The week's economic reports

Temporarily mild inflation and a housing market that continues to deteriorate were overshadowed by a larger than expected half point rate cut by the Fed on Tuesday. Stocks and bonds ended the week with the S&P 500 Index up 2.8 percent to 1,526, now up 9.0 percent for the year, and the yield of the 10-year U.S. Treasury note up 17 basis points to 4.63 percent.

New York and Philadelphia Manufacturing Surveys: Both the New York and Philadelphia area manufacturing surveys had shown strength in late-Spring after exhibiting weakness earlier in the year, but both now indicate that the mid-year resurgence will likely prove to be fleeting. The Empire State index fell to 14.7 in September following three months near 25 and, about 100 miles to the southwest in Philadelphia, a modest 10.9 reading followed last month's flat line at 0.0. These are volatile indexes and much less important than the broader ISM manufacturing index, but they both now show a weakening manufacturing sector.

Producer Prices: A pull-back in energy costs pushed wholesale prices lower in August, the overall inflation rate falling 0.1 percent for the month while the core rate, excluding food and energy, rose 0.2 percent . Energy prices fell 1.4 percent in August, however, since mid-August both crude oil and gasoline prices have more than gained back what was lost in the most recent energy sell-off, setting the stage for a much higher wholesale inflation number next month.

Housing Market Index: Home builder confidence sunk to an all-time low matching the January 1991 level of 20 on the National Association of Home Builder's housing market index. This should come as no surprise to anyone following the ongoing troubles in the nation's housing market as inventory continues at historically high levels, credit continues to tighten, and consumer confidence continues to erode. The most significant aspect of equaling the 16 year low on this index (at least as it concerns home building in California) is that real estate prices continued to go down for five years after this level was last reached back in 1991.

Treasury International Data Flows: The monthly report on net foreign purchases of U.S. securities has not been covered here previously, however, it is likely to gain in significance in the months and years ahead as weakness in the U.S. dollar continues. A dramatic drop in foreign purchases was seen in July as only $19.2 billion of U.S. securities were purchased after a whopping $97.3 billion in June. Note that, like the trade deficit, this report appears with an additional one-month delay relative to most other economic reports.

In the August reporting period, purchases are likely to have gone up as a result of the credit crunch, however, during the most recent month when lower interest rates in the U.S. were all but assured, look for this figure to fall back again as U.S. dollar denominated investments lose their appeal due to the combination of a weaker dollar and a lower yield.

Consumer Prices: Both overall consumer prices and the core rate of inflation came in at modest levels in August, however, the big inflation news is set to begin as early as next month when recently surging energy prices will be combined with statistical quirks in the year-over-year comparison that receives much attention from the financial media.

For the month of August, overall consumer prices fell 0.1 percent after climbing by the same amount in July and, excluding food and energy, consumer prices rose 0.2 percent equaling last month's gain. On a year-over-year basis, overall prices are up 2.0 percent and core inflation is up 2.2 percent.


As indicated by the red arrow in the first chart above, the next three months will see consecutive monthly changes of -0.5 percent, -0.4 percent, and 0.0 percent roll out of the year-over-year calculation making for potentially higher annual inflation rates in September, October, and November if all other factors remain constant.

All other factors have not remained constant, however, as surging energy and food prices since mid-August are sure to make for big monthly increases at least in September and possibly November as well. Annual inflation rates in the four percent range, possibly higher, could once again be seen when higher energy prices this year are combined with last year's plunge in energy prices. The elevated levels of annual inflation, due in large part to statistical factors, are likely to be much discussed by the financial media in light of last week's half point cut in the Fed funds rate.

Housing Starts: Housing starts and permits for new construction plummeted in August as there continues to be no end in sight to the troubles in the housing market. Housing starts fell 2.6 percent and permits for new construction plunged 5.9 percent. Both of these important measures are at their lowest levels since 1995 and show no indications of improving in any meaningful way any time soon.

On a year-over-year basis, housing starts are down 19.1 percent and permits are down 24.5 percent. Note that year-over-year comparisons are now being made well past the early-2006 peak, yet double-digit declines are still being seen.

Conditions will not improve until existing inventory is reduced. Currently, the supply of existing homes for sale stands at 9.6 months and the supply of new homes rests at 7.5 months indicating a much greater willingness by builders to cut prices or provide incentives to an increasingly wary home buying public.

Regionally, the South saw some strength as starts rose 11 percent, but all other areas experienced declines led by the Northeast where starts plunged 38 percent and in the West where a decline of 18 percent was seen.

Overall, the news just keeps getting worse for housing as tightening credit conditions will put even more pressure on home prices as financing home purchases continues to be difficult for many would-be home buyers. Check the number of "Price Reduced" signs in your neighborhood or in the local real estate fliers - combined with an increasing number of foreclosure auctions (500+ homes to be sold at auction next week here in Northern California) and the steepest part of real estate price declines may be directly ahead.

Leading Economic Indicators: The index of leading economic indicators reported by the Conference Board fell 0.6 percent in August almost completely reversing the gain of 0.7 percent in July. As seen in other reports over the last month, consumer confidence has plunged recently as a result of credit market turmoil, a temporary stock market swoon, and weakness in the job market. This report, which maintains only marginal credibility amongst analysts, adds to the renewed discussion of a possible upcoming recession as early as the fourth quarter. In a bit of irony, given the Fed's inflation fighting bias until recently, all of the components of this index made a negative contribution to the overall reading except for the money supply, which rose in August.

Summary: Of course the big news last week was the rate cut from the Fed, but there were a host of economic reports released and all of them were either bad or will be bad next month (i.e., wholesale and consumer prices). More bad news on housing and further confirmation of a slowdown in manufacturing activity have combined with a quickly souring consumer outlook as seen in the index of leading economic indicators, all of which make the current outlook for the economy gloomier.

It's not hard to imagine how things could get worse from here. Until recently, job growth as reported by the Labor Department has been steady and, while initial jobless claims have pulled back from slightly elevated levels, last month's employment report showed a net job losses for the first time in four years. Don't be surprised if further weakness develops in labor markets given all the turmoil in the finance industry and sagging consumer confidence.

The Week Ahead: The week ahead will be highlighted by the third and final reading on second quarter GDP growth on Thursday. Also scheduled for release are existing home sales and consumer confidence on Tuesday, durable goods orders on Wednesday, new home sales on Thursday, and four reports on Friday - personal income/spending, consumer sentiment, construction spending, and the Chicago purchasing managers' index.

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Now, clearly, out of control

The man is now clearly out of control, perhaps headed for some kind of subprime meltdown of his own - former Fed chief Alan Greenspan makes some even more astonishing remarks in this story from Reuters.

Commenting on the current mess in real estate he noted:

"It's a difficult situation, there is an enormous overhang on the real estate market. Many buildings which just have been finished can't be sold ...

"So far, prices have dropped only slightly. But it was enough to cause alarm around the world. Prices are going to fall much lower yet.
...
"There is no doubt about the fact that low interest rates for long-term government bonds have caused the real estate bubble in the United States.

"The Federal Reserve began a series of interest rate increases in 2004. We were hoping to bring the speculative excesses in the real estate sector under control. We failed. We tried it again in 2005. Failure.

"Nobody could do anything about it, neither us nor the European Central Bank. We were powerless."

Just last month he commented to the Wall Street Journal:

History tells us it’s far better to have people periodically going to excess with its adverse consequences than to try to block it off in the beginning.

So which is it?

Did the Greenspan Fed try to stop the housing bubble or did they think it was, in the scheme of things, a good idea?

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Important questions for Alan Greenspan

Caroline Baum of Bloomberg has apparently reached her limit regarding how much one financial commentator can take of former Fed Chairman Alan Greenspan in one week. Unfortunately for her, she doesn't have to look very far at the Bloomberg site to see his mug along with another demonstration of the clarity, only recently found, in his views.

As seen above and as noted by many writers over the last week, the subjects about which the former Fed chief now seems to speak most clearly are the troubled state of the economy, fiscal policy, and the failings of the Bush Administration - not monetary policy.

Naturally, this brings us directly to item numero uno from Caroline's Questions for Greenspan That Need Better Answers:

1. In the book, as in your speeches and testimonies as Fed chairman, you hyper-focus on the federal budget deficit. In some ways you seem more concerned about fiscal policy than in minding your own store, even admitting you would have "loved a chance to serve as Treasury secretary."

Did you ever think of tendering your resignation and telling the president (you were Fed chair under four) you'd like to saddle up with the administration? Maybe director of the Office of Management and Budget would have been more your cup of tea.

And don't forget the much broader and equally difficult "improve education" admonishing for the entire country - the solution, apparently, to regaining our competitiveness on the world economic stage despite all the impediments of overconsumption and entitlement which he helped foster.

Geez!

Most people will remember "Easy Al" as a kind of rich "Uncle Al" who showed up from time to time to lavish money and gifts on his adoring nieces and nephews while telling his brothers and sisters how to run their finances and educate their children. Comments on fiscal policy, education, and a host of other topics over the years make this clear.

To complete the analogy, mythical "Uncle Al" inherited a wildly profitable toy factory that is slowly, but surely, being driven toward bankruptcy as a result of its owner giving too much stuff away.

All the other questions from Caroline have their own merit, number two's "Did someone tell you opacity was part of the job description?" continues the theme of the "suddenly found ability to speak clearly".

But, by far, the most important question of all deals with inflation.

3. No doubt some of your fellow central bankers will be surprised to learn how little weight you give their role in reducing inflation in the last five to 10 years. Instead, you say certain forces -- globalization, innovation, the fall of the Berlin Wall -- came together "serendipitously" to depress inflation worldwide.

If exogenous events dealt you such a fortuitous hand, why didn't you allow the price level to fall -- you know, the "good" kind of deflation, driven by technological innovation - -which is what would have happened under your preferred monetary anchor, the gold standard?

This will, forever be Alan Greenspan's failing.

The double-whammy of having house prices removed from the inflation statistics and a generation of cheap energy (yes, hedonic adjustments too) were not quite enough for someone who aspired to leave his mark on history in such a big way.

When imports from Asia began to flood U.S. markets, first from Japan and then much more importantly from China, this began to skew the Consumer Price Index in ways that should have received much more consideration from the monetary policy maker in chief.

Instead, mild inflation was interpreted as a sign that the printing presses could be run at full speed at any sign of trouble. The two charts below from the post They should have seen those things coming demonstrates the point.

When quality adjustments are taken into consideration, there have been outright declines in prices for many imported goods, notably the price of televisions over the last ten years.

Compare the above price trend to buying movie tickets or other domestic services that do not benefit from falling import prices and a completely different picture emerges.
Combine the prices of television sets and movie tickets and you get benign inflation - the norm for most of the last two decades.

This was key to Alan Greenspan's tenure at the Federal Reserve where easy money policies were carried out amid an environment of "purportedly" low inflation.

Someday, people will figure this out - of course "Uncle Al" will be long gone by then and largely remembered for delivering many gifts rather than running the toy company into the ground.

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Huge Four Day Foreclosure Auction

Yesterday was probably not the last time that an ad for this Northern California home auction will be heard on the radio - it came on twice while driving around for a total of about 20 minutes.

According to the U.S. Home Auction website, otherwise known as the Real Estate Disposition Corporation, over 500 homes in Northern California will be unloaded over a period of four days starting next week - the airwaves are likely to be full of ads promoting this event between now and then.

Note the little red arrow in the graphic above - if you download the Excel file you can come up with a bit more information on what exactly is going on.

First, there are a total of 525 homes to be auctioned. There was a home auction by this same company in San Diego a while back that had a few hundred or more - 525 sounds like a lot.

If you break down the number of foreclosed homes for sale by county, you see that Sacramento (the home of former real estate entrepreneur Casey Serin) is the leader by a mile. Sacramento has 229 homes up for auction, Alameda has 66, Contra Costa has 51, and San Joaquin has 29.

Of course, Sacramento county has a lot of people living there - almost 1.4 million according to the Census Bureau's 2006 estimate. Alameda county has 1.5 million residents and Contra Costa has just over a million, so there is something special going on there in Sacramento with more than three times the total of Alameda.

If you subtract out about 30 percent of the population that rents and figure an average household size of 2.6 (per recent census data), you get the chart below showing that almost a tenth of one percent of all "homes" are going to be auctioned off at this sale.

That probably sets some kind of a record, though, by the looks of things, that record may not last very long.

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I feel better now

This just in from the Associated Press:

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Almost at par

In 2003, when we first visited wonderful Alberta, Canada to spend some time in Banff and Jasper National Parks, we received CAD$1.33 for every U.S. dollar we exchanged. Last year it was $1.10. Today it would be $1.00.

We plan to return next summer - any guesses on what a U.S. dollar will fetch then?

Ninety cents?

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Oh Dear!

The U.S. Dollar is looking rather sickly this morning as Bloomberg reports that Saudi Arabia is considering dropping its currency's link to the dollar.

It appears that the maxim "too big to fail" as it applies to the dollar is now being tested as the impact of further Fed rate cuts is pondered overseas.

It also appears that the maxim "good as gold" is as true as ever as the yellow metal looks better and better amid all the troubles with paper money.

Chart watchers must surely realize that the price of gold is once again in un-charted territory. That is, uncharted for the last 27 years.

Do you remember where the gold price went when, back in 2005, technical soothsayers had to look back more than ten years for comparable prices?

Oh Dear!

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Grandich: Short U.S. stocks

Peter Grandich of the widely read Grandich Publications made a bold call just a few hours ago: Short U.S. stocks - do it now and do it with leverage.

Early this morning came this note:

It's my intention to now look for an entry point and if and when I do, I will send you notice of my decision and what I did. I am not suggesting anyone follow me but just want it to signify my firm entrance into the bearish camp.

About five hours later came this addition:

Further to this morning's alert I have subsequently shorted the U.S. Stock Market via the following two Exchange Traded Funds (ETFs):

• SDS - $50.34 - this is a bet on the S&P 500 going lower with 2X leverage
• QID - $40.84 - this is a bet on the NASDAQ 100 going lower with a 2X leverage

Of course the qualifying statement that he is "not suggesting anyone follow" him is more of a legal disclaimer than anything else. Any of his regular readers with a healthy appetite for risk and a few bucks to wager get the message loud and clear.

Peter has been an ardent (and well compensated) supporter of precious metals and related shares in recent years and for that he is given his due - the ranks of gold bulls are still relatively few.

However, the ranks of those betting against Wall Street and it's representatives at the Treasury Department and elsewhere in Washington are even fewer.

With Ben Bernanke now apparently on board, it's hard to imagine that the powers that be will sit idly by as both housing and stocks fall precipitously. There's not much they can really do about housing at this point - it remains to be seen what they can do about stocks.

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Looking for some good economic news

Well, it's a good thing that consumer prices are tame because the housing market just keeps getting worse. New home construction tumbled again in August and the rest of the year doesn't look any better for home builders.

The long-term chart below, swiped from the always-excellent Calculated Risk blog, shows that there is room to run to the downside.

Taking into account an almost 20 percent increase in the U.S. population since 1991 puts a back-of-the-envelope calculation at perhaps another 25 percent reduction in home construction to match the 1991 low.

[Admittedly, simply adjusting for inflation may not be fair - back in 1991, most people only owned one house.]
The inflation data was encouraging, that is, unless you look at what's in store in the months ahead. Memories of the 0.1 percent decline in the overall level of consumer prices in August and the tame year-over-year increase of 2.0 percent are likely to vanish quickly starting next month.

Soaring oil prices will help to reverse the 2.5 percent monthly decline seen in the most recent energy price index and, more importantly, look what big negative numbers start rolling off the year-over-year comparisons starting in next month's report.

The annual inflation rate goes up by almost a full percent in the next two months if prices remain where they are today. More likely, we'll see overall inflation closing in on four percent by the time the weather gets really cold.

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Most people call it regulation?

Former Fed chairman Alan Greenspan appeared on the Daily Show with Jon Stewart yesterday proving once again that monetary policy is not very funny.


The exchange about punishing savers by lowering interest rates and encouraging ordinary working people to invest in stocks ("play craps" like hedge funds) was pretty good.

This explanation for why the central bank exists was interesting as well:

Stewart: I always wonder... Many people are free market capitalists and they always talk about free market capitalism and that is our economic theory, so why do we have a Fed? Wouldn't the market take care of interest rates and all that? Why do we have someone adjusting the rates if we have a free market society?

Greenspan: You’re raising a very fundamental question.

Stewart: I am? Should I leave?

Greenspan: No. Stay for a while. Since you got your Emmy, you’re qualified.

Stewart: Thank you very much.

Greenspan: You didn't need a central bank when we were on the gold standard which was back in the 19th century. And all of these automatic things would occur because people would buy and sell gold and the markets would do what the Fed does now. But, most everybody in the world by the 1930s decided that the gold standard was strangling the economy and universally the gold standard was abandoned. But, we need somebody to determine, or some mechanism, how much money is out there because remember, the amount of money relates to the amount of inflation in an economy.

Stewart: What are you? Sure I know that. I live by it.

Greenspan: In any event, the more money you have relative to the amount of goods, the more inflation you have and that's not good.

Stewart: So we're not a free market then. There is an invisible, benevolent hand that touches us.

Greenspan: Absolutely. You are quite correct to the extent that there is a central bank governing the amount of money in the system that is not a free market and most people call it regulation.

So, there are at least two forms of regulation that the former Fed chief advocates - limitations on the amount of mortgage debt GSEs (Fannie Mae, Freddie Mac, etc.) can hold and controlling the money supply that, conveniently, is no longer reported by the government.

Here's the reconstructed M3 money supply as maintained at NowAndFutures.com.
Yikes! Doesn't too much money lead to inflation?

The BLS just reported that inflation from year ago levels was only two percent. Where's that other ten percent of new money going? And why is the price of gold soaring?

Something doesn't add up here.

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A picture is worth ...

We just had to snap this picture during our recent trip, one that aptly depicts the evolution of the American vacationer during an era of rising energy prices.

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Punish the savers

Sorry about the delay, but the decision on how much cash (that used to earn five percent) to convert to the streetTRACKS Gold Shares ETF (AMEX:GLD) was not an easy one - it turned out to be about ten percent, which should help in a very small way to make the blue bars in this chart keep going skyward along with the gold price.

Many others will likely come to the same conclusion to broaden their definition of savings in a similar manner, albeit much later and at much higher prices for the yellow metal.

Ben Bernanke may have seen what's in store for the inflation statistics in the months ahead (as documented here last month) and figured he'd better get on with it - it's a lot easier to cut rates when the government statistics show inflation is under control. Look for that condition to change rather dramatically before the end of the year.

Here are the last two policy statements side-by-side:

Count me as one of those who have just lost a great deal of respect for the new Fed chairman. To date, nary a bad word has been offered up here regarding the job that Ben Bernanke has been doing - that may soon change.

Full disclosure: Long GLD at time of writing.

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This may be revisionist history

The next thing you know, former Fed chairman Alan Greenspan is going to say that he predicted the housing bust all along. A simple search shows a pattern of revisionist history that now seems to be common.
The two references above are stories by Reuters, the first in conjunction with the promotion of the new book just two days ago and the second from October 9th, 2006.

Of course, last year's housing assessment was plastered over newspapers across the country in full-page ads by the National Association of Realtors, leading to what must surely be viewed as "ill-advised" home purchases almost one year hence.

Oops!

The mainstream media has yet to cast much of a disparaging eye on the source of the current housing mess, hedge fund mess, and general credit-market slow motion melt-down.

Long-time Fed watcher Greg Robb at CBS Marketwatch seems to gladly accept what he hears from "The Maestro".

Former Federal Reserve Board chairman Alan Greenspan says he tried to raise mortgage rates to head off a housing bubble, but the effort came to naught because of "global forces" that had the effect of keeping long-term interest rates low.

In an interview early Monday with NBC News's "Today Show," Greenspan said he does not accept blame for the nation's housing bubble.

He noted that 20 to 30 other countries have experienced housing bubbles, adding that these were "all caused by the same thing, this global sharp decline in long-term interest rates, specifically mortgage rates.

"We tried to get mortgage rates up. We failed. The reason we failed is global forces are overwhelming," he said.

That's the nature of the mainstream media apparently - just repeat what is said.

As a minimum, it could be mentioned that the central bankers in Europe have screamed at the makers of U.S. monetary policy for not "leaning against" asset prices.

William Greider writing in this morning's San Francisco Chronicle is less accepting of the former Fed chairman's take on things.

The lies of Alan Greenspan
William Greider
Tuesday, September 18, 2007

Alan Greenspan has come back from the tomb of history to correct the record. He did not make any mistakes in his 18-year tenure as Federal Reserve chairman. He did not endorse the regressive Bush tax cuts of 2001 that pumped up the federal deficits and aggravated inequalities. He did not cause the housing bubble that is now in collapse. He did not ignore the stock market bubble that subsequently melted away and cost investors $6 trillion. He did not say the Iraq war is "largely about oil."

Check the record. These are all lies.

It all sounds like revisionist history to me.

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And ... we are back

We are back from our 22-day cross country trip, little worse for wear but in dire need of an afternoon nap. Having forgotten to pre-order The Maestro's memoirs (no advance copy was sent), a review of the mainstream media's take on The Age of Turbulence will have to suffice - a few thoughts will be offered up later today or perhaps in the morning.

The free pass to Iacono Research made available last week has been disabled. Thanks to all the new subscribers and those starting free trials - all new accounts and free trials should be set up by now, so if you haven't heard from me, please send mail (the transfer of data from laptop back to desktop seemed to go smoothly, but you never know.)

For those missing out on the nearly week-long free look at the companion investment website, 30-day free trials are still available here. It's been a pretty impressive last four weeks as the model portfolio has gained about nine percent since many of the buy indicators were turned green on August 19th.

After the events of the last couple months, my guess is that next month's "Guess the year-end price of oil and gold" contest, where at least one lucky reader can win a free subscription to this investment service, will be a lot more exciting than the last one.

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Now he tells us!

We are still on our way home, but this story about former Federal Reserve Chairman Alan Greenspan just couldn't be passed by without commenting. From the man who encouraged the masses to take out adjustable rate mortgages and who lauded the financial innovations of subprime lending, comes this pearl of wisdom just prior to tomorrow's book release.

His publisher must be thrilled.

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