Sunday, November 28, 2010

Stoned Slackers

You are driving down the interstate nearing your destination, when suddenly the unmistakable sound of The Stones starts humming through your stereo. If you are a middle-aged guy, this immediately causes you to crank up the volume (way up cause your hearing is fading), stomp down on the accelerator (even if you are driving a Buick) and start doing the Jagger rooster bob. (I personally believe that all speed limits should be suspended if a Stones song is playing on the radio and I also believe explaining to the officer that “there’s fever in the funk house now” should be good enough to get off with just a warning).

It’s after the song ends, when the volume has been lowered and the rooster has been returned to its cage, that you realize you have blown by your exit and gone entirely off course. Unfortunately, you cannot immediately start repairing the damage. You need to wait until the next exit. Even then you may need to stop for a while to make sure you know how to get back on course and to refresh. And for certain when you get turned around, you drive much slower and more cautious than when Mick was blasting through the speakers. (You might even listen to Barry Manilow instead). What your mistake has produced in your trip is slack. In order to get back on track, all the slack must be eliminated.

Today’s topic is slack and how it impacts economic recovery. In a previous post I stated that I now believe the economy will be stronger in 2012 than most experts now forecast. (the government just downgraded its 2012 forecast last week, which actually reinforces my thinking.) One reason I believe the economy could grow at a rate of 5% or more in 2012 is slack.

Recessions create slack in the economy and large recessions create significant slack. This slack must be used up before the economy can really start growing. When all the slack is removed from the economy the impact can be dramatic, but slack is usually very difficult to measure.

To illustrate, consider what happened in the platform trailer market in the previous recession. Before the economy slid, the platform trailer market was booming. Existing trucking fleets were buying many new trailers and new fleets were entering the market to handle a seemingly continuous increasing demand for freight. Trailer dealers had huge inventories to service this demand. Trailer manufactures were running multiple shifts and struggling to keep up with orders. Even after the first signs of economic weakness were apparent, trailer manufacturers considered it “just a blip” and continued at full production rates in order to keep manufacturing costs lower.

When the real recession hit, freight demand quickly dropped. Fleets had too many trailers so they parked or tried to sell their excess units. When older trailers broke down, they were repaired instead of replaced. Many fleets went out of business and their trailers went into the huge used trailer inventory. Thousands of new trailers sat in dealer lots ready for customers that no longer existed and thousands more sat at the manufactures a result of the irrational exuberance that characterized the time period. There was a tremendous amount of slack in the platform trailer market.

After the economic recovery began, it took an extended time before this slack was used up. For a long time, people in the industry wondered why the demand for new trailers was not stronger. During the time though; freight was growing, fleets were putting units back into service, profits were increasing so there was money to buy new equipment and used inventory was being depleted. When all the slack had been eaten up, something almost magical happened. Demand for new platform trailers exploded, catching the industry by surprise.

Slack impacts economic recoveries like this. Imagine that you have a very tangled rope with a ball attached at the very end. Then you tie the other end to a pick-up truck. The pick-up truck starts to move forward. You can’t see the truck or most of the rope, so you watch the ball and use that as an indicator to determine how fast the truck is moving. The truck starts at a slow speed and the ball moves a little. As the truck accelerates the slack in the rope is being tightened up, but the ball still doesn’t progress much. Now the truck is moving at a high rate of speed, at some point the rope becomes taut and the ball now accelerates at a speed equal of the truck.

This is what I expect to eventually happen with this economy. People are hoping for a fast recovery, but you don’t always get what you want with this economy, but with the economic forces at work, you get what you need. This has been a very long economic slide. We’ve been holding out so long and we miss you (economic good times). The unemployed try, yes they try, but they can’t get no satisfaction in this labor market. It’s enough to make a grown man cry.

But at some point this misery will end. It will be a memory, a memory of a slump that used to mean so much to me (and you). And once you start it up, this economy will never stop (until the next downturn of course).

People think I’m crazy, others think I’m hazy, but that’s my roll of these tumblin’ dice on when the economy will climb out from under the thumb of economic hardship and finally say goodbye to those rueful Tuesdays.

So to review: It’s all right now, except for some slack. Then it’s a gas, gas, gas.

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Thursday, November 11, 2010

Real Time Election Results

The true election results are what happens in the time following the election, not what happens on election night. After the votes are tallied, it’s not important who won, but what that person actually does in office.

While this blog is about economics and not politics, let’s look at some issues that will impact the economy after the mid-terms….

Do You Hear Me Now?

The Voters Wrote the Following Message on President Obama’s Facebook Wall: “FOR THE LOVE OF GOD, PLEASE JUST STOP IT!!!!! PLEASE JUST *#$!*!* STOP IT RIGHT NOW.

President Obama replies: Hey, you don’t need to shout. I don’t understand what I’ve done to cause this type of reaction.

The Voters reply: Uhhh … we already knew that.

Repossession Order

The main problem with the healthcare bill is there is no money available for the states to be able to pay for it. That’s why governors are so opposed to it and after the election this opposition will increase.

The healthcare plan is similar to buying a new Rolls-Royce on credit. It is wonderful to drive. Your friends and neighbors just ooh and aah about it and of course the chicks dig it. Absolutely everything about the car is a positive experience until the first bill comes. Of course you can’t pay it, so you don’t. Then Matt and Sonia from Operation Repo show up with a camera crew and rip the car right out from under you at a most inappropriate time.

So now the Republicans want to change most of the healthcare bill while the Democrats do not. This is similar to two doctors operating on the same patient at the same time, but not agreeing on what needs to be done. This is not going to end well.

California Screaming

Both my California (business) girls (Whitman and Fiorina) lost. No sour grapes, but the financial problems in the state are huge and I just can’t see them improving much now. Expecting political veteran Jerry Brown to sharpen his pencil (literally) and solve the problems is like asking your grandfather to fix you iPod. “This is pretty small for a transistor radio. How do you get a 9-volt in this dadgum thing?”

The California ballot initiative on legalizing marijuana also went down to defeat. Supporters of the initiative reportedly were very bummed about the outcome. If only there was some way for them to relieve their sadness.

Seems to me if you were going to return to the hippie era and elect Jerry Brown, you would want to go the whole way and legalize pot. California could really use the tax revenue and with Brown in charge of handling their financial crisis, they are going to need more than just medical marijuana to deal with this pain.

WWF Defeated

Voters also rejected former World Wrestling Federation CEO Linda Mc Mahon in Connecticut. But don’t worry; with this divided government I predict that the upcoming political fighting will make the WWF look like the World Series of Hopscotch.

Get ready for a smack down. Pelosi better put on her game face (or at least pump up her present one). Boehner better hope his tan goes deeper than the first layer because he’s going to lose lots of skin in this game.

And that’s too bad. Many people believe that the government that governs best governs least (Quote often attributed to Ronald Reagan, but he was quoting Thomas Paine). Gridlock results in less “governing” and that worked great in the 1990’s. However, I agree with several commentators that have warned that we have serious problems right now that need to be addressed.

The First Cut is the Deepest

Many people are now alarmed that people who won elections are actually going to --- gasp and gasp again --- cut spending. Oh the horror! If you are spending too much, you either have to get more money, i.e. raise taxes or yes, cut spending. Is this concept too difficult to understand? When people lose their jobs and have less money, they have to cut their expenditures. What makes government so special that it would not have to do the same thing?

Yes, We Have No Bananas (Republic)

It’s probably too late for the election to change this…..

When third-world countries recklessly inject mass quantities of capital into their economies, we laugh at them and refer to them as “banana republics”. When we do it, it is wise monetary strategy. We’re not “printing money” it’s “Quantitative Easing”. The name sounds so pleasant and gentle. You might also say that quantitative easing is what your Uncle Ned does right after finishing his huge Thanksgiving dinner. That doesn’t turn out to be so pleasant and gentle either.

This quantitative easing in this case is like pouring water on a chemical fire. It appears like you are doing something but you are achieving very little. Banks say they have the money to lend but there is little demand from customers. It’s like a restaurant with bad food that tries to stimulate demand by offering all-you-can eat specials. If people aren’t hungry for what you are serving, lowering the price doesn’t help.

Please checkout this video clip from a recent presentation I gave to a job seekers group: Click Here

Monday, November 1, 2010

Hard Questions, Difficult Answers

Hey Don, if the recession ended in June of 2009, why does it feel like we are still in one 17 months later?

Because even though the recession officially ended the economy remains recessed. reports that the economy is currently 0.8% below pre-recession peak and industrial production is still 7.5% below peak.

Think of a recession as an event and a recessed economy as a condition. If you suffer a wound that results in significant bleeding, stopping the bleeding is a good thing. However, it will take time for your blood count to return to normal.

So as soon as we get back to where we were in November 2007, things are going to be great. Right?

Unfortunately, no. Recessions are actually good for the economy because they squeeze inefficiencies out of businesses and reallocate capital that has not being optimized. But recessions are similar to fevers. Mild ones often accomplish the task and the recovery time is fast and the event relatively painless. Severe ones are very painful and recovery takes an extended time before the patient is healthy.

This economy was very sick. Now the fever is gone, but other problems still persist. Unfortunately just getting back to “even” will not significantly reduce unemployment. Millions of workers lost their jobs during the recession. This is part of the efficiency improvement. Companies are now functioning with less employees and this helps profits and makes them stronger. Under normal conditions the displaced workers would find jobs with newly expanding companies benefiting from the more productive reallocation of capital. That is not happening now. The credit markets are still dysfunctional so capital is not being reallocated and we are still “exporting” jobs to China. Therefore, once we get back to “even”, unemployment will remain elevated.

When will the economy be strong enough to really make a difference?

The Model T shows the economy growing slowly in 2011. The economy will reach 2007 peak levels sometime in the first half of the year and slowly keep moving ahead in the second half. Unemployment will decrease, but not substantially.

But the Model T does predict strong economic growth in 2012. GDP could grow in excess of 5%. This is higher than most economists are predicting. But when the economy is weak, people tend to believe things will continue to stay the same indefinitely. It is the same when the economy is very strong. Some of the 2007 quotes by Ben Bernanke, Henry Paulsen (then Treasury Secretary), and some top economists predicting an on-going strong economy and a continued great housing market are now laughable.

In 2012 things will start to hum. Consumer confidence should improve leading to more consumer spending. Business confidence will then improve leading to more investment. The credit markets will be healthy enough to support the increased need for capital. These conditions will finally start to create jobs and drive down unemployment. More workers getting paychecks helps fuel a recovery, just as it is supposed to. In addition, it is a big election year. There is nothing like an important election to get Republicans and Democrats to work together to boost the economy and improve everyone’s reelection chances. And if the economy is booming, don’t count out a second term just yet.

What will happen with the stock market?

I am officially abandoning the Model T’s prediction of an S & P low of 580 at this time. I still believe the model would have worked, but the extreme government intervention created a “false bottom” for the stock market and the economy. The government stopped the market from crashing. The trade off is in taking these actions it kept things pushed down for an extended period of time and has delayed an economic recovery. Only time will tell if these actions were brilliant or boneheaded. The fact that it could be either proves how difficult it was to make decisions during the midst of the financial meltdown.

Several analysts now predict that the next correction will take the S & P down close to 800. That makes sense. It would be logical for the market to drop sometime in 2011 as investors lose patience with the economy. If the S & P approaches 800 or below, it is time to jump back in. Even if the market continues to fall below 700, it should not take long to get back to 800. And you definitely want to be in the market before the boom year of 2012.