The Cracks in the Economy’s Foundation Become Bigger

Last week the Bureau of Economic Analysis has updated its gross output data for US industries until the end of Q4 2015. Unfortunately these data are only available with a considerable lag, but they used to be published only once every few years in the past, so the current situation represents a significant improvement.

 

decay-3Decay…

Photo credit: bargewanderlust

 

As Ned Piplovic summarizes in his update on the situation on Dr. Mark Skousen’s site:

 

“US economic activity continued to slow dramatically in the 4th quarter 2015, threatening recession.  As a whole, the growth rate of the economy was anemic, almost flat, for 2015.

Gross output (GO), the new measure of total U. S. economic activity published by the Bureau of Economic Analysis, showed that spending throughout the economy declined slightly in the 4th quarter of 2015.  And the Skousen B2B Index — a measure of business spending throughout the supply chain — has now fallen two quarters in a row.  Both data suggest a mild business recession as we entered 2016.

Based on data released today by the BEA and adjusted to include all sales throughout the production process, nominal GO fell 0.6% in the 4th quarter of 2015, compared to an increase in the 3rd quarter (+2.3%).   Adjusted GO was $39.0 trillion in the 4th quarter, more than double the size of GDP ($18.2 trillion), which measures final output only.  Nominal GDP actually rose 2.3% in the 4th quarter.  When GO declines relatively to GDP, it’s usually a sign of recession.”

 

(emphasis added)

This is in keeping with the Fed district manufacturing surveys in Q4, and while it looked for a while as if things might be getting a little better in Q1 2016, there has been renewed deterioration in the meantime (see e.g. Mish’s recent updates on the Philly Feddurable goods orders and services). Here is a chart of Dr. Skousen’s nominal adjusted gross output vs. GDP (quarterly annualized growth rates):

 

1-adj. GO vs. GDPAdjusted nominal GO (red line) vs. GDP (black line), quarterly change rate annualized – click to enlarge.

 

The next  chart shows gross output data of selected industries compared to the industrial production index and non-defense capital goods orders (y/y change rates):

 

2-gross output per industryAnnual change rates of: Gross output of all industries as well as manufacturing, mining, wholesale trade, private industries and the retail trade. Also included: the y/y change rate of the industrial production index (purple line) and the value of non-defense capital goods orders (black line) – click to enlarge.

 

As can be seen, the slump in mining output has decelerated somewhat (it has shrunk by 39.45% in Q4, vs. 39.84% in Q3), but the decline in output has accelerated in manufacturing (minus 4.55% in Q4), the wholesale trade (minus 3.21%), while gross output of all industries combined has slowed from 1.00% to 0.63%, that of private industries from 1.03% to 0.52%, while  retail trade output has slowed from 4.63% to 3.24%. These are obviously quite significant changes.

Readers may recall our recent article on the distortions in the economy’s capital structure due to the Fed’s heavy monetary pumping in recent years (see: US Economy – Ongoing Distortions for details). As we have mentioned on that occasion, while the growth in demand for consumer goods remains quite strong on a relative basis, investment has mainly been drawn toward the higher stages of the production structure (mining, oil drilling, capital goods production, erection of commercial buildings, etc.).

As you can see above, the growth in gross output of the retail trade (distribution of lower order goods) is far stronger than the growth in the output of industries that are active in the higher stages. And yet, more investment has been drawn toward these longer term processes. This disparity will inevitably be resolved by an economic bust at some point, as it won’t be possible to fund both relatively high current consumption and growing investment in the higher stages. Something will have to give.

We can also conclude from this disparity that capital maintenance in some industries (very likely in the intermediate stages) has begun to be neglected, and that current consumption is increasingly funded by capital consumption. Many of the accounting profits reported by companies in recent years are likely to turn out to be a mirage, as prices have been falsified by the ultra-easy monetary policy adopted by central banks.

It is possible that the bust is about to begin, but money supply growth remains relatively strong. The main question is whether this will suffice to keep the party going. This in turn depends mainly on the state of the economy’s pool of real savings, which is bound to worsen the longer the echo boom lasts. Unfortunately we cannot really “measure” the economy’s subsistence fund, so we have to approach the problem indirectly, by watching market prices and various data.

 

3-Skousen B2B indexVia Dr. Skousen: B2B spending plus gross private investment (excl. IP and residential property) vs. consumption spending – the trends between the two are beginning to diverge – click to enlarge.

 

Additional Data Points

Here are a few additional data points we are keeping an eye on in this context. This is by no means a complete list, we are only showing a small selection. First of all, growth in the Cass freight index of shipments continues to wallow in negative territory, where it has been since early 2015.  A recent improvement in the pace of the decline notwithstanding, this doesn’t look very good and confirms the message from gross output.

 

4-Cass freight indexCass freight index, shipments, y/y growth rate – negative since early 2015 – click to enlarge.

 

Next we want to show an update of our comparison chart of the Wilshire Total Market Index and the rate of change in the value of non-defense capital goods orders (h/t to Michael Pollaro for inspiring this comparison). As we have already pointed out on previous occasions, something rather strange has happened lately.

Normally such weakness in capital goods orders is not accompanied by stock market strength – although there are of course variable leads and lags. So either capital goods orders are about to vastly improve, or the stock market will have to adjust to a lower growth outlook. Currently this is of course offset to a very large degree by ongoing heavy monetary inflation around the world, which affects asset prices with a lag as well.

Note that when economic activity is subdued, there is more free liquidity available that can be deployed for investment in various assets such as stocks, bonds, gold, etc. However, which types of assets will actually benefit the most will depend on economic perceptions and inflation expectations. There is certainly no guarantee that the stock market will remain the major beneficiary of the flood of liquidity central banks have unleashed.

 

5-Wilshire vs. capital goodsThe Wilshire Total Market Index (red line) vs. the annual rate of change in the value of non-defense capital goods orders (black line). The disconnect continues – for now – click to enlarge.

 

An important data point is also Real Gross Private Domestic Investment. As Steve Saville of the Speculative Investor newsletter has pointed out, it always turns down ahead of the beginning of officially designated recession periods. Recently there has been a dip, but it is probably not yet large enough to be called definitive – however, it is definitely a warning sign:

 

6-Real Gross private investmentReal gross private domestic investment begins to dip – a steeper decline would be a strong  recession warning – click to enlarge.

 

Next we are looking at a few business-related credit metrics. First industrial and commercial loans and their annual growth rate – which remains surprisingly robust, although it is actually weakening relative to the earlier phase of the post-crisis recovery.

 

7-C&I loansC&I loans total (black line) and the y/y growth rate (red line) – growth in commercial bank lending remains robust, but is a far cry from what has been seen in previous booms. It is also weakening relative to the earlier phase of the Bernanke echo boom – click to enlarge.

 

The next chart is a reminder of why this growth rate is “surprising” at this stage – it shows the annualized quarterly growth rate of the sum of charge-offs and delinquencies of commercial loans:

 

8-charge-offsAs of Q4, y/y growth (quarterly) in combined charge-offs and delinquencies of C&I loans stood at 52%. Normally this only happens when the Fed actually tightens policy, not when it keeps rates close to zero (of course, the end of “QE” represents a significant tightening as well) – click to enlarge.

 

Lastly, here is a chart of junk bond yields – junk bonds have recovered strongly in concert with stocks and commodity prices. This seems to have been driven by further easing measures adopted by the ECB and BoJ, as well as the Fed’s decision to tone down its previously slightly hawkish bias. Not to forget, narrow money supply growth in China has “gone off the charts” in recent months as well (more on this in an upcoming update on commodities).

 

9-Junk bond yieldsJunk bond yields have corrected (the red line shows yields on bonds rated CCC and below, the black line the effective yield on the Merrill Lynch/BofA Master II High Yield Index). This correction in yields could soon give way to another surge if the economy continues to weaken – click to enlarge.

 

Conclusion

As has been the case previously, we do not yet see decisive economic weakness – in short, we believe it is still too early to call for a recession. However, it is undeniable that the economy remains under pressure. Gross output is twice as large as GDP, which demonstrates how important this datum is if one wants to assess where the economy is going. Manufacturing remains in fact the biggest sector of the US economy in terms of total spending.

We see numerous signs that the economy continues to deteriorate and it has to be assumed that it is mainly the historically still strong level of money supply growth that keeps the echo boom muddling along. However, the longer this lasts, the greater the economic distortions that will have to be corrected will become. Investors buying into the stock market at valuation levels (trailing P/E of 25) close to those seen at previous major market peaks will need a lot of things to go right to come out ahead.

 

decay-2An example of malinvested capital left for dead.

Photo credit: BertCS

 

Charts by: St. Louis Federal Reserve Research, Ned Piplovic

 

 
 

Emigrate While You Can... Learn More

 
 

 
 

Dear Readers!

You may have noticed that our so-called “semiannual” funding drive, which started sometime in the summer if memory serves, has seamlessly segued into the winter. In fact, the year is almost over! We assure you this is not merely evidence of our chutzpa; rather, it is indicative of the fact that ad income still needs to be supplemented in order to support upkeep of the site. Naturally, the traditional benefits that can be spontaneously triggered by donations to this site remain operative regardless of the season - ranging from a boost to general well-being/happiness (inter alia featuring improved sleep & appetite), children including you in their songs, up to the likely allotment of privileges in the afterlife, etc., etc., but the Christmas season is probably an especially propitious time to cross our palms with silver. A special thank you to all readers who have already chipped in, your generosity is greatly appreciated. Regardless of that, we are honored by everybody's readership and hope we have managed to add a little value to your life.

   

Bitcoin address: 1DRkVzUmkGaz9xAP81us86zzxh5VMEhNke

   
 

Your comment:

You must be logged in to post a comment.

Most read in the last 20 days:

  • India: The World’s Fastest Growing Large Economy?
    Popular Narrative India has been the world’s favorite country for the last three years. It is believed to have superseded China as the world’s fastest growing large economy. India is expected to grow at 7.5%. Compare that to the mere 6.3% growth that China has “fallen” to.   India's quarterly annualized GDP growth rate since 2008, according to MOSPI (statistics ministry) - click to enlarge.   The IMF, the World Bank, and the international media have celebrated...
  • Don’t Blame Trump When the World Ends
    Alien Economics There was, indeed, a time when clear thinking and lucid communication via the written word were held in high regard. As far as we can tell, this wonderful epoch concluded in 1936. Everything since has been tortured with varying degrees of gobbledygook.   One should probably not be overly surprised that the abominable statist rag Time Magazine is fulsomely praising Keynes' nigh unreadable tome. We too suspect that this book has actually lowered the planet-wide IQ –...
  • What is the Best Time to Buy Stocks?
      Chasing Entry Points Something similar to the following has probably happened to you at some point: you want to buy a stock on a certain day and in order to time your entry, you start watching how it trades. Alas, the price rises and rises, and your patience begins to wear thin. Shouldn't a correction set in soon and provide you with a more favorable buying opportunity?   Apple-Spotting – a five minute intraday chart showing the action in AAPL on February 1, 2017 - an...
  • Incrementum Advisory Board Meeting, Q1 2017 and Some Additional Reflections
      Looming Currency and Liquidity Problems The quarterly meeting of the Incrementum Advisory Board was held on January 11, approximately one month ago. A download link to a PDF document containing the full transcript including charts an be found at the end of this post. As always, a broad range of topics was discussed; although some time has passed since the meeting, all these issues remain relevant. Our comments below are taking developments that have taken place since then into...
  • Gold and Silver Divergence – Precious Metals Supply and Demand
      Gold and Silver Divergence – Precious Metals Supply and Demand Last week, the prices of the metals went up, with the gold price rising every day and the silver price stalling out after rising 42 cents on Tuesday. The gold-silver ratio went up a bit this week, an unusual occurrence when prices are rising. Everyone knows that the price of silver is supposed to outperform — the way Pavlov’s Dogs know that food comes after the bell. Speculators usually make it...
  • Trump and the Draining of the Swamp
      Swamp Critters BALTIMORE – The Dow is back above the 20,000-point mark. Federal debt, as officially tallied, is up to nearly $20 trillion. The two go together, egging each other on. The Dow is up 20 times since 1980. So is the U.S. national debt. Debt feeds the stock market and the swamp. What’s not up so much is real output, as measured by GDP. It’s up only 6.4 times over the same period. Debt and asset prices have been rising three times as fast as GDP for 36 years! Best...
  • Making America Great Again – How to Judge Policy
      A Simple Formula MIAMI – How do we know if new programs will make the economy better... or worse? Here’s a simple formula:   W = rv (w-w – w-l)   That is, wealth is equal to the real value of win-win exchanges minus the loss from win-lose exchanges. Yes, dear reader, it’s as simple as that. Like a whittler working on a piece of wood, we’ve shaved so much off, there is nothing left of it... except the essential heartwood.   When devising a win-win,...
  • When Trumponomics Meets Abenomics
      Thirty Year Retread What will President Trump and Japanese Prime Minister Shinzo Abe talk about when they meet later today? Will they gab about what fishing holes the big belly bass are biting at? Will they share insider secrets on what watering holes are serving up the stiffest drinks? [ed. note: when we edited this article for Acting Man, the meeting was already underway]   Japan's prime minister Shinzo Abe, a dyed-in-the-wool Keynesian and militarist, meets America's...
  • Gold Sector Update – What Stance is Appropriate?
      The Technical Picture - a Comparison of Antecedents We wanted to post an update to our late December post on the gold sector for some time now (see “Gold – Ready to Spring Another Surprise?” for the details). Perhaps it was a good thing that some time has passed, as the current juncture seems particularly interesting. We received quite a few mails from friends and readers recently, expressing concern about the inability of gold stocks to lead, or even confirm strength in gold of...
  • The Great Wailing
      Regret and Suffering BALTIMORE – Victoribus spolia... So far, the most satisfying thing about the Trump win has been the howls and whines coming from the establishment. Each appointment – some good, some bad from our perspective – has brought forth such heavy lamentations.   Oh no! Alaric the Visigoth is here! Hide the women and children! And don't forget the vestal virgins, if you can find any...   You’d think Washington had been invaded by Goths, now...
  • Receive a One Percent Gift When Buying or Selling a Home
      How to Save Money When Buying or Make More When Selling a Home In your professional capacity and perhaps also in your private life, you may be closely involved with financial and commodity markets. Trading in stocks, bonds or futures is part of your daily routine.  Occasionally you probably have to deal with real estate as well though – if you e.g. want to purchase an apartment or a house, or if own a home you wish to sell.   The people who took this photograph probably want to...
  • Silver Futures Market Assistance – Precious Metals Supply and Demand
      Silver Is Pushed Up Again This week, the prices of the metals moved up on Monday. Then the gold price went sideways for the rest of the week, but the silver price jumped on Friday.   Taking off for real or not? Photo credit: NASA   Is this the rocket ship to $50? Will Trump’s stimulus plan push up the price of silver? Or just push silver speculators to push up the price, at their own expense, again? This will again be a brief Report this week, as we are busy...

Austrian Theory and Investment

Support Acting Man

Own physical gold and silver outside a bank

Archive

j9TJzzN

350x200

Realtime Charts

 

Gold in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Gold in EUR:

[Most Recent Quotes from www.kitco.com]

 


 

Silver in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Platinum in USD:

[Most Recent Quotes from www.kitco.com]

 


 

USD - Index:

[Most Recent USD from www.kitco.com]

 

THE GOLD CARTEL: Government Intervention on Gold, the Mega Bubble in Paper and What This Means for Your Future

 
Buy Silver Now!
 
Buy Gold Now!
 

Oilprice.com