Guest Post: A Double Dip Recession? A View from the Consumer Metrics Institute

I have been looking for a commentary to share with you all regarding the most recent US GDP report. I wanted something that went beyond the obvious inventory buildup that boosted the number by almost double, and the shockingly low deflator that was used.

Here is a commentary that seems to capture the big picture of where the US economy stands today, and is able to express it simply and clearly.

Richard Davis of the Consumer Metrics Institute does excellent work, and is available for interviews.

Enjoy.

"The April 30th GDP report issued by the Bureau of Economic Analysis ("BEA") of the U. S. Department of Commerce was a freeze-frame quarterly snapshot of a highly dynamic economy -- an economy that another source indicates was in significant transition while the snapshot was being taken.

Compared to the 4th quarter of 2009, the annualized growth rate of the GDP had dropped by 43%. Depending on your point of view this could be interpreted either as a glass that is "half-full" or a glass that is "half-empty":

1) The "half-full" reading would mean that the GDP numbers confirm that the recovery had at least moderated to a historically normal growth rate. In this scenario the good news would have been that "the economy is still growing," albeit at a historically normal rate. The bad news would have been that a normal growth rate would only warrant normal P/E ratios in the equity markets.

2) The "half-empty" reading would have meant that the near halving of the GDP's growth rate confirmed that (at the factory level) the economy had finally begun to "roll over". If so, the BEA's announcement portends even lower readings in the quarters to follow.

What was clearly missing in the "half-full/half-empty" debate was a feel for whether the level seen in the snapshot's glass was stable or still dropping. At the Consumer Metrics Institute our measurements of the web-based consumer "demand" side economy support the "half-empty" reading of the new GDP data. The new GDP numbers (which are subject to at least two revisions) agree with where our "Daily Growth Index" was on November 24th, 2009, 18 weeks prior to the end of 2010's first calendar quarter -- and when that index was in precipitous decline.

A look at our "Daily Growth Index" also shows that towards the end of November 2009 the "demand" side economic activity was dropping so quickly that a two week change in the sampling period would make a huge difference in the numbers being reported. If the sampling period had shifted to two weeks earlier, the reported GDP number would have been 4.4%, substantially higher. However, if the sampling period had shifted to two weeks later, the GDP growth rate would have been only 2.0%, less than half the reading from only 4 weeks earlier. This is the sign of an economy in rapid transition.

The methodologies used by the BEA when measuring factory production are ill suited to capturing an economy in such rapid transition. In the 4th quarter of 2009 the production side of the economy was topping (reflecting the topping of our measurements on the demand side in August 2009). The first quarter's production environment was at a much more dynamic spot in this particular economic cycle, and the subsequent monthly revisions by the BEA may be significant.

From our perspective the GDP is only confirming where our numbers were in November -- which is, relatively speaking, ancient history. Since then we have seen our "demand" side numbers slip into contraction (on January 15th), and they have recently lingered in the -1.5% "growth" range (see charts below). We have long since recorded the "demand" side activity that has been flowing downstream to the factories during the second quarter of 2010. If the GDP lags our "Daily Growth Index" by 18 weeks again we should see the consumer portion of the 2nd quarter 2010 GDP contracting at a 1.5% clip, less inventory adjustments."

"As you can see from the above chart the current consumer "demand" contraction event is unique: if there is a "second dip" it may very well be unlike anything we have seen recently. Instead of a "call-911" type of event in 2008 or the "hiccup" witnessed in 2006, we may be seeing a "walking pneumonia" type of contraction that has legs.

Our data is significantly upstream economically from the factories and the products measured by the GDP, putting us far ahead of the traditional economic reports. Perhaps our data is too timely; we are so far ahead of conventional economic measures that our story generally differs (either positively or negatively) from the stories being simultaneously reported by more traditional sources."

Charts and commentary courtesy of Richard Davis at the Consumer Metrics Institute.

SP Futures Daily Chart

As corrections go its a good start, and the shape of that potential top is fairly ugly as topping formations go.

The Non-Farm Payrolls number is at the end of the this week, and that may overhang the bears a bit unless something exogenous occurs.

Today's sell off had all the characteristics with a flight away from the risk trade and the insubstantial. But in the later part of the day the fear on the ticker seemed to subside and turn into a good old fashioned wash portion of a wash and rinse.

Some believe that this is a 'sign' from the US banking industry to the government that they will not tolerate efforts at reform. That is probably a bit far-fetched.

1160 looks to be a good pivot, maybe 1155. Then we start falling out of the consolidation category into a righteous sell off. Markets never go straight up, and this one is long overdue for a pullback.

The market has run from 1045 to 1215 with no major sell offs save the current action that started in April. That is 170 SP points almost straight up. Trading at 1165 puts it as a correction of 50 points. That's roughly a 4% pullback from the 1215 top, and 30% off the gains from the bottom in February when this leg of the bull started.

Still as a percent from the market bottom in 2009 it's almost nothing, a blip on the radar. So far.


By way of 'sharing a thought,' I'm short, and came into today very short from last night. But I am quite a bit less short right now, but still running a hedged play.

This 'up and down' pattern is pretty typical of a topping pattern or a consolidation, and the kind of action traders like to take when they want to 'wash and rinse' the small players, while they think about which way the market is likely to break.

I don't think that this is overstating it, since this market completed dominated by a few banks and hedge funds on the buying volume. It seems as though volume only shows up on the dips. Like so many traders I am playing the swings in it both up and down to good effect on the short term positions.

At some point it is going to break down or up and you do not want to be on the wrong side of that.

Why Silver?

Here is a 'thought experiment.'

In order to conduct it you have to accept a few postulates, or more properly, hypotheses, as being true without proof.

1. J. P. Morgan is the 'house bank' for the Fed and the Treasury since their forced merger with Chase Manhattan. Goldman may garner most of the high profile publicity, but when it comes to banking, financial engineering, and US economic policy, Blankfein is playing Dutch Schulz to Jamie Dimon's Lucky Luciano, metaphorically speaking.

2. J. P. Morgan, and some of the other Too Big To Fail institutions, sometimes act as an instruments of US policy. This may be an informal arrangement, a phone call. But it happens, and it involves more than just banks. It has been shown to occur with the big media, big corporations, and so why not big money? There is always a quid pro quo involved. Its simple political reality.

3. The US government has become increasingly involved in the management of the economy, from way in which it reports statistics, to the regulation of the financial sector, to the tax policy, and to what amounts to an industrial policy and of course a labor policy. While every government does this as part of their role of being a government, even if by omission, the US began to take a more planned and organized role with the creation of the President's Working Group on Markets in the aftermath of the Crash of 1987. The Exchange Stabilization Fund, established in 1934, was transformed into an opaque 'slush fund' to hand financial crises, most famously in Robert Rubin's extra-congressional actions during the Clinton Administration. What had been informal started to have a core, centralized discussion that exists without oversight. And two key money elements of this group, the Fed and the ESF, resist all attempts at outside audits.

4. From the SP futures to the outsized positions in some of the commodity markets, regulators have been consciously turning a blind eye to some very obvious market manipulation, apparent to anyone involved in the business. While this can be attributed to simple regulatory corruption and capture, in fact these things are often used for other purposes by powerful insiders and politicians. The role of the ratings agencies in support the banks and hedge funds in their various market frauda is interesting. And there is no better way to oblige yourself to the will of the authorities than to be discovered in some breach of the rules.

5. Robert Rubin introduced the policy rule that it is cheaper to head off a market dislocation by buying the futures to head off declines than it is to clean it up in the aftermath. Although this principle is now commonly attributed to a journalist and often dismissed as 'tinfoil hat' speculation I remember vividly when it was first articulated and it was by Robert Rubin. This rule or market intervention has been integrated and expanded, and is now a routine part of US economic policy decisions, again centered around the President's Working Group on Markets. It is a not always used, but it is considered a policy instrument, which is a change. Things like this are intitially proposed to be used in extremis, but like many stimulative drugs, they develop an addictive profile over time. This selective intervention had been performed by private banking pools in the past, most notably J. P. Morgan himself. But it is now firmly embedded in the hands of government.

6. Since at least 1970 the US dollar and financial system have become instruments of its foreign policy in the same way that the US military is an instrument of official policy. There are military conflicts as a means of supporting foreign and domestic policy, and there are also 'currency wars' and what can be loosely described as financial conflicts, for remarkably similar purposes. Sometimes these are overt in the form of sanctions, tariffs, and subsidies, but more often they are subtle, a means of extending political control and influence through debt and currencies, banks and ratings agencies, and supporting one's own corporations and industries.

Now that we have accepted the above for the purpose of this exercise, there comes the question, why silver? Is the United States interested in manipulating the price of silver, and therein the supply of silver in the world, and its uses?

J. P. Morgan has a strategically huge short position in silver, and is using it to 'manage' the price of the market at will. I did not bother to put that into the six postulates because it is a well documented fact, although rendered a bit hazy by official secrecy, bordering on an IQ test. If you fail to see it, try not to use too many sharp or pointed objects.

It is easier to do this with smaller markets like silver when one is using derivatives, as opposed to currencies or something as strategic as oil. I understand the gold market, because gold is a rival currency to fiat money and to the US dollar as the reserve currency. Gold is also the 'canary in the coal mine' and if you were of mindset to control things, you must control gold. Gold has a relationship with interest rates as Larry Summers attempt to prove in his paper, Gibson's Paradox.

But why silver? What strategic or monetary importance does silver have that would warrant so much attention and effort from the US government? Is there some as yet less known application for silver that makes it important? Or is silver just a convenient market to turn over to your cronies as their private sandbox, because it does not matter to you.

The most likely scenario I can imagine is that although silver lives in the shadow of gold from a monetary perspective, it has long been thought of as the 'poor man's gold,' and as monetary instrument for developing regions.

Silver has a long history as a form of currency in Latin America and in China. And although most Americans do not realize it, the US Constitution defines lawful money as both silver and gold.

The US maintains an enormous store of gold, although priced somewhat quixotically at a mythical price of around $42 per ounce, one of the largest in the world. But it has long since depleted its stores of silver bullion, and remains vulnerable to any move to include silver as a nascent currency promoted by the developing nations.

Just as a point of information, I have all of the six premises above as active 'strawmen' in my thinking. I believe there is enough evidence, quite a bit of it circumstantial and unconfirmed, that they are more probable than just possible. So I am content to keep them as data points while new information and data is processed, for and against.

I don't particularly care if anyone believes the premises or not. But they are interesting to consider for the purposes of this experiment in thought. Because the key word here is 'belief.' One cannot disprove any of it, just as one cannot prove it, yet. It takes an enormous leap of faith to believe that the government just lets things happen, and the markets are all happy hunting grounds of pristine humanitarian honesty, and the powerful and the rich do not use their influence to bend the markets to their will. And if the US is not watching out for its own interests in the world, and those of its people, well, it is just not doing its job, and it is incredibly naive to think otherwise. The efficient markets hypothesis is a load of romantically wishful delusion, and more likely propaganda for the masses.

One of the advantages of being your own person and adhering to what hard analysis has led to you conclude is that you can say what you think as long as you state why, and not care overmuch whether people wish to accept it or not, or condemn it as a conspiracy or not. The truth will out.

So, given the above premises, and assuming that few things really happen incidentally and by accident on a large scale when the government is involved, the question has to be asked.

Gold and Oil have an obvious strategic importance. But why Silver?

Early comments:

Mostly the obvious and therefore most highly probable. Its a small market and amenable to manipulation. Since the metal is necessary to industry it has its attractions even if the price rises. It is relatively neutral to government.

Quite a few think that it is a trade gone out of hand, where the shorts are effectively trapped, and cannot manage their way out of it gracefully.

One thing that has not occurred to anyone yet, which is a little bit disappointing, but perhaps too far off the subject, is this. Is it the government at the apex of the policy, the power, or is the government itself just one of the support mechanisms, a powerful member of the demimonde, for the real heart of darkness? Something to think about, but admittedly out of the purview of the thought experiment.

"The real truth of the matter is, as you and I know, that a financial element in the large centers has owned the government of the U.S. since the days of Andrew Jackson. History depicts Andrew Jackson as the last truly honorable and incorruptible American president."

Franklin Delano Roosevelt

GDP Deflator at a Five Decades Low While Income Inequality Is at Record Highs

From this chart sent out this morning by David Rosenberg, we can see that the GDP deflator is at a five decades low.

I tend to believe that the modifications to the inflation measures, including the deflator, that have accumulated by the federal bureaucracy over the past ten years are greatly understating the actual inflation in the economy.

There are very positive benefits for the government to do this. The lower the deflator, the better and higher the real GDP figures will appear. And a low measure of official inflation reduces increases in payments in Social Security and other programs with Cost of Living Adjustments (COLA), including official debt payments on the bonds and the TIPS.



Gold gives the lie to this, which is why it is so hated by financial engineers and statists.

On the other hand, the inequality of income distribution in the US is at level not seen since the 1920's.



There is some good reason to think that government tax and fiscal policies, as well as the monopolistic makeup and subsidized growth of the Banking sector facilitates this wealth transfer and concentration, which has a highly negative impact on real economic growth.

There will be a change, and the trends will be reversed. How they are reversed and what changes will accompany those reversals are very much open to debate, and divergent historical examples. But these changes almost invariably involve a shift from individualism to statism.

"Those who make peaceful revolution impossible make violent revolution inevitable."

John F. Kennedy

Change will come if the system remains as unsustainable as it is now. And what gives me a somewhat pessimistic view is that people never seem to learn the lessons of history.