Friday, May 02, 2008
This was the week that was as it related to the true strengths and weaknesses of the US economy. As we said in our earlier edition, our belief was that the data would show that economic conditions were slightly better than most people believed. If you are willing to let the data speak for itself and not twist it to meet the headlines in the media and in blogland, we believe that is what we have seen. Economy: Economic growth in the first quarter was estimated to be .5%, adjusted for inflation. The actual number came in at .6%, indeed, slightly better than the consensus estimates, but dramatically better than the gloom and doomers were predicting, who began calling for a recession in the first quarter of 2008 as far back as August of 2007. Finally, today it was reported that fewer jobs were lost in March, which resulted in the the unemployment rate falling to 5.0%. Inflation: The GDP Price Deflator grew at an annual rate of 2.6%, lower than the consensus rate of 3.0%. The Core GDP Price Deflator, which excludes food and energy, grew for the quarter at .2%, a tick above the expectations of .1%. The Core GDP Price Deflator, which is the Fed's favorite indicator of inflation, grew over the past twelve months at a rate of 2.2%, within range of the Fed's comfort zone of 2%. The runaway inflation that everyone seems to be in such a tizzy over just was not present in the data. Even in the GDP Price Deflator, which includes food and energy, evidence of runaway inflation was not present. Energy and food prices were offset by much lower prices for housing, clothing, appliances, and motor vehicles. People seem to forget that collapsing home prices are included in the inflation data. Housing is the single largest component of inflation in either the GDP deflator series or the Consumer Price Index, and it is down and will continue to stay down for a while. It is hard to make the math show inflation, when the biggest component is deflating. Earnings: Corporate Earnings were surprisingly strong if we exclude the Financials. It may not seem fair to look at it this way, but the single biggest worry in the minds of most analysts is that the crash in housing will spill over into the rest of the economy. For at least this week the worries should subside. Two out of three corporate earning reports met or beat estimates, which is about normal. Importantly, according to economist Ed Yardeni, if we exclude the financials, first quarter earnings grew by about 10%. Here's the important thing about this data: Dr. Ed reports that in December 2007, estimates for first quarter earnings, ex-financials were 8%. Earnings were, of course, helped by global sales, which have remained robust, but there is no doubt in our minds that the first quarter earnings, so far, have been a big surprise to even the crusty old analysts. Conclusion: This was not a great week. We still have lots of trouble to wade through in real estate and financial land before we can start talking about "good" weeks. Having said this, it was a welcomed week. Of even greater importance to us, is that it was about what we expected judging from the string of data leading up to the reports. In addition, one reason we were optimistic at the beginning of the week was the stock market's action in recent weeks: it has been moving higher, even in the face of bad news. That means to us that the market believes that at least the boundaries of the subprime situation are coming into view, and our economy and capital markets can afford the ultimate costs without landing in the ditch. That is our belief.