The broadest measure of unemployment, the U-6 measure [...]]]> Today the latest employment numbers came out and revealed that private employment was up by 67,000 jobs, but overall unemployment was up, to 9.6% from 9.5%, because of government worker layoffs (mainly Census workers). This means that 14.9 million people are unemployed (under the narrower U-3 definition).

The broadest measure of unemployment, the U-6 measure which includes “marginally attached” workers, such as those that haven’t looked for a job in the last four weeks, or that have given up looking but want jobs, or temp workers who would like full-time jobs, went up to 16.7% from 16.5% on a seasonally adjusted basis that number (on an unadjusted basis, it was down to 16.4% from 16.8%).

Does this signal a turnaround in the employment situation? I don’t think so. Here are the official trends:

From the Wall Street Journal

It is easy to see from this chart above that employment gains have flattened since January, 2010.

Here is another statistic to look at for the week of August 28:

While the above jobless claims numbers are a bit of a mixed bag, the trend shows clearly in the chart. For the last two weeks of claims declined slightly, but the dark red line shows the 4-week moving average which shows rising claims.

Other indices such as the Monster Employment Index, a monthly analysis of U.S. online job demand, declined to 136 from 138. The Challenger mass layoff August report declined to 34,768 from 42,676. Then the ADP employment index for August declined to a negative 10,000:

“The ADP national employment report is computed from a subset of ADP records that in the last six months of 2008, represented approximately 400,000 U.S. business clients and approximately 24 million U.S. employees working in all private industrial sectors.”

So where is unemployment going?

I’ll let others analyze the faults of the BLS’s methodology and certain apparent inconsistencies. Dave Rosenberg gives a good report today on that, and Mish, as usual thinks the BLS data are phony because of the “Black Box” birth-death business formations model. Mish is no doubt correct.

There are several important trends I believe are and will drive employment and I mentioned them yesterday in my post on weakening manufacturing data, and especially rising inventories. This trend will lead to higher unemployment and today’s BLS numbers bear this out as manufacturing shed jobs. According to the report:

Manufacturing employment declined by 27,000 over the month. A decline in motor vehicles and parts (-22,000) offset a gain of similar magnitude in July as the industry departed somewhat from its usual layoff and recall pattern for annual retooling.

The largest gains were shown in health care (+28,000), construction (+19,000), and professional temp workers (+17,000). These gains are not indicative of healthy private employment growth in my opinion. Health care is now being driven by Obamacare and Medicare, construction is driven by Recovery Act spending since new private development has fallen off a cliff, and temp workers show that businesses are still reluctant to hire.

My report yesterday (“Important Manufacturing Indicators Look Weak“) reported on weakness in new manufacturing orders, rising inventories, and weak consumption data. David Stockman today reported on “private incomes” for June which were actually negative, which belies the optimistic report on private wages and salaries being up by 0.4%.

Today the ISM came out with their Non-manufacturing Index, and the report was grim:

The ISM non-manufacturing report shows broad and deeper-than-expected slowing. New orders at 52.4 are down more than four points in August for the slowest rate of month-to-month growth so far this year. Employment, which in this report includes government workers, is signaling contraction, at 48.2 for a nearly three point decline for the worst reading since January. The composite headline index at 51.5 is down exactly three points for what is also the worst reading since January. … Backlog orders are basically flat, export orders are down, deliveries are showing less delays, and general business activity is slower.

You can also see from the above chart, that this index has been flat to declining since March, 2010.

The report on durable goods orders report for July also was weak:

The bounce back in July [+0.3%] was led by the transportation component. Most other components slipped. Excluding transportation, new durables orders dropped 3.8 percent, following a 0.2 percent rise in June. While durables orders are a volatile series and some month-to-month dips are to be expected, the latest news is disappointing.  . . .  Nondefense capital goods orders excluding aircraft in July fell 8.0 percent, following a 3.6 percent jump the month before. Shipments slipped 1.5 percent in July, following a 1.0 percent rise in June. However, orders and shipments for this series have shown strength for several months.

Just a few more bits. The Philadelphia Fed reported that its regional manufacturing index fell to -7.7 in August compared with 5.1 in July. Philadelphia reported that new orders rose in August, at an index of 55.0, but was way down from July’s 64.6 for the slowest reading of the year. They also reported inventory backlogs jumped to 56.2, a negative factor.

Lastly, there is consumer sentiment:

Consumer confidence is weak reflecting an increasingly negative assessment of the jobs market. The Conference Board’s index did rise 2-1/2 points from July but August’s 53.5 level is still down almost 10 points from May (July revised six tenths higher to 51.0). More say jobs are hard to get, at 45.7 percent of the sample’s initial 3,000 respondents vs. July’s 45.1 percent for the worst reading since February. Again, direction is a special concern as pessimism has increased over the past two months. Confidence in future income improved slightly but remains very depressed with more seeing a decrease, at 16.1 percent, than an increase at 10.6 percent.

These factors will continue to depress employment and indicate weak economic growth.

Actually, [...]]]> Within 10 seconds of Thursday’s income and spending release for July, CNBC’s economics reporter, Steve Leisman, spotted the good news. He noted that private wages and salaries were up by 0.4% from last month — and that this welcome news showed that we’re gaining on personal income growth “not by transfer payments alone.”

Actually, today’s numbers prove nothing of the kind, and might well be nominated for the “running in place via prior period revision” award. I’ve been closely tracking a slightly broader category called “private incomes” which consists of private wages and salaries plus proprietors’ income, rental incomes, and interest and dividend payments. Improvement in these components would be the essence of
“organic income growth” because the remaining significant elements of personal income are transfer payments and public-sector wages and salaries — both of which are now becoming hostage to the nation’s increasingly precarious fiscal condition at all levels of government.

In June, the Commerce Department reported “private incomes” at $8.433 trillion. This figure was $463 billion or 5.2% lower than it had been way back in the third quarter of 2008 before the Wall Street heart attack. So as of June, we were still deep in the hole in terms of the organic income which must ultimately support consumption spending and drive GDP growth. Indeed, it was only an offsetting growth of $460 billion or 13% growth in transfer payments and government wages and salaries during the same period that kept income and spending about flat in nominal terms.

In today’s report for July, however, “private incomes” for June were revised down by $24 billion to $8.409 trillion. This permitted July to be reported “up” by 0.3%. “Up” to what? To exactly, $8.433 billion — the same number reported for June about 30 days ago! So we’re still $463 billion below the third-quarter 2008 level on private incomes. Since December 2009 when the recovery allegedly began in earnest, this yawning gap has been closed by a minuscule $13 billion per month. At that rate, it will take us another 35 months to get back to the pre-Lehman level of nominal private income; that is, we would experience no growth in private incomes from mid-2008 until mid-2013. We’ve seen that scenario only once before, but it was in that unmentionable era just before World War II. Thus, as has been the case repeatedly in recent months, prior period revisions are generating the illusion of gains when we are, in fact, running in place.

This originally appeared on Minyanville.

The important indicators are:

ISM Manufacturing Index

The curtain has opened on Act Two of our “Year of Two Halves”—RGE’s theme since the end of 2009—with [...]]]> My favorite playboy economist, Nouriel Roubini, has come out with a new analysis on the future of the economy that is very similar to what yours truly has been saying. Good stuff for your consideration:

The curtain has opened on Act Two of our “Year of Two Halves”—RGE’s theme since the end of 2009—with the slowdown forecast for H2 2010 getting here a bit earlier than expected. Growth in Q2 2010 registered a very weak 1.6%, revised down from an original estimate of 2.4%—a sharp slowdown from the 3.7% of Q1. This implies much weaker growth in H1 than even bearish forecasters had expected. Moreover, most of the growth was driven by a temporary inventory adjustment; final sales grew a mediocre 1.1% in Q1 and 1.0% in Q2.

All the tailwinds of H1 will become headwinds in H2, a shift we examine in a new RGE Analysis, available exclusively to clients. As state and local governments keep retrenching and even the federal stimulus diminishes, the fiscal stimulus will turn into a fiscal drag that will be much more pronounced in 2011 and after some of the 2001-03 tax cuts expire. The base effects from the lousy economic activity figures of 2009 are gone, temporary census hiring is finished and tax incentives—cash for clunkers, the investment tax credit, the first-time homebuyer tax credit and cash for green appliances—have all expired after “stealing” demand and growth from the future.

As we argued in our North America Focus last week, a succession of data releases has induced a race to the bottom as other forecasters revise their estimates down to figures closer to ours. Personal consumption—70% of aggregate demand—seems off to a rocky start this quarter: Core retail sales for July showed the third decline in the last four months. In the week ending on August 21, same-store sales data released by ICSC-Goldman Sachs showed a fourth straight decline. With inventory restocking over, the investment outlook is equally bleak. Corporate sector capital expenditure, the only component of aggregate demand that grew robustly in H1, appears set to slow: The shipments and new orders indicators of the July durable goods report showed a decline across categories. Meanwhile, despite the return to marginally positive growth in Q2, investment in non-residential structures will remain anemic at best through H2, given the record-high vacancy rates in commercial real estate. As we expected, the housing sector is already in a double dip: Single-family starts fell by 4.2% m/m in July, the third consecutive month of decline, and both existing and new home sales touched their all-time lows. In summary, every component of aggregate demand—with the exception of net exports, which weighed on growth in Q2—appears set to offer a worse contribution to growth in Q3 than the previous quarter.

The truth is that we have not had much of a recovery in the first place, which might prevent the economy from falling enough to display what many would label a double dip—although we are now assigning a 40% probability to such an outcome. Weak economic growth and labor market conditions imply that the U.S. output gap keeps widening and the employment to population ratio will continue to fall. The anemic recovery and downward trend of inflation and inflation expectations are raising concerns that the economy could not only surprise to the downside but eventually stall. A growth rate of 1% or lower (now likely for H2 2010) is a severe growth recession, as potential growth is closer to 3%.

With growth nearly stalled, an unstable disequilibrium arises that is likely to tip the economy into a double-dip recession. The unemployment rate climbs, the budget deficit widens because of automatic stabilizers, home prices keep falling, bank losses are much larger and protectionist pressures come to a boil. Stock markets could sharply correct, and credit and interbank spreads could widen as risk aversion increases. A negative feedback loop between the real economy and the financial system could easily tip the economy into a formal double dip: The real economy reaches a near-stall speed and risky asset prices correct downward, leading to a negative wealth effect, a higher cost of capital and reduced business, consumer and investor confidence.

Given political and fiscal constraints and banks’ unwillingness to lend, we remain doubtful of the potential for policy to prevent a double dip. Even a new round of monetary and quantitative easing can provide limited stimulus. The real issue facing the U.S. is the need for balance sheet deleveraging and repair, and that will be a multi-year process. The U.S. must brace itself for a long period of below-potential growth.

I got a lot of commentary on my “Good is Bad, Bad is Good” article that I republished on Zero Hedge. There was an interesting conversation by “Chrisina” who claimed to have read Mises’s Human Action and Rothbard’s Power and Market, both pretty heavy tomes. Chrisina is rather typical of commentators who claim [...]]]> UPDATE FROM CHRISINA

I got a lot of commentary on my “Good is Bad, Bad is Good” article that I republished on Zero Hedge. There was an interesting conversation by “Chrisina” who claimed to have read Mises’s Human Action and Rothbard’s Power and Market, both pretty heavy tomes. Chrisina is rather typical of commentators who claim they have read Austrian theory, but are either lying or didn’t understand it. Her criticisms are rather common ones I see. I thought you would find this interesting. She is a follower of Herman Minsky and Steve Keen. Minsky believed that capitalism was inherently unstable and debt was the cause of the instability. He would be considered to be rather unique in modern economic theory, but not uncommon in the history of economics.

Here are excerpts of the conversation. Lots of rants. Enjoy.

Chrisina:

The only thing Austrians can say is “let it crash” which comforts libertarians and other laissez-faire ideologues. They seem to have no idea how this will end and prefer to ignore the kind of social disruption that will result, that’s why they get no respect.

Austrians and their laissez-faire ideology will only bring complete misery and economic ruin.

The kind of social disruption this bankrupt Ausrian ideology will bring will be million times worse than what we endure today: complete chaos that will result from the kind of revolutions endured by the French and the Russians centuries ago.

Zirb:

Then why are the biggest depressions when the government interferes the most? The depression of 1920-1921 was worse than the great depression in terms of the decline of wholesale prices. The government not only did nothing, it cut its size, and America was back on its feet in 1 year. Previous recessions (often caused by war) also healed themselves.

Chrisina:

Just explain what kind of roadmap Austrians propose?

I’ll explain it for you: let the economy collapse, let unemployed people and the hundred million new poor people starve, then let’s have a civil war between tea baggers and progressives or better a revolution that will kill half the population… That’s what they call “creative destruction”. Then the economy will grow again.

Yeah, great roadmap. Oh, and what “track record” do Austrians have? You must be joking. They have absolutely ZERO track record as politicians have thankfully never ever followed their advice.

Casey13:

The road map is how to protect yourself personally from what the governments is doing and nothing more. A map is about where we are going not about changing the road. In an ideal world no bad crap would happen. In the real world it does. You can either except that you can’t personally change it and adapt and prepare or not.

Chrisina:

You mean protecting yourself by fleeing to the country side and storing canned foods and ammos? I don’t need Austrian economists to help me with this…

“Let it crash”, that’s all they can say. If you were on a plane of which the engines weren’t working, I don’t think you’d be too happy if that were the only thing the pilote was saying… I’d rather have a pilot who was preoccupied by how to save as many people as possible than one who kept saying “let the plane crash hard and fast so we can get done with it”.

No, Austrian economics …  just pretend they could have avoided the crisis but have no clue how to deal with it.

Indeed, Austrian Economics didn’t get us in this mess. Nobody has ever followed their advice so it’s clear it’s not their fault. But why do you trust them when they have no track record to speak of? THEY HAVE NOTHING TO SAY ABOUT HOW TO DEAL WITH THIS MESS. Do you understand the difference?

No, I don’t trust those who got us into this mess, central bankers, Milton Friedman and his accolytes…

If you are so well versed on Austrian Economics, just let me know how they propose to deal with this debt deflationary crisis.

Econophile:

Austrians would strongly disagree with you, Christina. I’ve read Keen. Minsky was another Neoclassical economist from whence Friedman came up with his Monetarism. You ought to read Mises or Rothbard before you say what you say. I would turn around your statement and say your heroes “seem to have no idea how this will end and prefer to ignore the kind of social disruption that will result.” Why hasn’t anything the Neoclassical economists have recommended done anything to prevent the social disruption you fear? In fact by prolonging the recession, millions continue to suffer from unemployment.

Chrisina:

I’ve read Mises and Rothbard. They have no recommendations on how to deal with this kind of crisis of deleveraging. All they have to say is how to avoid it (with absolutely no track record to validate their assumptions on the utility of value scales and that it is impossible for action to demonstrate indifference), but not what to do when it’s there.

If you are so well versed on Austrian economics, just let me know what they propose on how to deal with this kind of debt delationary crisis. Not what they propose on how to avoid it.

A bit too late for that.

The problem with Austrian economics is that it has absolutely no quantitative model so it has no clue what is comming if we let the economy crash.

btw Neoclassical economists such as Bernanke and Summers are not following Minsky’s model whatsoever… Neoclassical economics ignores the role of debt and of financial asset purchases on aggregate demand and assumes equilibrium which Minsky doesn’t. So neoclassical economics is as bankrupt as Austrian economics.

I don’t think you’ve understood Minsky at all.

Chrisina:

I’ve read Human Action and Power and Market.

Mises repeatedly insists that economic theory gives only qualitative, not quantitative laws, but then how can he write:

“Socialism is not a realizable system of society’s economic organization because it lacks any method of economic calculation..” Human Action p.679

It is truely pathetic to believe that we are going to be capable of dealing with debt deleveraging of this magnitude by changing the monetary system. The debt overhang is there, do you at least understand the difference between AVOIDING a problem and DEALING with it when it’s there? Rothbard’s “The case Against the Fed” doesn’t deal with this, but pretends it can avoid this mess, not how to deal with it.

You don’t even seem to have understood what you have read.

Econophile:

Dear Chrisina:

Thank you for all of your comments. But, with all due respect, I believe you don’t have a grasp of Austrian theory, nor do I believe you have studied Mises and Rothbard. Forgive me if I’m wrong, but I believe you are BS-ing your way through this discussion. I see frequently commentators who claim they have read Mises, but it is clear from their comments that they haven’t, or if they did, they didn’t understand it.

First, you assume that doing nothing is a failure of theory and that the Austrians have no clue as to what happens and they care nothing about the consequences. If you had read Mises, you would understand how wrong you are. Mises discusses in detail the consequences of the cycle and what we can do to “cure” the problem.

You flippantly dismiss one of the comments about comparing the 1920 recession to the 1929 recession. In the 1920 recession the market crash was initially greater than 1929, and unemployment was initially higher. Both were very similar and the Fed was primarily responsible for them. Yet the 1920 recession was over in 18 months and the 1929 recession turned into a depression that lasted almost 25 years. The Dow didn’t regain its pre-Crash level until 1954! The difference between the two events was that Harding did almost nothing, whereas Hoover and FDR did plenty. The Great Depression was caused by doing something.

You like many statists believe that it is the duty of the government to do something. Yet history has proven that those somethings were usually disastrous. What you miss is that a lot goes on in the economy without the need for government interventions. Recessions cure themselves rather quickly, because that is the nature of human action. Deleveraging goes on, capital is allocated away from malinvested projects into profitable ventures, and prices find their level. Recessions are never painless. The question is: how long will it take for the process to occur? All of the present fiscal and monetary interventions by the government and the Fed have done nothing to solve our problems and have delayed a recovery. That has been a disaster for the millions of unemployed. So much for doingsomething. I challenge you to give me an example where government interference has actually cured a recession or depression.

You also mock Austrians for failing to come up with quantitative models. I am sure that is what you were taught in school. But this statement makes it quite clear that you don’t understand Austrian epistemology, which was thoroughly discussed in Human Action and also by Hayek in his ground-breaking work. There are reasons why we don’t think that econometrics is the pathway to economic truth. In fact I would say that econometric analysis has been a failure of “modern” economics. I would surely like to know what models you think have yielded “truth.”

Lastly, I am quite certain that you haven’t read the Austrian when you say it didn’t exist in the 19thC. Wow. The school of thought goes way back to the scholars of Salamanca in the 1500s, up through the French liberals of the 17th-18thC (Turgot, Say, Cantillon) and Bastiat in the early 19thC. This tradition of thought flowed through the first Austrians, Menger, Boehm-Bawerk and others in the 1870s, through Mises who wrote his first great treatise discovering the causes of the business cycle in 1912 (Theory of Money and Credit), up through today. Menger’s thought gave rise to the name “Austrian School” and it stuck. Menger discovered the ground-breaking concept now called the Marginal Revolution.

You obviously like to debate, but argument doesn’t always yield truth. I am happy to discuss things with you, but you can’t just fake your way through this kind of discussion.

UPDATE

Dear Econophile:

Thank you for your reply.

First, I didn’t claim to have “studied” Austrian Economics. I read the two books I mentionned earlier and I frequently turn to the mises website in order to make myself an informed opinion. I have also read various criticisms of the Austrian School and have come tto some of the conclusions I mentionned earlier, notably that its political implications, Libertarianism and laissez-faire policies will only bring havoc and misery. You have obviously come to different conclusions.

Rather than claiming that Mises discusses in detail what can be done to cure the problem (I insist on cure, not prevention, it is too late for this), why don’t you write a post detailing such cure. I have never seen this discussed on Zerohedge. All I’ve read can  be summarised by “let the economy crash, free market forces will reestablish themselves and the depression will be cured (while ignoring that the unintended consequence will be a civil war between the tea bagging adepts of libertarian policies and the progressive ones or a revolution ignited by the rapid destruction of the middle class’ wealth that will result from a rapid debt liquidation). Although I am member of ZH for just a few months, I have been lurking here for more than a year and have read nothing different. So what’s the cure Mises advocates other than let the free-market forces reign in?

Minsky’s conclusions were not those of neoclassical economists that governments should intervene to try to reflate assets, for that is impossible to stabilise a financial system that has become instable and can only prolong or delay the necessary deleveraging. Minsky actually shows that there is no such thing as a “cure”. Rather than attempting to cure an uncurable problem, governments should focus on social measures that try to ease the pain that is the consequence of the deleveraging process on the least prepared segments of society. We can’t just throw them in the dustbin of society, now can we? Austrians who have no clue how strong the pain will be (they have no quantitative models so they have no clue if the pain will be severe enough to test social cohesion) assume that it will be short lived and sufficiently mild so that society will not break up. Minsky shows that this is a completely wrong assumtpion. Not only will the deleveraging process take several decades WITHOUT intervention (longer with), but the pain will be so strong if governments do nothing to put in place the necessary social stabilisers that it will result in complete havoc and misery that will destroy society.

Steve Keen has shown that Minsky’s model results in the opposite conclusions to those of neoclassical economists. Notably it refutes the neoclassical assumption that declining wages will cure the problem. Rather than curing it, it will only aggrevate it. Minsky refutes the multiplier effect of neoclassical economists when the financial system has become instable. Minsky includes Ponzi dynamics, disequilibrium, financial instability, all concepts that neoclassical economics ignore. To state that Minsky was just another neoclassical economist is a statement of ignorance. What have you read from Minsky?

It is paradoxal that Austrians would have a “cure” when their main conclusions would be laissez-faire, ie let it crash and get the government out of doing anything.

As to the 1920 recession, it is laughable to bring it as a comparison to our current crisis when it had absolutely nothing to do with it. Our debt deflationary crisis was caused by decades of artificially debt induced growth. We have a debt/GDP ratio in te USA of more than 330%, in 1920 it was less than half and we had all the cheap energy we could want. It was a purely cyclical recession, ours is secular, caused by a massive debt bubble combined with the end of cheap energy (a rapidly declining EROI). Market crashes are in no way shape or form an indication of the severity of recessions. You should know that by now. Unemployement in 1920 was not higher if you compare what is comparable, ie U6. The laissez-faire policies that resulted from the 1920 recession actually paved the way to the bubble that caused the great depression. Just look at a curve of debt/ GDP for evidence. It’s strikingly clear that debt/GDP started accelerating dring the 1920s. So the Austrian precepts succesfully stopped a recession to only cause an even bigger depression, exactly as the laissez faire policies that reigned in the US after Reagan succesfully stopped a recession to only cause the mother of all bubbles.

The great depression was not caused by government doing “something”. It was caused, like our depression, by years of ultra liberal laissez-faire policies by government who did nothing to prevent private banks to take over the economy, force financial deregulations in order to induce the highest debt bubble of their time. It was the abandonement of the most dirigist elements of policy, forced upon us by the laissez-fairist mantra of the Chicago School ( eg the US-forced collapse of Bretton Woods, the abandonement of Glass Steagal, the relaxing of reserve requirements, the refusal to regulate the derivatives market and the shadow banking system, the diminution of the highest tax rates) that caused the debt bubble we have now. The proof of this is that first debt/GDP remained more or less constant after WWII and prior to the abandonement of such policies. It is only after Reagan and Thatcher came to power that the total debt/GDP ratio started skyrocketting : just look at a graph of total debt/GDPand you’ll clearly see when the cancer that is killing us started. Secondly, the debt bubble is the lowest, and the savings rate the highest, in those economies who have had the most dirigist and social-democratic governments (ie China, Germany, Canada, Scandinavia), not in the countries who have let the financial system and the FIRE industry artificially lead their economies such as the UK, and the USA.

You like many libertarians believe it is the duty of government to do nothing. Yet history has proven that doing less is utterly disastrous. Note that I say doing less than what would be required and not nothing, as the Austrian track record on Governments doing nothing is inexistent. The main problem is that adepts of Austrian Economics and other libertarian ideologues continuously seem to want to rewrite history to satisfy their biased worldview.

I don’t mock Austrians for not coming with quantitative models. It is them who mock qunatitative models :

“The impracticality of measurement is not due to the lack of technical methods for the establishment of measure. It is due to the absence of constant relations. If it were only caused by technical insufficiency, at least an approximate estimation would be possible in some cases. But the main fact is that there are no constant relations. Economics is not, as ignorant positivists repeat again and again, backward because it is not “quantitative.” It is not quantitative because there are no constants. Statistical figures referring to economic events are historical data. They tell us what happened in a nonrepeatable historical case.” Mises, Human Action p.56

To claim that Austrian Economics dates back to the 1500s shows that it is based on pure ideology and ignorance of the historical evidence that followed during the next  500 years. Austrians hate quantitative data because the evidence in the data refutes their dogma. You are proving my point by making such pronouncements.  Mises, and Rothbard after him have developped quite a few major ideas after Bastiat and other pre 20th century thinkers (eg on monopolies, on the refutation of neoclassical public goods, on the refutation of the theory of externalities, etc…). Mises’ ideas on the purely ordinal value scale were new. If you had understood Mises and Rothbard, you would know this. Moreover Rothbard falsely accused neoclassical utility functions of assuming cardinality, and as Arrow and Debreau demonstrated, it is not the case.

Most of the conclusions of the Austrian School are flawed because they are based on the flawed assumption that only preferences demonstrated in action are real. It is obvious to anybody with half a brain that me purchasing a product at a price P doesn’t indicate in any way shape or form that I wouldn’t have a preference or not if that product were priced at P + M. That I can’t know what that preference would be like doesn’t indicate that that preference nevertheless exists in my mind. How many times have you said to yourself that you’d buy a product at 500$ but would also buy it if it were 100$ more but wouldn’t if it were 200$ more expensive ?

I am happy to discuss with you, but you need to come up with better arguments in favor of Austrian Economics (if there are any).

by Econophile
on Thu, 09/02/2010 – 10:22
#560102

Chrisina:

I feel I am denting my pick with you. You consistently misrepresent Austrian theory as well as history. I think you know enough to start an argument, but you really don’t understand it at all. You seem to have a dislike for libertarian ideas without grasping what they stand for. I find it difficult to discuss ideas with you because all you want to do is to argue.

You form of argument is common: you set up a strawman (what you think is Austrian theory) and then you knock it down. Easy enough to do. Then you respond to my comment by, in essence, saying that I am full of crap. Not a good way to argue.

You like many liberals (I gather so from your comments about Reagan) just buy into the conventional wisdom about “laissez-faire”: another strawman argument.

I am not a Minsky expert and I agree I shouldn’t have lumped him in with the Monetarists. He has some unique ideas about debt. I haven’t read him, but I have read about him, both praise and scorn. I have read several of Keen’s pieces and don’t agree with his conclusions. Perhaps you have read Shostak’s critique of Minsky as well. So we disagree. Fair enough? I don’t wish to mischaracterize Minsky’s ideas so I won’t discuss them because I would just be quoting Shostak or critiquing Keen. Yet, you feel free to mischaracterize Austrian theory by the buckets.

I wish to clear up your ideas about the quantitative-qualitative thing. This debate goes way back in history to the mid and late 19thC between the German Positivist school (historical school) and the Austrian “Psychological” school. I don’t wish to go into it here, but let’s say there was a vigorous debate and the Historical School was followed by Classical, Keynesian, post-Keynesian, and Neoclassical schools. You call it quantitative.

It is not as though the Austrians don’t fool around with data; they do. It is that they don’t believe that historical analysis of data is very accurate and the models thrown out by econometricians have been pretty inaccurate, as you would agree. I suggest you read Hayek’s Nobel lecture, “The Pretense of Knowledge” to understand what he and Mises meant by not being able to rely on quantitative analysis as a source of truth. As I mentioned before, it’s a fundamental epistemological issue. I think this is pretty significant, but you disagree. Personally I don’t think you really understand it.

As far as the “cure” I think I stated that “doing nothing” is not doing nothing, and I went into the things economies have to go through to get fixed. You disagree, fine. But I say it is gross exaggeration and misleading to claim there will be blood in the streets with this approach.

I have written about policies many times here and on The Daily Capitalist about what I would do to solve the current problems. Most of our problems are a result of government action, so I have ideas about what to do. Here’s a simple version: 1. End mark to make believe, extend-pretend, etc. and all the other fake balance sheet tricks to keep banks propped up as zombies–alive but burdened with bad CRE debt that clogs up their balance sheet and freezes credit. 2. FDIC action to require banks to deal with bad debt which will result in clearing off bad debt-assets, closing banks when necessary, and let capital go to profitable banks. 3. Form a new RTC to deal with all the bad CRE the FDIC will end up with. 4. Immediately raise the Fed Funds rate, and do a “Volcker.” 5. Repeal Dodd-Frank and most of the Obama-Bush fixes to the crisis (Cash for …, home buyer credits, etc. etc.) 6. Tell businesses that we won’t enact new legislation or raise taxes for 5 years (ends regime uncertainty). 7. Leave town in the dead of night to avoid being hanged. I guarantee that things will get better quicker than what’s being done now.

Give me a break here. There is lots of thought behind these ideas. But you wanted to know. Also note that I am not asking for fundamental reforms, just some quick fixes.

Also I asked you where are the triumphs of econometric analysis you favor? Or can you tell me when the “we gotta do something” types of policies have worked? Certainly everything Ben, Larry, and Tim have done so far have failed. And, I can tell you they are worried. Yes, I know Ben is just a Neoclassical/Monetarist. But Tim and Larry are just Neo-Keynesians.

I am dismayed by your toss-off comment about the lack of contribution of Austrian theory to the history of economics. I think that is just a debate tactic to deprecate one of the greatest intellectual traditions of modern times.

Chrisina, this is all I’ve got for you. I don’t have the time. Feel free to keep on commenting, but I am going to end our conversation.

Thanks for reading my article.

This is written by someone who sold virtually all stocks at Dow 13,000 in August-September 2007 with such confidence that even when the market went up 7-8% in the fall, had no indecision and argued with friends and relatives to get out when the getting was good.  [...]]]> Yes, I believe that some finally are.

This is written by someone who sold virtually all stocks at Dow 13,000 in August-September 2007 with such confidence that even when the market went up 7-8% in the fall, had no indecision and argued with friends and relatives to get out when the getting was good.  Except for tactical trading forays, yours truly has stayed out of stocks ever since.  Strategically, three years into this credit collapse, I am coming to believe that the “right” common stocks deserve a permanent place in my portfolio.

This discussion explains why I believe relative values have begun to tip toward stocks.

The thinking is oriented toward the intermediate to long term time frame and is not a short term timing call.  It also is personal commentary, does not constitute investment advice, and represents the views of the author and may or may not accord with that of The Daily Capitalist.  In addition, I believe that, in general, most if not all tradable financial assets are overpriced (see below), thus please note that I am talking about relative value and not absolute value.  We are oh so far in many ways from the early 1980s, when both U.S. stocks and bonds represented great value.

My own portfolio is overwhelmingly comprised of high quality muni bonds, short-ish duration individually owned Ginnie Mae securities (full faith and credit debt obligations of the U.S. government), cash, and gold (primarily exchange-traded funds that own only allocated gold).  I have a small but rising proportion of my capital in stocks, and except for a company that owns gold in the ground, every one of those appears to be a very strong company.

As you read above, you may think “Yes, but so did AIG appear to be strong”.  Of course that is a healthy thing to think.  In fact there is probably a high degree of skepticism about the corporate world (and based on pricing of improvident governments, insufficient skepticism about the financial soundness of theoretically strong Treasurys).

In the short term, the stock market’s overall chart looks dangerous to me and the current and upcoming hurricane season is a classic time for stock market collapses.  But the more disaster talk and anxious double dip recession talk I hear, the more I want to tack against the public worrying.

In May, I suggested in my blog that stock rallies should be sold and that Treasury bond bump-ups in yield (drops in price) should be bought.  Now that Treasurys have had a huge move down in yield while stocks have also moved down a bit while corporate profits have risen, I am finished with my long Treasury trades.

Here is one way to put the valuation issue:

In the face of low bond yields, why do many of the biggest and best multinationals sell at only 10X earnings, yet they pay dividends higher than a 7-year Treasury note, retire stock through net buybacks (i. e. exceeding options dilution), have strong balance sheets, and have technological and other economies of scale that make them strong international competitors?

Increasingly it’s hard for me not to respond by allocating investable funds into shares of such companies, given the paltry alternatives.

Worldwide Financial Asset Inflation

Fiat money creation by central banks across the world has served to inflate financial assets. In a November 2009 piece, Bill Gross said:

Let me start out by summarising a long-standing PIMCO thesis: The US and most other G-7 economies have been significantly and artificially influenced by asset price appreciation for decades.

This chart from Andrew Smithers values the U.S. stock market both on an asset basis and on a 10-year earnings basis. By this measure, fair value on the S&P 500 is not much over 700.  This analysis is consistent with PIMCO’s reasoning.  You may wish to investigate the Smithers website.

CAPE (blue line) represents average earnings over 10 years, while q is a measure of tangible replacement value of corporate assets.  The concept of q has had far too little attention in the media.  Earnings can go up (boom) and down (bust), but over longer time periods, the Smithers chart shows that they track the underlying value of corporate assets.  With q so much above its historic trend, reversion to the mean works against the average price.

How can one invest in stocks given their historical overvaluation?

Because . . .

There is (Almost) Always Opportunity

Even in 2000, at the overvaluation peak, there were actually numerous types of stocks that bottomed as the averages were topping. These tended to be boring companies that investors started dumping when the average stock topped in 1997-8 (not 2000 when the NASDAQ and S&P 500 averages peaked) as tracked by Value Line. Such industry groups as home builders, basic industrial companies, and HMOs hit their cyclical lows just as the glamour stocks peaked.

Stocks are now trading in a highly correlated manner, and I believe that high quality companies, including many multinationals, are priced low relative to other stocks with similar valuations but greater risk (lower quality).

In this I am in agreement with Jeremy Grantham, who both believes that stocks as a whole remain overvalued but that shares of “high quality” companies are likely on a multi-year time frame to provide about 6% per year total return after adjustment for the change in the general price level.  Per a web site that evaluates investment “gurus”, Grantham has made prescient calls based primarily on valuation measures.  On Jan. 1, 2001 he forecast an annual return of -2% for stocks on a 10-year time frame.  He was aggressively bearish throughout 2007.  In August 2008, he was quoted as follows:   “My advice would be, don’t take any risk.”  This of course was pre-Lehman collapse.  He then turned bullish on stocks beginning after the collapse.  So here is an astute manager of billions of dollars who feels he can differentiate between types of stocks.  He feels that small stocks are as overvalued as Treasury notes are.  He typically uses 7-year forecasts, and my comments are also based on a multi-year time frame.

One reason that historically undervalued strong companies may be undervalued is the gloom with which informed individual investors are often assaulted with.  Here are the titles of the first several articles headlined at RealClearMarkets.com Monday Aug. 23:

“We Are on the Road to 70′s-Style Stagflation” – Jeff Harding, Minyanville

“It’s Really, Really Ugly Out There” – Jim Cramer, TheStreet.com

“How We Get Through This Terrible Mess” – John Mauldin, Investors Insight

“Hedge Fund Managers Feeling the Heat” – Charles Wallace, Daily Finance

“Will Housing Slide Drag Economy Down?” – Gittelsohn & Willis, Bloomberg

“The Housing Gold Rush May Be Gone for Good” – David Streitfeld, NY Times

Do these articles make you want to buy stocks or sell them (or simply not buy them)?

For most people, I suspect it is sell/not buy rather than buy (as a contrarian might).

Similarly, a recent New York Times article is titled: ”In Striking Shift, Small Investors Flee Stock Market”.

But this is not new news.  Investors have been moving away from stocks in their mutual fund allocations at least for many months.  When this trend finally makes the mainstream media, it’s at least time for patient investors to consider buying from said “small investors” (who presumably have been shifting to bonds 29 years into a record bull market in bonds).

Global Efficiencies and Multinationals

Economist Andy Xie came out with an article, “Inflation, not deflation, Mr. Bernanke” that speaks to an important issue:

Commentary: World divides into ice-cold and red-hot economies

When the Fed or the European Central Bank tries to stimulate, they are actually stimulating the global economy as a whole. Water, no matter where it comes from, flows downwards. Stimulus, similarly, flows to where costs are low and banking systems are healthy. If you believe this logic, the actions of the Fed and the ECB fuel inflation and asset bubbles in emerging economies rather than stimulate growth at home. . . .

Despite trillions of dollars in stimulus and a sharp one-year rebound in the global economy from the middle of 2009, the developed economies have virtually seen no employment growth. . . .

We are seeing overheating in emerging economies. The stimulus is just working somewhere else. . . .

There is a bright spot for developed economies from globalization. While their economic data tend to surprise on the downside, the corporate profits will surprise on the upside.

Whether Xie is correct that the U.S. “stimulus” is stimulating economies overseas is not my point, though I find it thought-provoking.  His point addresses the issue that the domestic U.S. economy can remain unstimulated and yet familiar companies born in the U.S. can in fact be doing very well due to growth overseas.  Prices and corporate profits are rising in Brazil, India and China.  Prices are rising in Viet Nam, Pakistan, Australia, etc.  (Prices of things you have to buy regularly are rising in the U.S., as well.)  Since most of these currencies are not depreciating against the U.S. dollar, multinationals are seeing profits obtained there rise in U.S. dollar terms; and if Econophile is correct about price increases being likely in the U.S. rather than price decreases, corporate profits historically have grown over time in rough proportion to nominal economic output.  Thus while gold, silver, oil and timber may be pure “inflation” plays, growing or at least stable corporations ultimately are similar, though the time frame to reflect said inflation may be very different from those of tangible commodities.

The Inflationary Carry Trade

I expect the Fed to continue to keep interest rates low for “too long”, thus penalizing savers who wish or need to have a high degree of liquidity. So every year one gets a, say, 3% dividend yield from a multinational rather than, say, a 1% return from a high-interest rate bank deposit, one is ahead of the game by 2%.  One can do the same with a bond, but then one is assuming interest rate and credit risk.

In that vein, I would point out that though superb economists such as David Rosenberg point out that after the credit collapse of 1929-32, the 10-year Treasury note fell to about 2% in 1940. What I have not seen him point out, though, is that the CPI averaged 5.6% annually in the 1940s, and this was not just a WW II phenomenon. The CPI averaged 7.1% in 1947-9.

So with Fed and federal policies then oriented to growth, bond yields were far too low to have been good investments. Even if one bought stocks at the beginning of 1940 and then endured a serious bear market, by the end of the decade their dividend yields alone beat bonds, and the Dow moved up several percent a year on average in price as well.  Similarly, the Fed was “easy” in 1950, 1960 and 1970, and each decade the total return from stocks beat that which would have been earned by a fund that continuously owned a 10-year Treasury note (similar to the exchange-traded fund now available with the symbol IEF).

A 10X price-earnings ratio equates to a 10% earnings yield (reciprocal of the price-earnings ratio). A 14X P/E equates to a 7% earnings yield. Even a 20X P/E equates to a 5% earnings yield. So relative to current Treasury and high-grade corporate bond yields, many stocks of financially very strong companies have fundamental earnings support.

The Multinational Advantage

U.S. multinationals have a substantial advantage: they can both source from and sell to Asia, the world’s best and fastest growing market while using the mature economies of the West as “cash cows” if they so desire.  They engage in global wage arbitrage, pursue various maneuvers to minimize taxes, and many of them have sales larger than the GDPs of a number of countries in which they operate.  For whatever combination of reasons, my bottom line is that for now, U.S.-based small businesses report that the Great Recession/depression never ended, whereas any number of U.S.-based multinationals are reporting record sales, profits, and dividends while shrinking their shares outstanding.  I want my capital deployed where results are strong now, not where I hope they may become strong.

I favor the following characteristics of a large-cap stock in the current environment:

1. Financially very strong; net creditor/cash-flow positive;
2. Make products that enhance productivity/meet real needs of “unstimulated” consumers or other businesses;
3. Ideally be multi-national rather than U.S.-only;
4. Be as far as possible from the financial bubble-type industries (banks, homebuilders etc.);
5. Very strong free cash-flow generation;
6. Very strong market position;
7. Have a chart showing outperformance, meaning that institutional investors have probably begun recognizing the stock as a good investment;
8. Have record sales and profits; be growing;
9. Have historically cheap valuation such as price-earnings ratio and/or dividend yield.

Given the above stringent criteria, it may be clear that I am not especially bullish about the stock market as a whole and have a relatively short shopping list.  In my view, what is more important than making a profit for most people is avoiding serious losses, and I continue to believe that the most likely case is that the long-term bear market in the stock averages is not over in “real” terms.  Whether the lows have been seen in nominal dollars is something I have no strong opinions about.  There is ample historical precedent for such a differentiation given inflationary governmental policies, and since we buy our food and energy in nominal terms, not “real” terms, it is the former that matters most to domestic investors.

In the big picture, all companies are but cogs in the international financial system, which unfortunately remains dominated by statist ideologies wedded to inflationary policies mediated by strong central banks.  Worse, risk is high due in part to massive complexity that is now embedded in the financial system in America.  Many matters appear to be “unusually uncertain” that appeared clearer in, say, the 1980s and 1990s, when financial matters were less complex.  In other words, I believe that the range of thinkable scenarios on a several-year basis is greater than in most of my several decades investing.

Given inflationary policies, the long bull market in fixed income in the U.S. that began with Paul Volcker’s high interest rate policy about three decades ago in the U.S. is in my view more likely than not coming to end in real terms, even if long-term Treasury prices move even higher (i.e., yields lower) for a while.  Increasingly I suspect that well-run corporations, especially the best-positioned multinationals, are likely to prove over a period of years to be substantially superior investments to Treasurys.  Thus certain stocks as described above have begun to join gold and certain municipal bonds as assets which I am currently comfortable owning for the long haul.

In addition to the above not representing investment advice, there is no implicit or explicit pledge to update readers should my thinking change about any matter described herein.  Also, while writing for The Daily Capitalist the discussion is more general, I do discuss specific stocks from time to time at my blog, EconBlog Review.

Copyright (C) Long Lake LLC 2010

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And, this week, one of my articles was linked to in the iPhone’s news feed in their stock market app. There have been about 60 million iPhones sold; how many active in the U.S.?

Many of you know that some of my articles are also published on Zero Hedge, Seeking Alpha, and Minyanville. Many other blogs and site link to my articles. Also, thanks to The Montecito Journal for publishing my articles.

Thanks! I very much appreciate it.