Forget all the market rallying, and the renewed talk about howe we’ll avoid a double-dip recesion.The latest analysis from Hoisington Investment Management (.pdf) calls for a recession this quarter.
The firm cites three big cyclical developments:
Negative economic growth will probably be registered in the U.S. during the fourth quarter of 2011, and in subsequent quarters in 2012. Though partially caused by monetary and fiscal actions and excessive indebtedness, this contraction has been further aggravated by three current cyclical developments: a) declining productivity, b) elevated inventory investment, and c) contracting real wage income.
A) In the last half of 2010, real GDP grew about 21⁄2%. The consensus forecast for 2011 was for growth to accelerate to 3%-4% due to the massive easing of Fed policy (QE2), social security tax cuts, and other fiscal stimuli. Surprisingly, real GDP growth slowed to less than 1% in the first half of this year. When growth slows abruptly and it is markedly at variance to expectation, businesses find they have more employees than desired. Normally, firms are reluctant to resort to layoffs, but a failure to do so means unit labour costs rise swiftly as output per man hour (productivity) falls. This was exactly the experience in the first half of 2011. In the very broad, non-farm business sector, productivity did decrease at a .7% annual rate. Accordingly, unit labour costs surged at a 4.8% rate over the same time period, exceeding the rise in consumer prices.
Historically, a sustained and meaningful drop in productivity and a parallel rise in unit labour
costs have been precursors to increased layoffs as businesses struggle to restore margins and profitability. Once these job losses commence, broad negative ramifications are felt throughout the economy
B) Inventory investment, the most volatile component of the economy, has contributed substantially to the recovery since 2009. From the second quarter of 2009 to the second quarter of this year, real inventory investment surged by $222 billion, accounting for 35% of the rise in real GDP over that period. Now inventory investment accounts for 1.18% of real GDP, which is .18% above the average since 1990. In July and August, production of consumer goods increased at a 3.2% annual rate versus the second quarter, while real retail sales contracted at a 1.4% rate; therefore, inventory investment moved to an even higher, likely undesired, level. Consequently, as firms move to rebalance inventories, the stage is set for a slowdown in production, requiring a further need to pare staffing levels.
C) Real average hourly earnings has fallen by 2.2% over the twelve months ending August 2011. Real disposable income (a broader measure of income) was lower in August than last December. Initially, consumers responded to this lack of income growth by cutting their saving rate back to the recession low of 4 1⁄2%, but now an evident slowdown in spending has occurred. Real spending expanded by only .7% in the second quarter, and remains sluggish in the third quarter. This lack of real income growth will contribute to the negative changes in GDP in coming quarters.
This reduction in real income can be traced, in part, to the misguided attempts to spur economic growth by the Federal Reserve via quantitative easing (QE2). The QE2 expansion in the Fed’s balance sheet backfired as the boost in stock prices (a positive for some consumers) was more than offset by the negative impact of food and fuel inflation on the average family budget. While rising equity values helped a few consumers, inflation in necessities such as food and fuel, decimated real incomes for the average family. Thus, the emergent cyclical weakness that lies ahead can be directly related to the unintended consequences of quantitative easing.
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