When it comes to firmly established, currency-for-commodity, self reinforcing systems in the past century of human history, nothing comes close to the petrodollar: it is safe to say that few things have shaped the face of the modern world and defined the reserve currency as much as the $2.3 trillion/year energy exports denominated exclusively in US dollars (although recent confirmations of previously inconceivable exclusions such as Turkey's oil-for-gold trade with Iran are increasingly putting the petrodollar status quo under the microscope). But that is the past, and with rapid changes in modern technology and extraction efficiency, leading to such offshoots are renewable and shale, the days of the petrodollar "as defined" may be over. So what new trade regime may be the dominant one for the next several decades? According to some, for now mostly overheard whispering in the hallways, the primary commodity imbalance that will shape the face of global trade in the coming years is not that of energy, but that of food, driven by constantly rising food prices due to a fragmented supply-side unable to catch up with increasing demand, one in which China will play a dominant role but not due to its commodity extraction and/or processing supremacy, but the contrary: due to its soaring deficit for agricultural products, and in which such legacy trade deficit culprits as the US will suddenly enjoy a huge advantage in both trade and geopolitical terms. Coming soon: the agri-dollar.
Corporate profits have been boosted unusually in recent years by fiscal support to the economy, the very heart of the risk posed by 'the cliff.' Despite all the political rhetoric, jawboning and pre-election bluster, corporations may or may not be people, but what they have turned out to be is the government's best friend as without corporations firing millions, the government would be unable to enslave everyone via a habituation to the government's "transfer payment" generosity. Since government has no 'choice' but to do its rightful duty and bail out those poor citizens crushed by the "evil" corporations, it allows the US Treasury to spend, spend, spend under the guise of another false conflict. The corporations (knowingly or unknowingly) are doing the government's bidding (and receiving the quid pro quo) even as the tentacles of uber-government reach everywhere and more than half the US population would exist in a state of learned helplessness if its weren't for Uncle Sam's weekly check, modest as it may be. To summarize: crony Capitalism for richest, socialism for the poorest; and the middle class goes the way of the Twinkie Dodo.
"Obama/Romney, Romney/Obama – the most important election of our lifetime? Fact is they’re all the same – bought and paid for with the same money. Ours is a country of the SuperPAC, by the SuperPAC, and for the SuperPAC. The “people” are merely election-day pawns, pulling a Democratic or Republican lever that will deliver the same results every four years. “Change you can believe in?” I bought that one hook, line and sinker in 2008 during the last vestige of my disappearing middle age optimism. We got a more intelligent President, but we hardly got change. Healthcare dominated by corporate interests – what’s new? Financial regulation dominated by Wall Street – what’s new? Continuing pointless foreign wars – what’s new? I’ll tell you what isn’t new. Our two-party system continues to play ping pong with the American people, and the electorate is that white little ball going back and forth over the net. This side’s better – no, that one looks best. Elephants/Donkeys, Donkeys/Elephants. Perhaps the most farcical aspect of it all is that the choice between the two seems to occupy most of our time. Instead of digging in and digging out of this mess on a community level, we sit in front of our flat screens and watch endless debates about red and blue state theologies or listen to demagogues like Rush Limbaugh or his ex-cable counterpart Keith Olbermann."
Today's personal income and spending report for the month of September was just the latest datapoint confirming that the US consumer is once again massively cash-strapped and is eating, literally, into their savings. While Personal Income rose at the expected pace of 0.4%, Spending in the last month came well above expectations of 0.6%, printing at 0.8%, which meant that on a net basis Consumers, always hopeful, outspent themselves by a margin of 0.4%. This meant that the savings rate declined from 3.7% in August to a tiny 3.3% in September. This was the lowest Savings print in 2012, and higher only compared to last November's 3.2%, which in turn was the lowest print since the start of the second great depression. In other words, overeager consumers saw their nominal incomes increase... and decided to outspend said rise at double the rate of increase! At this pace, by the time Thanksgiving rolls out, US consumers will have no savings at all left to tap and living will be strictly a month to month activity. But wait, it gets worse. As the second chart below shows, the real story was that of the Real, not Nominal, Disposable Income, adjusted for the cost of living, which declined for the second consecutive month, and shows that the peak this year took place in July, having declined consistently ever since. In other words, even real incomes are now consistently declining, spending aside.
This is no longer your "father's economy." The importance of this shift in the U.S. from away from being the epicenter of global production and manufacturing to a service and finance based economy should not be overlooked. This transition is responsible for the issues that are impeding economic growth in the U.S. today from structural unemployment, declining wage growth and lower economic prosperity. What does this have to do with GDP and exports? Well, just about everything. With exports declining which is impacting corporate profit margins, employment conditions deteriorating, and business spending contracting - these are all the necessary ingredients to spin out a negative economic growth rate at some point in the not so distant future.
As class-warfare implicitly breaks out - trumpeted by our political leaders - it seems that there is another, much more relevant, trend that is occurring that strikes at the heart of our nation. With Friday's jobs number still fresh in our minds, Citi's Steve Englander takes a look at one small slice of the demographics subject and found a rather concerning and little discussed fact. Employment-to-population ratios among older individuals have gone up in recent years, in contrast to the so-called prime-aged 25-54 cohort, where employment-to-population is much lower than earlier. It seems the real divide in this nation is not between rich and poor but old and young - as the 55-plus (and even more 65-plus) are forced to stay in the workplace as retirement remains a dream (thanks to ZIRP and Keynesianism's excess crises from boom-to-bust leave median wealth well down - even if the rich are 'ok').
Given the Fed's ZIRP impact on expected returns, PIMCO notes that those approaching retirement have three choices: a) save more, b) work longer, or c) tighten their belts in retirement. If everyone saves more, we consume less, and therefore GDP growth slows down. Anemic growth leads to a Fed on hold for a prolonged period - and even further lowered return expectations in an ugly paradox-of-thrift-like feedback loop. PIMCO has found a concerning empirical link between lower rates and longer periods in the workforce as a higher fraction of older Americans remain employed. This has the structurally dismal impact of reducing (implicitly) the level of 'prime working age' employment and has 'convexity' - in other words, the lower rates go, the greater the inertia of the elderly to stay in the workforce. Intuitively, low rates leading to longer work lives just makes sense – especially in an era where fewer retirees will draw defined benefit pensions. This is why some of us are wondering if the Fed is spinning its wheels by sticking to the old model of trying to stimulate growth. So expect lower-rates and longer working years or go all-in on HY CCC debt with 20% of your savings.
So the Fed is pinning its hopes on stimulating the economy via the wealth effect again, as it did when it revived the post-tech-wreck asset bubble in housing and credit in that now infamous 2003-07 period of radical excess. But here's the rub. While there is a wealth effect on spending, the correlation going back to 1952 is only 57%. But the correlation between spending and after-tax personal incomes is more like 75%. The impact is leagues apart. And that is the problem here, as we saw real disposable personal income decline 0.3% in August for the largest setback of the year. The QE2 trend of 1.7% is about half the 3.2% trend that was in place at the time of 0E2. Not only that, but the personal savings rate is too low to kick-start spending, even if the Fed is successful in generating significant asset price inflation. The savings rate now is at a mere 3.7%, whereas it was 6% at the time of QE1 back in 2009 and over 5% at the time of QE2 2010 — in other words, there is less pent-up demand right now and a much greater need to rebuild rather than draw down the personal savings rate. This is a key obstacle even in the face of higher net worth.
There were no surprises in the August Personal Income and Spending numbers, which came at 0.1% and 0.5%, respectively, on expectations of a 0.2% and 0.5% rise. Summarized: less income, more spending. This however, did not make the consumer income statement data any better: the bottom line is that adjusted for inflation, Real Disposable Income slid 0.3% in August, after a tiny 0.1% increase in July, the first such decline since November 2011, and as Bloomberg's Joseph Brusuelas says this is "another rough report for the consumer which doesn’t bode well for household spending going forward." Which means Bernanke knew precisely what he was doing when he launched QE3, which all advocated of QE3 will now say was fully justified. There is one problem with that logic however: for QE3 to be justified, it would mean QE1 and 2 were. Well, last we checked the US is still in a major depression, and neither QE1, 2, nor Twist 1 or 2 have done anything to prevent today's ugly data. Surely, this time it will be different. Finally, and as a result of the ongoing contraction in income, as expected the savings rate dropped from 4.1% to 3.7%: the lowest since May.
We, like Morgan Stanley's Greg Peters, are skeptical of the Fed's apparent belief that wealth effects can support a struggling recovery. Recent gains are small versus the wealth lost in recent years. More importantly, wealth only matters when it lowers saving. It seems that weak income growth through the recovery has depressed saving – stopped saving rising to fully reflect wealth destruction – which implies wealth increases now will not trigger a typical growth-boosting drop in saving. With poor fundamentals seemingly trumping central bank policy - as macro data and bellwether stock warnings highlight the downside risks of complacency. But, the housing recovery, we hear you cry? Not this time - given weak income growth; and as far as feeling wealthy, the 'right' savings rate to achieve that dream remains well beyond most in anything but the absolute riskiest assets - and implicitly lowers consumption.
Exceptionally low interest rates are bad for banks, insurers, and, more generically, anyone wishing to save money. Of the three, it’s the situation of the savers that is most untenable. In particular, Citi notes in a recent report, those wishing to retire at 65 or thereabouts are in for a nasty surprise when they start to run the numbers. Given that real yields are negative for Treasury bonds inside of 20-years, the steady stream of inflows into investment grade bond fund that hold a mixture of government, agency, and high grade corporate securities, will simply fail to return an adequate rate of return commensurate with the current savings rates of most retirement savers. What savers need to do is find higher asset returns or increase their personal savings rate. As the chart below shows, there are few options but to go all-in to the most excessive ends of the risk spectrum, or raise the proportion of savings and higher savings rates lead to lower consumption, a decline in corporate profits, and recession.
Personal Spending rose 0.4% MoM, its first rise in three months, but this seems to have been 'funded' by consumers dipping into savings mode with the rate of growth of income rising at the same level as last month and as expected +0.3%. The Spending rate of increase missed expectations however and with the savings rate dropping for the first time in 5 months (to 4.2%) - it suggests a 'man on the street' who is perilously close to the edge to meet his needs.
Debt offers a compelling fantasy: there is no need for difficult trade-offs or sacrifices, everything can be bought and enjoyed now. If income is flat and interest rates already near zero, then where is the leverage for additional debt going to come from? The answer is the game of relying on ever-expanding debt is over. You can claim phantom assets and income streams as collateral for a while, but eventually the market sniffs out reality, and the phantom assets settle at their real value near zero. Once the collateral is gone, the debt is also revalued at zero, and the debtor is unable to borrow more. This is the position Greece finds itself in; the collateral and income steams have been discounted, the credit lines have been pulled, and so the reality of living within one's means is reasserting itself. Living within one's income (household or national income) requires making difficult trade-offs and sacrfices: either current consumption is sacrificed for future benefits, or the future benefits are sacrificed for current consumption. You can't have it both ways once the collateral and credit both vanish.
Gluskin Sheff's David Rosenberg details the four major downside risks for US growth over the next four quarters:
- More Adverse News Out Of Europe
- The Sharp Run-Up In Food Prices
- Negative Export Shock
- The Proverbial Fiscal Cliff