Friday, January 27, 2012

One more update on Black Friday, Holiday Sales, and Consumer Spending

In late November, I commented on the historical relationship between Black Friday and different measures of consumer spending (holiday sales and fourth quarter consumption).  Many commentators were optimistic about economic growth for the quarter, given the strong performance of Black Friday sales.  With the release of today's GDP report, we can now consider that relationship for 2011.  With the exception of 2006, Black Friday sales have been a poor predictor of overall consumer spending for the quarter (sometimes too high, while other times too low).  This time, Black Friday sales proved to lead to too much optimism about the consumer.  It appears that Black Friday led to an early burst in consumer spending that disappeared in December, resulting in modest gains in holiday sales and consumer spending.  See the updated chart below for more information (numbers in parentheses are adjusted for inflation; consumption is already adjusted for inflation):
Year
Black Friday
Holiday Sales
Consumption Q4
2011
+6.6% (+4.0%)
+4.1% (+1.5%)
+2.0%
2010
+0.3% (-1.0%)
+5.2% (+3.9%)
+3.6%
2009
+0.5% (-1.0%)
-0.4% (-1.9%)
+0.4%
2008
+3% (+1.3%)
-2.8% (-4.5%)
-5.1%
2007
+8% (+4.5%)
+2.4% (-1.1%)
+1.2%
2006
+6% (+4.1%)
+4.6% (+2.7%)
+3.8%

Fourth Quarter GDP

This morning's report on fourth quarter GDP was a little disappointing, showing economic growth of 2.8%, which was below expectations.  Growth in personal consumption, the largest portion of the economy, grew at a 2% annual rate, which was in line with recent trends and didn't reflect the burst that some were expecting.  Spending on motor vehicles did surge, but spending on services was relatively flat.  Federal spending subtracted from GDP, led by a significant decline in defense spending (mainly reflecting the timing of purchases).  On a cautionary note for future economic growth, inventories were responsible for just under 2% of economic growth; thus final sales to domestic producers rose by only 0.9%.  In other words, when one removes the effect of a build-up of inventories, economic growth was under 1%.  The build-up in inventories suggests that future production will be constrained.
After rising to above 6% during the recession, the savings rate has declined to 3.7%, the lowest since 2007.  One reason is that real disposable income per capita was flat for the quarter and down for the year.  This raises concerns about consumer spending as we move into 2012.  On a more positive note, inflation as measured by the PCE deflator rose only 0.7%, the lowest since Spring 2010, reflecting a slowdown in inflation.

Overall, a weaker than expected report that continues to confirm a modest economic recovery without evidence of speeding up any time soon.

Wednesday, January 25, 2012

More on the Fed and Monetary Policy

Besides announcing that it has adopted a policy of inflation targeting, there was other interesting news from the Fed today.  In a continuation of the increased transparency introduced since Ben Bernanke became chair, the Fed released the forecasts of the expected future target for the federal funds rate.  Believe it or not, back in the early 1990s, the Fed didn't even inform the public of the current federal funds rate (financial markets had to figure it out on their own).  Alan Greenspan increased information somewhat, but Bernanke came in with a goal of increasing transparency so both the public and financial markets can better understand the Fed's policy.  Of course he didn't expect to have to deal with the worst financial crisis since the 1930s, which required a nontraditional, complex response.

The Fed also released the consensus forecasts of the Federal Reserve District Banks (click here).  In the past, the Fed was overly optimistic about the future state of the economy.  This time, it lower its forecasts, indicating a modest recovery for years to come.  Inflation is expected to be at or below its target for the next several years while unemployment is expected to decline only slowly due to moderate economic growth.  Given this forecast, the Fed indicated that it expects to keep the federal funds rate exceptionally low through late 2014 (emphasizing this was conditional on their forecast; that is, if the economy turns out to be stronger than expected, interest rates would increase sooner).

Of course the Fed continues to be criticized from both sides.  Some complain that it should be doing more given the relatively weak economic recovery while others think it's doing too much.  Personally, I enjoy being able to comment on the policy instead of being the one responsible for implementing the best policy, given all that's going on in the global economy!  As mentioned in previous posts, the biggest unknown is the severity of the European Debt Crisis.  If it leads to financial contagion, expect the Fed to loosen policy even further in an attempt to cushion the US economy from the financl fallout.

Inflation Targeting

Following today's meeting, the Fed annoinced that it adopted a policy of inflation targeting, with a long-term goal of 2% inflation.  This formalizes the informal target already employed by the Fed and follows the pattern of many other central banks around the world (Australia, Canada, New Zealand, United Kingdom, Euro area, etc.).  In most cases, their goal is also 2% inflation (or close to 2%).

Some may ask - why not 0%?  There are several reasons, but perhaps the biggest is the fear of deflation.  Once it takes root, deflation is hard to stop and tends to lead to a cycle of economic weakness (think Japan or the US' last bout with deflation - the Great Depression).  Most central banks in developed countries have chosen to target a rate of 2% to provide a cushion against possible deflation while maintaining a low and stable inflation rate.  Unlike most other central banks that target inflation, the Fed continues to have a dual mandate of maintaining full employment; something only Congress can change.

There are several ways to estimate inflation.  The one chosen by the Fed is the personal consumption expenditure (PCE) index, which has been recognized by most economists as the best gauge of consumer inflation since, among other reasons, it reflects recent spending patterns as opposed to an old survey (like the consumer price index).  It's important to note that this policy does not mean the Fed will seek to keep inflation at 2% all the time, but instead will seek to keep inflation close to 2% per year over time.  For example, if energy prices experience a temporary spike, causing inflation to temporarily rise above 2%, the Fed may not respond if it anticipates inflation will return to its target.

By the way, one of the leading proponents of inflation targeting has been Ben Bernanke (link to article by Bernanke from 1997).  Despite what many in the blogosphere think, Ben Bernanke has been a long-term advocate of low and stable inflation.  That doesn't mean his policies are perfect, but he is not seeking to implement policies that result in high inflation.

Thursday, January 12, 2012

Update on Black Friday vs. Holiday Sales

Two reports related to holiday spending were released this morning - retail sales for December and an estimate of holiday sales from the National Retail Federation.  We can now begin to update a post from late November which considered whether Black Friday Sales were a good predictor of holiday sales.  Below is a chart showing the growth in Black Friday sales according to Shopper Track and the growth in Holiday Sales according to the National Retail Federation from 2006 to the present, both in nominal terms and adjusted for inflation using the PCE index (in parentheses).  The final column shows the growth in the consumption component of GDP for the fourth quarter (initial estimate to be released later this month):


Year
Black Friday
Holiday Sales
Consumption Q4
2011
+6.6% (+4.0%)
 +4.1% (+1.5%)
?
2010
+0.3% (-1.0%)
+5.2% (+3.9%)
+3.6%
2009
+0.5% (-1.0%)
-0.4% (-1.9%)
+0.4%
2008
+3% (+1.3%)
-2.8% (-4.5%)
-5.1%
2007
+8% (+4.5%)
+2.4% (-1.1%)
+1.2%
2006
+6% (+4.1%)
+4.6% (+2.7%)
+3.8%

Black Friday sales now have outperformed holiday sales in 5 out of the last 6 years (the exception being 2010).  This year in particular, it appears that consumers front loaded their holiday spending, as retail sales only increased by 0.1% in December, declining slightly after adjusting for inflation.

Friday, January 6, 2012

December Job Report

At first glance, this morning's job report looks good: an increase of 200,000 jobs along with a decline in the unemployment rate to 8.5%.  Job growth was widespread (a good sign).  According to the BLS, one interesting area for job growth was the courier and messenger industry, which added 42,000 jobs, reflecting the surge in online sales (FedEx and UPS are in the courrier industry).  In addition, the data used to estimate the unemployment rate was revised and now shows a steadier decline in the unemployment rate.  The unemployment rate has declined from 8.9% to 8.5% over the last 2 months, predominantly due to job growth as opposed to a decline in the labor force.  Even if the labor force had remained steady in the last 2 months, the unemployment rate would still have fallen to 8.6%, indicating that most of the decline in recent months was due to increased employment.

On a less positive note, over the last year, labor force participation has declined from 64.3% to 64% over the last 12 months while the employment-population ratio has increased slightly (from 58.3% to 58.5%).  Overall, the December report was relatively good.  It'll be interesting to see how much of it is sustainable as we enter 2012.  Also, if the economy adds 200,000 jobs per month, it will still be 2014 before we make up for the jobs lost during the Great Recession.

Sunday, January 1, 2012

The Outlook for the Economy as We Begin a New Year

As we enter 2012, it's a good time to reflect on where things stand in terms of the economy.  Many are still surprised at the weakness of the economic recovery and argue about who's to blame.  As discussed elsewhere, weak recoveries and issues of sovereign debt are common following financial crises.  Though better policies in recent years may have helped, they would not have led to a robust recovery.  What's the outlook for 2012?  Sorry to say it's likely to be a modest recovery shrouded by uncertainty.  The biggest potential threat is possible financial contagion from the European Debt Crisis.  For example, if a default of a major European bank or country led to another financial crisis, that would tighten credit globally, leading to another recession.  If significant financial contagion doesn’t occur and instead many countries in Europe are in recession, that will the hurt the US economy somewhat.  How much of an impact depends on the depth and severity of the European recession (which probably started in the Fall).  Combine that with a slowdown in emerging markets (China, Brazil, etc.) and exports won’t grow nearly as fast as in recent years.
Of course unexpected events could have a significant impact on the economy (for example, in 2011 two events that affected the economy were the Japanese earthquake, which disrupted global supply chains, and the temporary spike in energy prices, which depressed consumer spending for a period of time).  One possible event this coming year is turmoil in the Middle East.  This could include Iran, which has threatened to block the flow of oil and also may face more sanctions or worse in response to its nuclear program, or countries that experienced the Arab Spring in 2011, but may not end up with stable regimes.

The structural problems facing the US economy have not been resolved, though we’re making some progress.  Credit is easier than it has been, but is still tight by historical standards (one needs top notch credit to get the best rinterest ates).  Consumer spending has picked up somewhat in recent months, but its outpacing the growth in income, resulting in a lower savings rate, suggesting that its not sustainable.  Chances are the growth in consumer spending will decline in the first half of 2012.  Investment continues to be a strong point of the US economy, with investment in business structures and residential investment finally adding to economic growth (as they increase from depressed levels).  That doesn’t mean construction will boom, but it’s starting to bounce off of the bottom.

What about consumer and business confidence?  Though politics and policy are not helpful, the primary issue continues to be consumer balance sheets and the after effects of the financial crisis.  For example, estimates of pessimism increased a lot in late summer and early Fall (in large part due to Washington's handling of the debt limit), but at the same time, consumer spending started to rebound.  The big constraint is still deleveraging (reducing debt) and weak income growth.  Job growth has picked up somewhat as the economy begins to add about 150,000 jobs per month, but that will lead to only a modest decline in the unemployment rate.  As noted elsewhere, recent declines in the unemployment rate are somewhat misleading as the labor force declines.  If people start returning to the labor force, the unemployment rate may stagnate despite an improvement in employment growth.

Assuming the debt crisis in Europe is contained (just a European recession) and China experiences a soft landing, the US economy will continue to experience a modest recovery in 2012 as it heals from the Great Recession.