Off To the Races

Off To the Races


The topic of discussion on various financial programs was the futility of Fed quantitative easing and the dangers of devaluing the dollar. Such policies could lead to higher interest rates on the long end the curve, although growth remains subdued. This is the dreaded phenomena known as stagflation. However, other nations are aggressively devaluing their currencies in a veritable race to the bottom.



Today we had the third and final look for second-quarter GDP and although today's 1.7% beat street expectations of 1.6%, the data confirms that the pace of recovery has slowed significantly from a first-quarter pace of 3.7% (and 5.00% for Q4 2009). The winding down of government stimulus and a persistently-high unemployment rate are creating significant headwinds to growth.



JP Morgan chief U.S. economist, Michael Feroli told Bloomberg News:
"We have a slow-growing economy. What we’re getting will do nothing to bring down the unemployment rate. The improvement in the labor market is very slow."
There in lies the problem. The Fed has cyclical tools, but high unemployment and slow growth are the cause of structural changes to the U.S. economy. Today's jobless claims data do little to comfort the markets. Sure, the numbers were down a bit, but the prior numbers were revised somewhat higher. Truthfully, today's drop and last week's higher revision are nothing more than "noise". The street consensus for growth for the balance of the year to remain below 2.00%.

The treasury market has given up earlier gains after fears of even worse jobless data and slower growth were alleviated. However, today's jobless data was poor in real terms. Besides 4,457,000 people counted in the continuing claims data, there are an additional 4.88 million people receiving extended benefits. Although it is true that is an improvement of 293,000, one has to wonder how many people were hired and how many simply ran out of benefits. With few report of large scale hiring, it could be that displaced workers are falling off benefit rolls. Declining jobless claims may not always indicate job growth. In fact, few economists think that is the case. next week's employment data should provide more insight. The street consensus for Non-farm Payrolls is for a gain of 82,000 jobs. Although this would be an improvement from a prior 67,000 jobs, it does not keep pace with the number of people entering the workforce.


Much is being made in the financial media of the Fed using cyclical tools to repair structural problems. That is all the Fed has. Some rocket scientists say that the Fed is devaluing the dollar and that rates cannot stay down at these levels forever. My response is : Duh! Of course rates are going to be much higher than today's levels, eventually. However, that does not mean they will be higher in a month, a year or two years. Look around, other governments are trying to devalue their currencies as well. There is a definite race to the bottom. All the Fed has to do is beat its partners to the punch when tightening.

The danger is that the Fed has lost or will lose its independence and its handlers on Capital Hill will force it to keep rates lower, longer for political purposes. If that happens, the so-called bond vigilantes could sell the heck out of longer-dated treasuries. However, they need a place to go. Yes, commodities provide a destination for some capital, but there are still trillions of dollars which need to be invested in safe,. secure interest paying vehicles. If China does not let its currency and debt be delivered outside of China (and insists on not floating the yuan), China will not be a viable alternative. Europe is even more dysfunctional than ourselves (in spite of what Cramer insists) and other major exporters (Japan, Brazil et al) hare bound and determined to fight currency appreciation. At some point the potential a U.S. interest rate blow-out could be very real, but for now we are probably anchored at today's levels.

More mixed economic data was provided by the better-than-expected Chicago Purchasing Manager's report and the softer-than expected NAPM - Milwaukee report. The strength in the Chicago data was due to businesses ordering more machinery to replace outdated equipment. One pundit on CNBC noted that such increases in equipment spending has "always" resulted in hiring in the past." When in the past have we had this kind of global economy in which we are still dragging our hind quarters in the midst of record stimulus while facing higher taxes and more employment expenses for businesses. It could be that more efficient equipment is being ordered to keep payrolls as lean as possible. We shall soon see.


There has been much discussion in the field regarding whether or not forthcoming economic policies are affecting business and hiring decisions by businesses large and small. I have been of the opinion that concerns regarding forthcoming policies are a major factor. Today's Wall Street Journal reports that McDonalds is considering eliminating its health care plan for store workers. McDonalds offers what is known as a "mini-med" med plan which offers limited coverage for affordable premiums. Under the new health care law, the plan would not satisfy the requirement which states that the insurer must spend 80% to 85% of the premium on medical care. The unintended consequence could be that McDonalds ceases to offer health care. For other business, the result could be a lack of hiring as providing benefits for employees becomes more expensive. I am not commenting on the benefits or lack thereof of the new health care legislation. I am just reporting on how businesses are reacting. You may choose to disagree with either the health care legislation the the response to it by businesses, but it is dangerous to ignore the resulting developments.