. An argument can be made that there was over employment then, driven by businesses’ desperation for warm bodies, as much as by underemployment in a more normal period.

The second factor is the growth of the working population. How much a given level of employment growth erases unemployment depends on how much the supply of labor is growing.

Historically, employment had to grow around 125,000 per month just to break even with population growth. With the aging of the baby boomers, and the decimation of their retirement accounts, older workers are staying in the workforce longer. But there is a limit to this. At some point, and it may be starting now, workers aging out of the workforce may start to outnumber those aging in. This will make any level of employment growth that much more effective in reducing unemployment.

In total, although the employment figures are certainly weaker than they were earlier in the year, they are not declining, and there is some reason to believe that the effective level may be somewhat higher. Not a great thing, but not quite as bad as the headlines would indicate.

Overall, when looking at the economy, a slowdown in growth is certainly happening, but it is remains just that—a slowdown in growth, not a contraction. A contraction is certainly possible, but that does not seem to be the way to bet just now.

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