Signs Economic Recovery Not in Sight

Here is just a sampling of signs that the economic recovery is nowhere is sight:

California is issuing IOU's for billions of dollars of current obligations. State workers to be furloughed three days per month.

Unemployment rate hits 9.5%, with 467,000 jobs shed. Job losses accelerating from previous month with estimates for unemployment to exceed 10% up to 11%.

Automobile sales are still suffering despite massive incentives. Consequently, gross margins are being compressed. Sales without profits is not a recipe for long-term survival. Lear and other suppliers to file for bankruptcy relief as sales slow and margins disappear.

Once the current buyers of vehicles have bought at heavily discounted prices, sales will continue downward cycle as all who could afford and wanted to buy will have already done so.

People who are unemployed or who fear job loss are not going to buy cars or fund an economic recovery. This is a nonsensical fallacy.

The recent stock market rally is not based on improving fundamentals. It is based more on the herd mentality of Wall Street. The investment laggards must buy into the fool's rally to supposedly avoid falling further being competitors. Unfortunately for them, their clients are not going to participate in the recent rally; instead, they will suffer further losses as the market retreats.

The FDIC has already shut down more banks this year than last year in its entirety by a factor of two.

Home prices are still declining. The only increase in home sales relates to foreclosured properties or those in the midst of foreclosure.

Consumer credit is constricting at a rapid pace and banks reduce credit risk and the cost of that reduced credit is ballooning. Hardly the condition for a return to prior consumer buying habits.

The U.S. dollar is being continually devalued due to outrageous defecit spending. The value of the dollar versus other currencies will continue to decline if the profligate spending continues. It may already be too late to stave of a tidal wave of inflation once the world economic recovery returns in full force, two, three or more years from now. Don't expect an economic recovery until unemployment begins to decline for a substantial period of time and consumer credit eases.

China has already indicated its intention to rely less on the dollar as the sole global reserve currency. As that movement expands, borrowing costs for the U.S. will continue to rise.

The American taxpayers is being stressed to the max even before the cost of a new health care system and of environmental "cap" and "trade" are factored in.

Similar to California, state governments throughout the country are on the brink of collapse due to the failure to align actual current revenues with prior outdated prognostications of revenue. State legislators lack the political backbone to curtail spending even in the face of economic catastrophe AND just as every individual household must do when sources of income decline.

There are no "green shoots" of any lasting consequence. Whatever "green shoots" supposedly existed were manufactured by government manipulation of our capitalist system.

When the government no longer respects contracts or the rule of law that has governed business relationship from time immemorial (with few exceptions) in favor of general notions of the public good or socialist tendencies, we are not fomenting the conditions for economic recovery but just the opposite as entrepreneurs and businesses can not rely on the sanctity of their negotiated arrangements.

Unemployment is a Lagging Indicator: Not This Time

The conventional wisdom filling the CNBC airwaives and the financial media these days is that unemployment is a lagging indicator. On this basis, the likes of Larry Kudlow and Jim Cramer, notably, dismiss continuing job losses and the burgeoning unemployment rate as essentially irrelevant. Not only is that shibboleth completely at odds with empirical economic data, but it masks the very real potential of a weak or non-existent recovery for the foreseeable future. See recent comments by Mohammed El-Erian of PIMCO and David Sokol, chairman of a Berkshire Hathaway subsidiary and a top advisor to Warren Buffett. That Kudlow and Cramer blithely ignore the unabated growth of the unemployment rate (notwithstanding the decline in job losses) and the correlative decline in buying power and from underemployment is, minimally, intellectually dishonest and dangerous.

Let's look at the so-called "rationale" underlying the "lagging indicator" myth. In the past, when the economy suffered an economic downturn or recession, job cuts ensued to rationalize expenses with income and to minimize the immediate blow to profitability. When the economy started to recover, job growth returned but at a much gradual pace than jobs were previously shed. Therefore, the notion was formulated that when the rate of job loss begins to slow, we are closer to a bottom or turnaround in the economy even though the unemployment rate continues to increase. But, this type of thinking inherently implies both that (i) a reduction of job losses (though still increasing) will likewise slow the rise of the unemployment rate, and (ii) those who are unemployed will be able to return to the workforce at or near their prior compensation levels. Unfortunately, both of these premises are questionable at best in the new reality of the current economic climate.

For the month of May, non-farm payrolls fell by 345,000, while the unemployment rate climbed to 9.4%. So, even though payroll losses declined by 159,000 compared to April losses of 504,000, the unemployment rate increased by 0.5%, from the April rate of 8.9, or 0.2% above consensus estimates. How can the unemployment rate increase at a faster rate than the decline in jobless claims? Easy. The number of newly unemployed encompasses a much larger group of people than those experiencing job losses, and the number of newly created jobs each month is unable to keep apace with the continuing surge in the number of unemployed.

Let's further analyze the May numbers to illustrate this phenomenon. The total number of unemployed persons rose to 787,000, representing more than a 440,000 increase of such persons above actual payroll losses. At first blush, the math doesn't seem to make sense. One would surmise that if job losses were 345,000, the number of newly unemployed would be the same or roughly comparable. But, as alluded to above and explained below, the rate of unemployment is not limited to only those persons actually losing their jobs.

Instead, the unemployment rate is designed to include all unemployed whether or not they are receiving unemployment benefits or became unemployed as a result of losing a job. For example, the unemployment rate includes the growing numbers of self-employed who are now searching for third-party employment. It includes those who have resigned or otherwise left positions without qualifying for unemployment benefits. It also includes new entrants to the workforce who are actively seeking work. Therefore, even if there were no new net job losses, the unemployed would still have risen by the 440,000 with a corresponding increase in the unemployment rate.

In my view, an increase of 787,000 unemployed is not anything to write home about as positive or irrelevant. It does not signal an end to the recession; rather, it demonstrates just how deep the recession really is and how long it will take for the economy to recover. Because a strange, though not wholly unexpected outcome, is occurring. As the unemployment rate skyrockets, more new job seekers are entering the market further increasing the unemployment rate. Why? Because if a household's income is adversely affected by a job loss, other currently non-employed members of that household will also be searching for work to make up the shortfall.

But the unemployment rate, though a more reliable economic indicator of the future health of the economy than measuring only monthly job losses, does not even attempt to measure the effect of underemployment on buying power. Underemployment occurs when someone assumes a position below their potential earning power based on prior employment and marketable skills. Numerous examples abound of this sort. Take the job losses in the banking industry and the manufacturing sector. Many of those now unemployed in those fields previously were earning substantially more than currently available jobs are paying, whether or not in the same sector, given their qualifications and experience. Consequently, while the unemployment rate is job neutral meaning that a replacement job at a lower wage or salary is treated the same from a statistical point of view as one who replaces a lost job with a new position at a similar rate of prior compensation, the economic reality is quite different. Disposal income is significantly diminished along with buying power. There are simply fewer dollars to spend for fewer goods by fewer people.

The point being that because of the fundamental restructuring of the U.S. economy since last Fall, which is likely to continue for some time, the overall unemployment rate is likely to remain high regardless of a reduction of monthly job losses. And the prospects for economy recovery will indeed affected by the adverse consequences of such unemployment on buying power regardless of those who are stubbornly unwilling or unable to differentiate the current recession from every other one since the Great Depression.

Increasing Foreclosures Equals Increased Consumer Spending: A Strange

Just heard an intriguing observation on the CNBC show Fast Money from a guest commentator that the increase in foreclosures may actually be a cause of increased consumer spending. The argument is that people whose homes are in foreclosure stop making mortgage payments; therefore, they have more money to spend on other consumer goods. So, the more people who don't pay their mortgages, the better the consumer spending statistics appear.

If true, that means we are going to see a long list of foreclosures for a long time. If that occurs, home values will continue to decline or certainly won't rebound. And I don't think that reflects well on the economy long-term. If a significant segment of the population is soon to be potentially homeless, it is only a matter of time before the economy will see a downward effect on consumer spending.

Let's look at this simply. If people aren't paying their mortgages due to pending foreclosures, at some point they are going to have to find some place to live and that probably means paying rent. Moreover, many of these delinquent homeowners are probably going to have to file for bankruptcy to wipe out the debt secured by their home mortgages and other obligations. Under recent amendments to the Bankruptcy Code it is harder to file for a straight liquidation under Chapter 7 as opposed to paying a portion of current income to creditors under a Chapter 13 plan. If and when we see a continuing increase in bankruptcy filings, consumer spending will necessarily be affected.

Not only will real estate values drop because of foreclosures but automobile sales and durable goods sales will be impacted as well. If someone has to use his current income to pay living expenses and past debt, there isn't much left to fund new capital purchases. So maybe we are in the midst of a consumer spending fantasy period, before economic reality hits the severely indebted.

We constantly hear analysts say that unemployment is a lagging indicator. However, that assumes that the unemployed will find new jobs at comparable income levels as the economy rebounds. There is nothing to suggest that is going to happen this time around. Many jobs have been lost forever in the financial services industry, automobile industry and other manufacturing and service sectors. Unemployment statistics are also inherently unreliable because they don't count people who have exhausted unemployment benefits or never received them in the first place even though they are unemployed. It also doesn't count new entrants to the workforce.

It is therefore only logical that the unemployment rate will crest regardless of whether more people are actually working. This is a fundamental flaw in the computation of this statistic. A more reliable indicator would be the number of people who have jobs and whether that number continues to fall at a rate greater than the increase in the unemployment rate. As usual, many governmental statistics provide little value as to what they are intended to measure especially when they are continually revised within weeks of release.

The market is digesting all the bad news and sloughing it off as irrelevant. Is that a function of a fundamental belief in the economy's improvement or money managers jumping back into the market so as not to be outperformed by their peers? Certainly, the market's rise has become a self-fulfilling prophecy as the more conservative managers remained on the sidelines while the market swung back with very limited economic data confirming that the economy is improving to an extent to justify the rally. My concern is that the herd mentality is still with us. It has always ended in mayhem as the last of the holdouts buy into the rally. Soon after, the market will plunge as it usually does as there are no more buyers and those with profits will sell to preserve as much of them as possible.

The tepid volume in this rally should make one wary. The conviction isn't there signaling that a reversal could occur if sentiment takes a pause or economic data begins to reflect the reality that consumer spending is nothing more that a temporary phenomenon not based on an improvement in the economy but a redistribution of household income away from housing expenses due to an unintended consequence of the foreclosure phenomenon (i.e., the artificial temporary increase in consumer spending that would otherwise be spent on housing expenses). If the uptick in consumer spending is to any degree based on this, which I believe it is based on personal observation of spending habits of those in foreclosure, we are headed for a rude awakening as economic statistics eventually confirm this anomaly.