Business of America is not consumption
James Saft is a Reuters columnist. The opinions expressed are his own.
HUNTSVILLE, Ala — If you think that the business of America is consumption, then sit back, enjoy the Black Friday sales and take heart from the recent upbeat data on spending and income.
If, on the other hand, you think the future of the U.S. is going to have to be productive industries which throw off the cash flow that funds the paychecks and pays for the $5 made-in-China Barbie dolls at Wal-Mart, then perhaps you had better take note of the sharp slowdown in orders for durable goods.
The contrast between consumption and investment really could not be more stark.
The U.S. Commerce Department said on Wednesday that consumerspending rose by 0.4 percent in October and also upgraded spending growth in September to 0.3 percent. Incomes rose by 0.5 percent in the month, one of the best such showings this year.
This, in combination with fewer first time jobless claims than expected was enough to drive U.S. shares up by more than 1.0 percent on Wednesday, despite continued funding and banking woes in Ireland and elsewhere in Europe.
To be sure, in an economy where consumption accounts for more than 70 percent of gross domestic product, growing income and rising spending are good news, or rather will tend to temporarily mask the underlying issue of too much debt serviced by too little income.
That, it is now crystal clear, is the game being played by the Federal Reserve in launching its second round of quantitative easing, the minutes of the central bank’s most recent meeting show:
“Most participants judged that a program of purchasing additional longer-term securities would put downward pressure on longer-term interest rates and boost asset prices; some observed that it could also lead to a reduction in the foreign exchange value of the dollar. Most expected these changes in financial conditions to help promote a somewhat stronger recovery in output and employment while also helping return inflation, over time, to levels consistent with the Committee’s mandate.”
The key concept in terms of the consumer is the hope that higher asset prices will drive an economic recovery, the unstated idea underlying this being that people will spend more if their retirement savings and houses have risen in value.
It is the same medicine that made the U.S. economy so sick, but the dosage is being upped nonetheless.
DURABLE GOODS, CHANGEABLE CONSUMERS
So, consumers are spending and the Federal Reserve has a plan to entice them to do more, perhaps even driving down the current 5.7 percent savings rate.
What is far less apparent is where the ultimate income will come from to service the debt and finance the consumption.
Perhaps more meaningful over the medium term is other data released by the Commerce Department on Wednesday, a durable goods report that was very poor but which got little attention.
Non-defense capital goods orders excluding aircraft, a shorthand for business investment, dropped 4.5 percent in October after rising by a revised 1.9 percent in September.
Markets had expected about a 1.0 percent increase and indeed, if single economist made a forecast as low as the result I have not been able to find her.
Overall orders for durable goods fell by the most in almost two years, falling by 3.3 percent to a seasonally adjusted $196 billion. Remarkably, all industrial new order components declined, making it hard to argue that this was a fluke in this or that volatile sector.
What seems to be happening is that inventory restocking, building up stores of goods in hopes of future sales, is finally winding down after having driven economic growth for most of the year. Inventories rose by 0.4 percent, rising for the tenth consecutive month, but by a bit more than half the rise in September.
It is extremely hard to see inventories rising in November and December with new orders doing what they are doing. The three month trend is still strong, but that does not preclude the possibility that we are coming to the end of an inventory building recovery. If businesses begin to actually run down their inventories as a defensive measure, it is possible that the fourth quarter will mark the end of what will prove to be the weakest modern U.S. economic recovery ever.
If that happens, the Fed’s decision to buy bonds will be confirmed, but not because it helped employment grow or sparked a consumption-aided acceleration in the economy.
Instead, it will be because QE will prove to be one of the few tools left to fight deflation.
At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund.