Mish's Global Economic Trend Analysis

Kicking the Budget-Deficit Can "Texas Style"
Treasury Bull Market Still Alive; Two-Year Yield Hits All-Time Low
Philly Fed Manufacturing Index Barely Positive, Future Expectations Overly Optimistic
Deflationary Wage Pressures Hit Canada; Attitudes and Wal-Mart, the 800-Pound Gorillas

Kicking the Budget-Deficit Can "Texas Style"

Posted: 15 Jul 2010 04:15 PM PDT

In a foolish attempt to postpone doing anything serious about budget deficits, states have resorted to various can-kicking procedures to delay the inevitable (and much needed) firing of government bureaucrats and reducing public union salaries and pension benefits.

For example: Illinois simply does not pay its bills, Arizona sold its House of Representatives and Senate buildings, and California Governor Arnold Schwarzenegger, facing a $19 billion budget deficit for the year that began this month, is trying to force 200,000 state workers onto minimum wages temporarily.

Texas is investigating yet another can-kicking exercise, this one involves paying benefits to the unemployed. Please consider Texas may sell $2 bln of debt for unemployment fund

Texas might refill its unemployment trust fund by selling $2 billion of debt later this year, a strategy that cut its borrowing costs in the last downturn, according to a state official.

Along with at least 33 other states, Texas has also borrowed from the federal government, which will start charging interest at the end of this year.

By early May, U.S. states had borrowed a total of $38.9 billion from the federal government to pay unemployment benefits, according to a Government Accountability Office report.

Texas has taken out a $1.3 billion loan, but its own debt, which would be issued through the Texas Public Finance Authority, could have lower interest rates than what the federal government would charge [said Ann Hatchitt, a spokeswoman for the Texas Workforce Commission].

Structural Problems Numerous and Deep

Texas needs to bite the bullet and fire government workers. The irony is doing so will increase the underfunding of its unemployment insurance plan. However, Texas would save far more by slashing government expenses than it would lose in benefit payments.

These various can-kicking measures (See Municipal Bonds Benefit as States Kick the Can Down the Road; How Long can it Last? for numerous details), have one fatal flaw.

States all assume this is the typical garden variety recession quickly cured by the Fed slashing interest rates and sugar-daddy Congress sloshing dollars around.

Clearly, that's not the case as numerous data points (and trillions of dollars in wasted stimulus efforts) have proven.

Unemployment is high and it is going to stay that way until the structural problems are addressed. Unfortunately the Obama administration is adding to the structural problems instead of fixing them.

For discussion on structural problems please see Krugman vs. Greenspan on "That '30s Feeling"; Calculated Risk Sides with Krugman, I Side with Greenspan.

Fix the Structural Problems

Instead of "jobs programs" per se, we need to fix the structural problems: Unsustainable pension promises and government wages, debt at every level, corporate tax policies that encourage jobs to move overseas (deferral of taxes on profits held overseas and excessive corporate taxes in the US), and the entire tax and spend structure at every level, especially the public level.

If we address the structural problems, jobs will eventually take care of themselves.

Krugman is on the wrong side of this debate while Greenspan is mostly right. However, no one will pay any heed to the now discredited Greenspan who ironically was worshiped for all the things he got wrong and ignored the few times he ever said anything that made any sense.

Not the Typical Recession

The structural problems have not gone away at the city level, the county level, the state level, the federal level, or in the pathetic "too big to fail" moral hazard policies at the Fed. Yet, amazingly people think (and states are acting) as if the economy will come roaring back "like it always does".

Since someone is apt to call me on that last sentence, I may as well defend it in advance.

I am not saying "It's different this time". Rather, I am saying this is more like the great depression than the typical garden variety recession. Those who think otherwise are the ones suggesting "It's different this time", not me.

Sadly, neither Congress nor the states (with the sole exception of Governor Chris Christie) have shown any inclination to fixing the massive structural problems we face.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Treasury Bull Market Still Alive; Two-Year Yield Hits All-Time Low

Posted: 15 Jul 2010 02:17 PM PDT

Pronouncements of the death of the treasury bull market, at least judging by the two-year note have once again proven to be premature.

Bloomberg reports Treasury Two-Year Yield Drops to Record Low on Slowdown Concern

Treasuries rose, pushing two-year note yields to a record low, after Federal Reserve reports showing that manufacturing cooled in the Philadelphia and New York regions raised concern the economic recovery is faltering.

Yields on two-year notes, the most sensitive to changes in central bank policy, touched 0.5767 percent, the lowest since regular sales of the securities began in 1975. Bank of America Merrill Lynch Index data show Treasuries gained 1.3 percent in the past month, versus a 2.5 percent drop in the Standard & Poor's 500 Index, as investors sought the relative safety of U.S. government debt.

"We've had weak manufacturing data and a drop in equities that are weighing on the Treasury market," said Michael Cloherty, head of interest-rate strategy in New York at Royal Bank of Canada, one of the 18 primary dealers that trade directly with the Fed. "The fundamental low-growth economic picture hasn't changed. Still, yields this low require constant bad news to hold."

Former Fed Chairman Alan Greenspan said reducing the deficit is "going to be far more difficult than anybody imagines" after "a decade of major increases in federal spending and major tax cuts."

"Unless we start to come to grips with this long-term outlook, we are going to have major problems," said Greenspan, who led the U.S. central bank from 1987 to 2006.

That last sentence from Greenspan is not quite correct. Greenspan left out where to place the blame: On the Greenspan Fed, the Bernanke Fed, and Congress.

Another problem with his statement is "we are [NOT] going to have major problems" ... "We HAVE major problems", and the Greenspan Fed moral hazard policy of bailing out banks every time they got in trouble is one of the huge reasons we do.

Yield Curve as of 2010-07-15

click on chart for sharper image

2-Year treasuries are at record lows. I expect 5-year treasuries to hit record lows and for 10-year treasuries to at least challenge record lows. If so, the treasury bull market by any practical measure is still alive and kicking.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Philly Fed Manufacturing Index Barely Positive, Future Expectations Overly Optimistic

Posted: 15 Jul 2010 10:52 AM PDT

The Philly Fed manufacturing index slowed for a second consecutive month and is nearly, but not quite in contraction. New orders and prices received are already in contraction.

Please consider the latest Philly Fed Business Outlook Survey.

Results from the Business Outlook Survey suggest that regional manufacturing activity continues to expand in July but has slowed over the past two months.

Large Gap Between Current Conditions and Expectations 6 Months from Now

History shows gaps narrow over time and most of the time are in sync, except at turning points.

The key question which we will get to in a minute is "Will the gap narrow by future expectations falling or current conditions rising?"

Philly Fed Components

click on chart for sharper image

Note that prices received is in contraction for a second consecutive month. That is not good for profits to say the least. Also note that new orders are falling. That is also not good for profits.

Yet, the overall diffusion index is 5.1 now vs. +25.0 six months from now, new orders expectations -4.3 now vs. 17.9 six months from now, and prices received -6.5 now vs. 10.1 six months from now.

Also note that Employees and Workweek were both in contraction last month but are now barely positive with expectations higher again.

Where To From Here?

If manufactures are ramping up production, even modestly, in expectations for a better second half, they are going to regret it.

Data suggests durable goods sales are about to collapse.

I made the case for a significant manufacturing slowdown in Expect Second-Half Housing and Durable Goods Crash. Please take a look.

Manufacturers may be more optimistic six months from now, but consumer attitudes suggest something dramatically different. Ramping up production is the wrong thing to do.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Deflationary Wage Pressures Hit Canada; Attitudes and Wal-Mart, the 800-Pound Gorillas

Posted: 15 Jul 2010 12:54 AM PDT

A consortium of 30,000 union workers at Canadian food stores have gone on strike over company demands to reduce wages by as much as 25% and reduce pension benefits as well.

For their part, grocers want to remain competitive with Wal-Mart, the 800-pound retail gorilla. Who has the upper hand and why?

Please consider Ontario Loblaw workers approve strike mandate amid stalled contract talks.

Loblaw Co. workers in Ontario have overwhelmingly voted to give their union a strike mandate if Canada's largest grocery chain doesn't back down from concession demands that it says are necessary to remain competitive against its non-unionized rivals.

Over 97 per cent of members of the United Food and Commercial Workers union, which represents nearly 30,000 employees at stores under names such as Loblaws, Zehrs, Real Canadian Superstores and Fortinos, have voted in favour of a strike.

Loblaw says it must modify some of its existing agreements in order to stay competitive, as earnings have declined about five per cent from where they were five years ago.

Workers are frustrated over company proposals that would cut wages by up to 25 per cent, increase waiting times for benefits eligibility and reduce full-time jobs. Workers at those stores make between the minimum wage of $10.25 and $25 an hour, plus benefits.

But Loblaw says that it must increase efficiency to take on a growing number of non-unionized competitors, like U.S.-based retail giant Wal-Mart, which has been ramping up its focus on low-cost groceries.

"We are striving to reach an agreement that would enable the company to continue to meet the demands of today's highly competitive retail landscape," Julija Hunter, the company's vice-president of public relations, said in an emailed statement.

"In many contracts we pay 10 per cent more than competitors and have 15 per cent less flexibility. That's a real competitive disadvantage. That's not sustainable," Hunter said.

Attitudes and the 800-Pound Deflationary Gorilla

Like it or not, and the unions and Wal-Mart haters won't, there is only one reasonable way of looking at this....

Loblaws, Zehrs, Real Canadian Superstores and Fortinos need to be competitive to stay in business. If they fail to stay in business, every job at everyone of those stores will be lost or reorganized in a bankruptcy process. Accrued pensions may blow up in smoke.

I do not know Canadian law, but assuming companies have the right to hire replacements in case of a strike, Loblaws can win this battle hands down as long as it has the will. A settlement might be possible, but only if there are huge union concessions.

In the US, public unions have not gotten the message that their bargaining power has peaked. Canadian unions do not have the message either. A rude awakening is in store for unions in both countries.

Blaming Wal-Mart is Futile

The key point to this story is that tremendous deflationary wage pressures on unions in the US have now appeared in Canada. Moreover, this is just the tip of the iceberg for what is to come.

Blaming Wal-Mart (or anyone) is as futile as blaming the moon. People shop at Wal-Mart for a reason: low prices. Those low prices benefit millions at the expense of (in this case) 30,000 workers at Loblaws.

Will shoppers pay higher prices to keep Lobaws employees overpaid? The only opinion that matters is the attitudes of shoppers, and clearly attitudes have spoken.

Attitudes are Like Pendulums

There is no turning back until the secular shift in frugality hits it peak, and that peak might be a decade away.

It does not matter what public or private unions think, or for that matter what the Fed and Bernanke think! Attitudes have changed and shoppers insistent upon lower prices have decided. Lower wages will follow. Attitudes rule. Deflation it is.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

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Thursday, July 15, 2010

Mish's Global Economic Trend Analysis

Mish's Global Economic Trend Analysis

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