The only thing worse than a financial crisis is a financial crisis that hits when the economy's in or near recession. Fortunately, the economy's still growing, and for the moment there's no reason to think the expansion is in imminent danger of evaporating.
The latest evidence comes in this morning's July report of retail sales, which rose 0.3% last month, reversing June's nasty 0.7% tumble, which the U.S. Census Bureau reported today. For the year through July, retail sales climbed 3.2%. On its face, the numbers suggest, albeit modestly, that the growth machine remains intact. But the worries start to set in when you consider the historical context, which we've laid out for retail sales in the following chart:
It's clear that when retail sales are viewed through the prism of recent history, there's reason to wonder if Joe Sixpack can continue to spend at yesterday's levels, tomorrow. Graphically, the rate of retail sales growth is slowing - on that there's no debate, as the linear progression trend (the blue line) indicates. Adding to the potency of the trend is the fact that the latest reading is well the trend line, not to mention near the absolute low of late set back in January and about half as much as the latest reading for the nominal rate of annualized GDP growth. All of which raises a few questions: Are retail sales unusually low for the current economic climate? Or is the pace of economic expansion too high given the trend in retail sales?
The debate is, of course, what comes next, and not just in retail sales. But now there's a complication. As we write, a tidy little crisis is blowing through the financial markets. Perhaps it's over, perhaps not. We don't know, and neither does anybody else. But this much is clear: whatever ails the capital markets, the disorder will surely be of a far greater magnitude if the economy weakens. With that in mind, we expect Mr. Market to pay ever closer attention to the numbers dispatched.
Alas, economic forecasting is art as much as science. Although we can crunch the numbers and apply deep logic to the trends, the next input remains a mystery, in part because consumer spending arrives one credit card-decision at a time. All we can do is watch as the economic reports roll out. But while history doesn't predict the future, it does offer some perspective.
On that note, it's worth remembering the consumer spending is the primary, if not the only game in town for the economy, representing 70% of GDP. If and when that source of spending slows, the reverberations will be felt directly in the next GDP report. We say that with the gnawing sense that the cycle is turning and that there's more negative surprises than positive ones waiting in the wings.
Judging by the trend in retail sales, one is tempted to extrapolate the past into the future. All the more so, given the fallout in the mortgage market of late. It's not yet clear if this fallout will spill over, if ever, into the general psyche of consumer spending, but at this point we'd be foolish to dismiss the notion entirely.
In fact, that line of worry inspires some to call for an interest rate cut by the Fed, which so far refuses to budge. Nonetheless, the pressure is growing for easier monetary policy, and the market now expects no less. Traders have bit up the price of Fed funds futures contracts in recent days in anticipation that a 25-basis-point cut is coming soon. Perhaps, although the decision isn't yet a no-brainer, at least from a central banking perspective. Yes, the market's correcting in some spots, and it may yet correct more. But in the here and now, slicing interest rates still looks more like a Wall Street bailout than a prescription for Main Street.
That perception is vulnerable to change, of course, and perhaps in short order. But that requires fresh data. Fortunately, or unfortunately (depending on what the numbers tell us), there's plenty of reports to keep us glued to our computer screens this week, including updates on consumer and producer prices, industrial production and housing starts.
Our greatest worry, however, is that while a fresh dose of liquidity may calm nerves and keep Joe spending a bit longer, it's not clear that in the longer run (the next 1-3 years) more liquidity is the superior choice. True, it's worked wonders when applied in 2001-2005. A repeat performance is expected in some circles one the Fed acts. But, as they say in the mutual fund literature, past performance is no guarantee of future results.
The business cycle will eventually have its way. The idea that it can be postponed indefinitely is folly. But it matters not what your editor thinks on this topic. Rather, the views of Ben Bernanke and company are ground zero for the relevant opining du jour. And on that front, the world is still clueless.