Volume 62, Number 7 February 17, 2012
Among the more important questions facing the US economy right now is how much of the recent bounce in activity has been weather and how much is a real loosening of the purse strings by cash rich businesses. Increased spending by fortress companies is devoutly to be wished, as it is a necessary – but not sufficient – requirement for the economy to have any hope of escaping the muddle through. However, if the bounce is weather – as we fear — then we may be setting up for a payback in March and April when weather patterns return to normal. Rather than the expected acceleration in the economy during the key March to June seasonal ramp up, economic performance may prove disappointing because so much activity has been pulled forward by this very mild winter. The housing starts and industrial production reports released this week show just how profound the effect has been.
In single family housing activity the tradition weather signal is a sharp rise in starts, but not in permits – and that is precisely what has happened this winter. In January, single family housing starts ran at a 508,000 unit annual rate after a strong 513,000 pace in December. However, the two month average of 510,500 was well above the 447,500 average in the two previous months. Meanwhile, the growth in single family permits was much more muted, rising only to an average 443,000 annual rate over the past two compared to 432,000 average in the two months prior. Clearly starts are running well ahead of permits (513,000 vs. 443,000), which is a 15% difference, where the norm over the past year has been 3.5%. This is purely weather and will reverse in spring. Meanwhile, single family housing completions actually plunged in January from a very steady 452,000 average annual rate over the past five months to just a 389,000 rate in January. The seasonal is very volatile in January, but this offers no support for the view that construction is rebounding. Rather it looks like builders may have shifted workers from nearly completed homes to new starts to get a jump on the spring season while the weather allowed. The number of single family homes under construction in January was 241,000, compared with a low of 235,000 in October and a year ago level of 259,000. We see no rebound here and expect a payback in reported starts in March and April.
Industrial production was unchanged in January, despite a robust 0.8% gain in the manufacturing sector. A sharp -2.5% decline in utility usage due to the warm weather was the reason. So will industrial production snap back next month when the utilities return to normal? Most likely not. Though utility usage may surge, manufacturing output is likely to falter. Since 1990, there have been 15 episodes when the utility usage fell more than -1% in January or February. The average decline was -3% — and in those months, factory output averaged a 0.4% larger gain than trend growth rate in manufacturing industrial production during the six months around the warm winter reading. By this metric the robust 0.8% gain for the manufacturing sector was a more modest 0.4% rise without weather. Bottom line, warm weather reduces utility usage, but boosts factory output – and the trend reverses over the next several months. Total industrial production has risen at a 6.2% annual rate during the warm December and January period. Weather remained mild for most of February as well, so the above trend growth may continue. However, the trend growth rate in the six months prior to December was a decent 4.2% annual rate. We expect a retreat to at least that more modest pace from March through June – with the risk of a payback of only 2% growth over the spring.
Retail sales rose a far smaller than expected 0.4% in January, after being unchanged in December and up 0.3% in November. It is tough to put a spin on this that makes the Christmas season look bright – especially when one allows for the warm weather, which should have allowed far more shopping days than normal. The mild temperatures are obvious in strong retail sales of motor vehicles and building materials, which are up 1.4% and 2.3% respectively over the past two months, while the total excluding cars dealers, building materials stores and gas stations rose just 0.2%. The strength in car sales is somewhat suspect however, as an article in Automotive News reports that 25% of the strong increase in motor vehicle sales in January – up to a 14.1 million unit selling rate from 13.5 million in December – was from fleet sales. Sales to retail buyers were up only 7% from a year ago. Strong fleet sales are less likely to occur on a sustained basis suggesting that the reported strength in January auto sales won’t be sustained. We are already on record about the outlook for residential construction.
A far more worrisome trend in retail sales is the weak growth in health care over the past six months. Three of those six months have produced declining sales, and the growth rate over the whole period is a meager 0.8% annual rate – not enough to make up for even moderating medical care inflation. The slump in the medical sector is consistent with the decline in transfers for Medicaid payments we have discussed with respect to the personal income data. The bottom line is for better or worse, medical care spending is under great pressure in the US. This is a sector that accounts for only 6% of retail sales, but 16% of consumption, 11% of GDP, 13% of employment and 17% of the job growth over the past year. Moreover, medical care spending is almost entirely domestic. A lack of real growth in this sector represents a profound drag on the US economy.
The slowdown in medical spending is no doubt related to the reduction in Medicaid payments – a transfer program that is partially controlled by the states. These reductions are part of the states’ movement back toward balanced budgets – that is austerity. Though needed, the process is painful while it is underway. Between government payments, which represent 20% of GDP (and 17% of jobs) and the slump in medical care consumption over 30% of the US economy is still in decline. It takes a tremendous effort by the other 70% of the economy to offset this drag. We see no immediate relieve from the corrective process on government payments – and as we have discussed at length are greatly fearful of the effects of the January 1, 2012 sequester/tax hike bomb going off. Unless and until we see some resolution of these major drags on the economy we will remain in the muddle through camp. We do not believe we will slip into recession given the big cash cushions at corporate America, but we also do not see any of those firms expanding through risk taking ahead of the election and a clear cut policy path.