The December Economy
by Guy Baker
Hopefully everyone had a great Thanksgiving celebration, and despite the poor economic news, you are optimistic about the American economy and its ability to survive the disaster we are witnessing.
Whew!!! Here is the latest negative news that came out at the end of November.
- The housing sector has not yet started to recover from the traumatic shock it received in September. Home sales are down 1.6% from a year ago, and the median price of existing home sales fell 11.3% compared with a year ago. The inventory of existing and new homes increased to over ten months.
- The Commerce Department revised the GDP report from -0.3% to -0.5% for the second quarter of 2008. This is coupled with corporate profits having fallen for the fifth consecutive quarter.
- To make matters worse, personal consumption dropped 1.0% in October, making it the fourth straight monthly decline and the largest total reduction since 2001. Consumers are not going to lead us out of this mess and seem to be sitting on their wallets as we enter the critical holiday shopping season.
- Orders for durable goods were lower by -6.2% in October.
If there was any good news this month, the savings rate jumped to 2.4% in October from 1.0% in September. Unfortunately, this reflects the lack of consumer consumption which has been the heartbeat of America for 15 years. This is not what the U. S. economy needs right now. Lynn Franco, Director of The Conference Board's Consumer Research Center told the group, "Consumers remain extremely pessimistic." They must be looking at the same data.
Are there any remedies for this mess? It appears that the federal government is following the Keynesian theory for managing a major recession. If the consumers won’t spend, then make government do it. John Maynard Keynes, who has been dead for fifty years, proposed government consumption would have to replace personal consumption in order to pull the economy out of the doldrums. Both Bush and President elect Obama subscribe to this prescription.
The Bush administration has “invested” more than a trillion dollars so far, and the Obama team is preparing an even larger stimulus package for after January 20. Some of this might get paid back. But the net effect is the Federal Deficit has jumped astronomically.
If the government actually does end up buying some of the bad mortgages, who ends up with the loss, if the housing market never gets back to its pre 2008 values. It will take generations to pay this off. The net result is that we could be nationalizing the housing and banking sectors of our economy. Government has proven it cannot manage medicare, social security or earmarks. So what are the chances it can manage the banking industry?
THE MARKETS
The markets did overlook the bad economic news. The Dow was up [+9.73%; -33.44%], the S & P 500 was up [+12.03%; -38.96%], and the NASDAQ Composite was up [+10.92%; -42.10%] for the last week of the month. For the S & P 500, it was the largest weekly advance in several decades.
The federal government’s announced aid for Citicorp brought optimism to the markets. A second factor seemed to be a positive reaction to the Obama economic team. The announcement and the makeup of the group brought some sanity and a level of confidence to investors. Familiar faces like Paul Volcker and Lawrence Summers seemed to stabilize the markets.
Obama also announced he would not tinker with changes in the capital gains and dividend tax rates, until things stabilized and got back on track. This was a positive that was not apparent during the election.
Those who fled to safety received a rude shock. The interest rates on 30-year and 10-year U. S. Treasuries fell a lot, while the yield on 90-day T-bills remained at essentially zero. Evidently, the law of supply and demand is still in operation, regardless of the government intervention and regulation. We also saw more evidence of confidence as foreign investors increased their capital investments into the economy.
November saw the price of crude oil continue to decline and stabilize around the $50 mark. At week’s end crude was up to $54.20. But this did not stop the continued decline in gasoline prices, as they continued to fall below the two dollars in some parts of the nation. It does not seem like the media is interested in this result, as they continue to focus on all of the other bad news.
PERSONAL FINANCIAL PLANNING – Strong Dollar
Last summer, the Euro (€), which was introduced in January 2002, was trading at about $1.55, near its all-time high of about $1.60 and closed last Friday at $1.27. In recent months, it has fallen dramatically against the dollar. Despite all of our problems, housing, frozen credit markets, and a rapidly increasing federal deficit, it would seem like the opposite would happen.
- A Weak dollar makes our American manufactured goods less expensive. Cheaper for foreigners to buy means more exports. It also benefits American companies doing business in Europe, such as Coke and McDonalds, who will see higher earnings because they can generate more and more earnings per share.
- Alternatively, a weak dollar means buying foreign goods and services is expensive. So U.S. investors have to pay more to invest and travelers have to pay more for food and lodging.
With the dollar gaining strength not only against the Euro, but just about every other foreign currency as well, these positives become negatives.
- Foreign investors searching for safety, not yield, are willing to purchase U.S. Treasuries. The "fear factor" drives up demand for our currency and weakens others.
- The Euro may be coming back down to earth. The 45% appreciation over the past six years, given Europe's fragile economies, labor unrest, and political issues may have been unrealistic. Perhaps it is time for the pendulum to swing back our way.
- International mutual funds and hedge funds are struggling – victims of falling investments and rising redemptions. When investors redeem their holdings, the funds often shift to US dollars. This too adds to demand and drives up the value of our currency.
Unfortunately, a stronger dollar will make it more difficult to sell product abroad. That will affect corporate earnings which are declining. Logically, this decline is not good news for the stock market. It could also cause more manufacturing jobs to go overseas, which will in turn slow economic growth, and add further to our unemployment. Global companies will suffer most.
One might think international investments would benefit. But with the homogenization of markets due to globalization, this may not happen. Who knows what will really be the result. But it should be tough sledding for quite awhile.
FINANCIAL FACT OF THE WEEK
Here are some interesting statistics from the IRS in its 2008 Statistics of Income Bulletin.
- 1.2% of the U. S. adult population possessed 20.3% of the total U.S. net worth in 2004.
- For returns filed for 2006, adjusted gross income was $8 trillion, an increase of 8.2% over 2005.
- The IRS collected $21.6 billion of revenue from the Alternative Minimum Tax in 2006, a 24% increase over 2005.
Hopefully, the next month will be prosperous for you and your family.
Happy Holidays and for those who celebrate Christmas, Merry Christmas and Happy New Year.