Consumers

One of the things that is characteristic of the age we live in is how much stuff we are told we need.

Advertising is a very ancient profession, there is evidence of ancient advertising for the oldest profession but it was generally limited to point of sale or word of mouth until fairly recently.

People with something to sell want to sell it and telling customers you have the best or cheapest merchandise is a pretty obvious approach.

However with the advent of media we have seen advertising in more and more places selling more and more items.

We live in a consumer age in the greatest consumer society of all.

It never occurred to me that I needed many of the things I have today until I was convinced by advertising.

Think about all the things your phone can do for you.  It now can recognize your face eliminating the need to use a fingerprint or pin code.

Of course it creates a problem, since all these wonderful items need to be paid for.

Still this desire to have more and better things is probably the most defining characteristic of Americans in general.

Of course not for everybody, but far too many have fallen prey to the idea that you have to drive a new car, have the latest phone, get coffee at an expensive establishment, dress for success, and generally live the good life.

Its the age we live in.

Simple Math

The concept of supply side economics is actually quite simple.  If you reduce the cost to suppliers, they will reduce the cost to consumers.  Consumers will then buy more requiring the suppliers to hire more people.  This increases disposable income leading to more consumption, more hiring, etc. etc.  The increased economic activity will replace any lost taxes since while everyone is paying a lower percentage, the total pie is so much bigger.

Now the logic is really the same as a pyramid scheme and the ultimate issue with a pyramid scheme is that the number of potential members is ultimately limited.  When a pyramid runs out of new members it can't pay the latest members and it starts to collapse.

Supply side economics is limited by the amount of consumption that can be created.  Take a commodity like oil.  We've seen oil prices plunge based on a supply glut.  This has resulted in some increase in consumption but not enough to bring the prices back up.  Maybe over a longer cycle, if people were convinced that oil would stay cheap they might design additional uses for it into products, but that isn't easy or even likely since the market is volatile.  The reaction has been a decrease in non-competitive oil production leading to reverses in economic booms in some states and countries.

There is no such thing as unlimited consumption.  Supply side can be used when there is untapped consumption and unused capacity to absorb the increased output and provide jobs for underutilized employees.  However in the absence of those two things it creates something of a bubble, and increases the deficit in two ways.

First you have the initial tax abatement's which are simple subtractions.  Now these are supposed to be replace by the increased taxes based on the increased economic activity and if that actually happens we have a minor miracle.  However, to some extent, because of the pyramid nature of supply side, it creates a bubble that leads to bankruptcies, defaults, unemployment and increased Government expenditures for unemployment insurance, stimulus and reduced tax revenues.

We had a good example of this in the financial crisis where supply side applied to cheap mortgage credit led to the inevitable bubble and impacted everybody.

Now some elements of supply side have their place, especially when there is unmet demand and production capacity available.  However the precision needed to use it is generally not something Government does well.

So if we actually proceed down this path, one can ride the wave up but realize that you are definitely going to wipe out if you stay in too long.

The American Way

Many of us grew up watching a TV show where the superhero stood for Truth, Justice and the American way.  What was of course left undefined was what is the American way.

I was probably naive but it didn't seem like there was much disagreement that it represented the values om the books and movies we had, values like work hard, give everyone a fair shake, stand up for the little guy, do your part and support the country. However if I had to pick one work that I equate with the American way its would be winners.

This was the era after the great depression and World War 2 where the President was the General who had led us to victory and we had a clear enemy in communism.  We had won every war (Korea was sort of ignored as a police action) and we were the best in pretty much everything, thanks in large part to the fact that most of our competitors had been devastated by the war.

Yes this was the America of winners that I and many of my compatriots grew up with, even if there were racial and economic problems beneath the surface that were getting ready to erupt.  It was an era where we faced nuclear elimination constantly but pretty much ignored it except when there was a crisis.  We had all those new suburban houses, everyone had a car, everyone had a job and life was as good as it gets, although of course it wasn't except on TV shows.

If you were to ask most of the Trump supporters this is when America was great and what they think he will bring back.  Its an empty promise since the world is a very different place and we have so much history since then, Vietnam, imported products, terrorism, computers and technology and the diversification of America, both socially and by nationality.

By almost any objective standard the world is better than it was back then.  More people have been lifted out of poverty, more countries are democracies, we have instant information at our fingertips and we have developed technologies that allow us to provide food (the green revolution) for everybody.  However as I pointed out this has not included the people who lived a privileged existence when American products dominated the world and good paying, union jobs were widely available.

There is no going back to that, no matter what vague promises are made.  You can't put humpty dumpty together again, time to enjoy the omelette.

Consumer spending

Understanding the limits of on-air analysis, I am still a bit befuddled by some of the things I hear. The one question that I think I find the most insipid is the discussion concerning whether the consumer is back or not. Well, the consumer has never really left, they just bought less and became more value conscious. This was driven by the loss of equity wealth and that wealth is not coming back quite so quickly.

Consumer spending will now start to trend up from the low levels we saw early this year. However, it is not going to "jump" back to where it was during the bubble. The good news is that it doesn't have to for us to have a vibrant economic recovery.

Companies have adjusted their forecasts to a lower level of sales, have reduced staff and locations and are stocking less inventory. These productivity reductions will mean that they will sell most of their inventory at decent margins. Further, the suppliers have also pared back to provide the lower levels of inventory. Now this contraction in the economy has been accomplished and we will find that the companies will start to grow from its contracted point.

The recovery will not mean that we return to bubble levels, but we don't need to and in fact we shouldn't want to. What we need is to do all the things we are currently doing, reduce consumer debt, revalue assets to affordable levels and provide better value for each dollar spent. These activities will lead to a better fundamental economic base and sustainable growth.

Consumer Credit

Yesterday we saw an unprecedented drop in the levels of consumer credit, across the board. This is simply another example of how people who consider past behavior and technical indicators, can never factor in a sea change in behavior.

It is clearly too early to say what this really means or if it will last, but it does indicate that Americans have been scared by the financial crisis and are moving much faster to deleverage themselves than anyone expected. Yes credit is still there and being used, but more and more Americans seem to be improving their individual financial status.

It also is possibly indicative of new policies by credit issuer who are making it harder to get credit, forcing frugality on some.

Considering the loss in home equity values that Americans experienced, clearly many are trying to replace those amounts by saving. In this respect, saving is being accomplished by reducing debt, where you can get a 19% return on your money. So the increases in savings we have seen in the statistics is actually a buy down of individual debt.

I am waiting to see the final results of the back to school season, which I believe was better than forecasted. I also think that Americans, seeing the end of the recession and feeling better about reducing their debt are going to spend this holiday season, not recklessly, but they are going to want to feel good and they are going to shop.

I have been saying here that we are going to grow modestly from where we have contracted to and all the data I see actually supports a slightly higher growth rate than I originally thought. However, Americans are not going to spend recklessly as they did in the past and that is the foundation for a lasting recovery. Weak businesses will continue to fail, not because of the recession, but because they are not competitive.

Back to School

The next big shopping season is back to school shopping and that will tell us to what extent consumer spending is going to rebound. Should be no surprise that there were a lot less people driving in July than usual, both because of the stay cation trend and the high unemployment. Add that to lower gasoline prices and July was a bit slower than predicted.

The economy is near the bottom and lagging indicators are still going to look bad. We know that people who got into trouble on their mortgages six month ago are just now likely to be going into foreclosure. We know businesses are still reluctant to hire and are in fact still letting people go in order to maintain earnings on lower spending. However we do not consumer confidence has an upturn, more houses are being sold at very affordable prices and industries are starting to rebuild inventories cautiously.

Companies have cut to levels that provide earning even in our contracted economy. As back to school spending gets rolling, we may see the teenagers lead the consumer spending rebound.

Consumer spending trends

We all know that there are many Americans suffering economic hardship right now because they are out of work, lost a lot of their retirement funds, or have lost value in their houses. All of these factors create a reduction is spending for two reasons, lost of immediate income and loss of credit.

Now, the opposite is true as well. When an unemployed person gets a job, they suddenly have much greater access to credit. Rightly or wrongly, a newly employed person often starts to spend future income in order to get items that were put off because of their financial situation and because they simply feel better.

This trend also exists in homeowners who refinance and of course if retirees get increased retirement income. However, the new job impact is normally the greatest. This is a much faster increase than the opposite, since when you lose your job you don't immediately lose your access to credit and usually for a few months, consumption drops slowly.

What does this mean for the economy? Well, right now we are still losing jobs on a net basis. However, we are seeing signs of a bump up in the economy from the stimulus programs as well as the fact that industry needs to restock inventories that were burned off in the first half of this year. Now in any given month, a certain number of people are hired and a different number are let go. So, even in periods with net job loss, we often see increases in consumer spending, since those getting jobs start spending faster than those losing jobs stop spending. There is therefore a tipping point where consumer spending increases enough in this economy to have demand exceed supply, requiring an increase in production.

When that happens the economy is in recovery. Recovery's feed upon themselves. More demand creates more economic activity creating more jobs. Other factors of course are related to imports and exports and whether the jobs created are in this country or elsewhere.

I believe we have passed that tipping point and are creating enough jobs to increase spending over the decreased spending from job losses. So with increased spending and inventory replenishment we may have a very good fourth quarter, better than many expect.