Download Aftershock Newsletter July 2012 Is the US Headed Toward

Aftershock Newsletter
July 2012
Is the US Headed Toward Recession?
Last month we discussed some of the indicators of a major economic slowdown around
the world, but what about the US? So far we have avoided a severe downturn, although
we are clearly slowing down. But, how much further will this slow down go and could
we actually enter a recession? Well, even now we find ourselves awfully close to
recession. Recent estimates put growth in GDP during the second quarter at an annual
rate of just over 1 percent. That's a big disappointment after earlier forecasts projected
a 3 percent growth rate and the cheerleaders were announcing the recovery.
So the big question many people are asking is: Will we rebound in the second half of this
year, or will the slow-down continue?
In order to answer that question, we first need to understand the reason the economy
has been growing in the first place. And the reason, of course, is massive government
stimulation, both through deficit spending and money printing.
The problem—for the nearsighted cheerleaders, anyway—is that both deficit spending
and money printing have slowed. We still have a huge deficit, of course, but in order to
keep stimulating the economy, deficit spending needs to be consistently growing, and
that hasn't happened. Instead, the deficit has actually declined somewhat. In the
meantime, we haven't seen another round of money printing (QE), which means the
money supply has actually been pretty stable for the past year, after growing at an
unprecedented rate in the years following the 2008 financial crisis.
The other problem for the US economy, as we explained in our earlier newsletter about
deteriorating trends around the world, is that the rest of the world is slowing down too.
From China to Europe to emerging markets, the trend is down, and this has major
implications for the US in the immediate future. (It’s worth noting that a big part of the
reason for the slowdown in China and Europe is the same as in the US: a slowdown in
government stimulus.)
Without the stimulus that was fueling economic growth, and with trading partners
contracting, the trend for the US is likely down. And the numbers bear this out. The
Weekly Leading Index from the Economic Cycle Research Institute (ECRI) has us already
in recession. As we mentioned in our last newsletter, the ISM manufacturing index, an
excellent leading indicator, went negative recently for the first time since the last
recession in 2009. The Philadelphia Fed's business-outlook survey sits at a disappointing
negative 12.9. And retail sales have been negative for the last three months, and
trending lower since February. Meanwhile, corporate profits have been declining, which
means employment is likely to follow.
But, many people are ignoring these signs of recession and saying that a rebound is
underway and will take hold in the second half. Of course, did these same people
predict the current slowdown? Of course not, but many people still like to listen to what
they say.
And, what are they saying to encourage us to ignore the recessionary signs and talk
about recovery instead? They’re telling us to focus on little green shoots (sound
familiar?) in particular, positive recent trends in housing and automobiles. In the case of
housing, there is an uptick in new home construction of over 20% since last year. But,
when you put it in a longer term perspective, as shown in the chart on housing starts
since the 1960s below, it doesn’t look quite as impressive. Of course, it’s still an uptick.
Auto sales are also up almost 20% versus the same time last year. However, much of the
increase in auto sales is due to a big increase in sub-prime auto loans (almost 40% are
now sub-prime) and channel stuffing by manufacturers. Channel stuffing helps sales
figures look better because sales are recorded when cars leave the factory, not when
they are sold to consumers. For example, dealers of GM cars are sitting on 70% more
cars than they had in 2010.
Home sales are also being boosted by direct government actions including very, very
low down payment FHA loans as well as a big slowdown in the rate of foreclosures.
Record low mortgage rates guaranteed by the government are also helping a lot.
Of course, government stimuli can last for a while, as can sub-prime loans to car buyers.
So, the trend in those industries could continue for a while. But, unfortunately they
aren’t the only parts of the equation. These small upticks are not enough to quickly
offset the overall trend toward recession in the economy. The only thing that could do
that is more large scale government stimulus, such as big increases in deficit spending
and money printing. We expect more money printing to come eventually, but it's not
going to be tomorrow and it may not be before the November elections. A big increase
in deficit spending is unlikely during the next year no matter who wins the White House.
So, even though we’re not tumbling toward recession—this is more of a slow crawl-there's little reason to believe the economy is going to have a big rebound in the second
half. Instead, without big government stimulus, we’re likely on the road to recession,
albeit a slow road. And of course, there’s one reason we can be almost certain we're
headed for recession: Ben Bernanke says we're not!
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