- 2014 GDP growth may exceed 3%, over 200,000 new jobs a month for the next two years.
- Inflation averages 2%, so no threat, and Congress’s inflation hawks unwisely maintain austerity, hampering recovery.
- The Federal Reserve won’t raise short-term rates until mid-2015, long-term rates 4 to 4.5% by year-end 2016.
Economist Nicholas Perna is the economic adviser to Webster Financial Corp. and managing director of consulting firm Perna Associates. He has also been a visiting lecturer at Yale University.
Harlan Levy: What does the latest data tell you about the U.S. economy?
Nick Perna: Growth is picking up in the second quarter, but that's an easy thing to do, because there was so much crummy weather involved in the first quarter.
In the second quarter we're getting back to what the trend for the year is going to be, maybe close to 3 percent Gross Domestic Product growth or maybe just a little over 3. We then should be able to eke that out over the balance of the year.
Q: Retail sales reports were weak. What's happening?
A: There are a lot of problems with conventional retailers. People are buying more and more online, and some of the old guard retailers, particularly Sears (NASDAQ:SHLD), are having serious problems. That's only partly due to a modest economic environment and a lot of structural change taking place in retailing.
For example, I buy a lot of stuff online, things like shoes, which I never thought I'd do. It's very easy to do. If you know your size, you're not really taking a big chance. And most of these places will take them back if you want to return them. I joined Amazon, and I can get almost everything I want, like filters for my refrigerator without making a special trip to a hardware store.
The other thing is that excluding food, and to a degree fuel, prices aren't rising that rapidly. The nominal numbers - the actual dollars that stores are taking in - aren't rising rapidly, and that often means that margins are being compressed.
I'm an avid grocery shopper, and my wife is happy with that. I've been noticing more and more stealth inflation. The mayonnaise people did it several years ago when they came up with the 30-ounce "quart." I bought hot dogs for Memorial Day, and the pound package has 14 ounces. The list is incredibly long. Coffee started it all many years ago. We were in short pants when coffee came in a 16-ounce can. It's an attempt on the part of food processors and retailers to keep margins up.
Whenever I ask people, they usually don't think stealth inflation is included in the official gauges, it is. Stealth inflation is captured by the Consumer Price Index, because the Bureau of Labor Statistics measures things by weight and gives examples, like the shrinking chocolate bar.
Q: Is inflation getting out of hand, the way Republicans seem to see it?
A: No. The CPI has risen over the past year about 2 percent. We've had at least five or six years of really low inflation. Despite all the warnings from inflation hawks, especially because of the Federal Reserve's monetary policy, if you put any credence in consensus forecasts, you'll see it's going to be a little bit over 2 percent.
The credibility problem among the public has to do with how they perceive inflation compared how it's actually measured. They tend to put a lot of weight on the daily cost of living - especially food and gasoline - and yet total energy and total food are less than a quarter of the CPI. You also have home costs, cable and phone bills. But when food and gasoline prices go up the public tends to overestimate what's actually happening.
Another misperception is that people think that when it comes to calculating the annual Social Security cost of living adjustment the government excludes food and energy. It does not.
Congress has already reacted to the imaginary inflation threat by destimulating the economy over the last several years by imposing austerity when it wasn't necessary nor wise. It's not just inflation fear. It's also an ideological view of government - that it should be smaller, but Congress's actions are usually cloaked in arguments that budget deficits will unleash a tsunami of inflation.
They've been saying it for years, and I have no doubt that not only was there insufficient budget stimulation back in 2009, but they then slammed on the brakes much too hard and much too soon. That's why the Great Recession was followed by the Not-So-Great Recovery. And that not-so-great recovery celebrated its fifth birthday in June.
Q: What do you think of housing from the existing and new-home sale reports?
A: It's hard to know what the foul weather in the winter did, but what we seem to have is a fairly tepid housing recovery. We're nowhere near what may be considered normal in housing starts, and that's where most of the economic impact comes, because that's new construction.
Part of it is the long legacy of the financial crisis. There's still a lot of houses under water, so a lot of people can't move and can't sell their houses. And there's still a less than exuberant economy, which is needed to get a lot of housing going. People need to be confident and have good perceptions of their future income to invest in a house.
The other thing is that the experience of the past decade is that housing is no longer a no-brainer bet. Not only can prices decline, but it's a lot harder to leverage the way you could have done a decade ago. You could put next to no money down and let rising house prices generate sizable capital gains. Now you have to put your own money down, which is a different gain.
Add to that interest and mortgage rates are up on the magnitude of a percentage point, and that lending criteria are still more stringent than a decade ago. There may be a little relief on the way. The latest announcement by the regulator of the government-sponsored agencies, Fannie and Freddie is that they have no intention of reducing the maximum size of loans that are eligible for purchase.
Q: Manufacturing is also weak in the latest reports. Are you surprised?
A: Fundamentally, there's nothing wrong with manufacturing in the U.S. that faster growth in the U.S. and overseas won't cure. We're competitive. It's just that we have weak growth and demand here and abroad.
Q: What's your take on jobs this year and next?
A: The level is low for initial unemployment claims. And I see no problem with getting 200,000 payroll jobs a month over the next two years, provided Real GDP growth is about 3 percent. Then it's easy to see the jobless rate down to 5.5 percent and lower over the next year or two.
Q: Doesn't this mean that the Federal Reserve has to start raising interest rates?
A: Eventually the Fed has to start raising rates, but Fed chief Janet Yellen has been very clear that she looks at more than the jobless rate. She looks at the labor participation rate and the percentage of unemployment that's long-term. At the moment we've had a sharp drop in participation, which has brought down the jobless rate, and we still have a large number of people unemployed for a long time.
So, she's not going to be in a huge rush to raise rates. My bet for short-term rates, which have been close to zero since 2008, is that I doubt the Fed will do anything until the middle of next year.
Long-term rates have already started to rise. The Fed has been easing back on its Treasury and mortgage-backed securities purchases since December. This has helped push long-term bond rates up by a percentage point over a little more than a year.
The most likely outcome is that long-term rates will continue to rise and could hit somewhere between 4 and 4.5 percent by the end of 2016.
Q: What will that do to stocks?
A: It's interesting that stocks continue to defy gravity, while what I told you about bond rates is not different from Wall Street's consensus forecast. Presumably that's folded into the market's expectations.
But there are people who worry about this, like Robert Shiller of Yale, who says that if you calculate the ratio of long-term profit growth to interest rates, the ratio is very high even today. So it would take sizable further gains in profits to propel the stock market even higher. Is that plausible against a backdrop of modest economic growth. I don't know the answer.
Q: What about Putin and China and the effects of their recent actions?
A: In a blog I wrote for Websterbank.com, "Thank you Pooty-Poot," I said that the recent decline of long-term rates was due to uncertainties arising out of Putin's actions in Ukraine. When there's some sort of resolution that doesn't lead to chaos and as tensions ease, people won't feel the need to keep as much of their funds in the safety of the U.S. That will raise the bond rates a little.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.