NEW$ & VIEW$ (19 JUNE 2013)

Inflation Continues to Undershoot Fed Target  Federal Reserve officials both expect and want inflation to be higher than it is. So far, that isn’t happening.

Consumer price data released Tuesday showed inflation rose a mere 1.4% in May from a year earlier.

But the inflation jury remains out. The seasonally adjusted CPI for all urban consumers rose 0.1% (1.8% annualized rate) in May but the core CPI less food and energy increased 0.2% (2.0% annualized rate) on a seasonally adjusted basis.

According to the Federal Reserve Bank of Cleveland, the median Consumer Price Index rose 0.2% (2.0% annualized rate) in May. The 16% trimmed-mean Consumer Price Index increased 0.1% (1.6% annualized rate) during the month.

Over the last 12 months, the median CPI rose 2.1%, the trimmed-mean CPI rose 1.7%, the CPI rose 1.4%, and the CPI less food and energy rose 1.7%.

Sequentially, core CPI and the median CPI continue to grow at a 2.0% annualized rate. Only the 16% trimmed-mean CPI measure has slowed noticeably during the last 3 months.

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Housing Starts Rise 6.8%

Overall housing starts rose 6.8% in May from a month earlier to a seasonally adjusted annual rate of 914,000 units, the Commerce Department said Tuesday. That level was nearly 29% higher from a year ago.

The increase was driven almost entirely by a 24.9% surge in construction of multifamily units, such as apartments, which are benefiting from high demand from many consumers—such as those with weaker credit—opting to rent instead of buy. New starts on single-family homes, meanwhile, rose a slight 0.3%.

Building permits for single-family homes, a measure of future demand, rose by 1.3% last month to the highest level since May 2008.

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(Haver Analytics)

I inserted the red circle in Haver’s chart juts to point out that while the media are highlighting the high YoY growth rates, starts are no longer rising sequentially. Permits were pretty good in April and May, however.

 

Will Home Prices Be Constrained by Stagnant Incomes?

(…) Consider the trends in home prices and incomes since housing’s bottom in 2011. The average new-home price is up about 17%, while per capita income has increased just 2.8% (or about the same pace as inflation). (…)

The constraint will fall harder on adults aged 35 or younger who make up the usual cohort of first-time buyers. They have higher unemployment rates than other adult workers. And many also carry large amounts of student-loan debt.

Bond Investors Head for the Hills

Signs of a stronger U.S. economy are rippling through the bond markets, sending investors and corporate leaders racing to prepare for higher interest rates.

The recent moves show how comments by Federal Reserve Chairman Ben Bernanke and other Fed officials about tapering the central bank’s bond-buying programs already have had a huge impact on the markets. Investors are on tenterhooks hoping for clarity from Mr. Bernanke when he speaks Wednesday at a news conference concluding the two-day meeting of the Federal Open Market Committee. Many investors are looking to his words to determine the scale of further retreats or a rush back into bonds. (…)

If the Fed is clear about its intentions, “we’ll go about the business of this slow but steady recovery,” Mr. Kotok said. “If the Fed fails on Wednesday, you’re in for a shock and more volatility.”

But, will the Fed be right on its economic assessment?

MORE ON CHINA’S CREDIT PROBLEM

China cash crunch deepens as PBOC stalls
Central bank witholds funding for interbank market

(…) Signalling that the cash crunch could persist for a while, the China Securities Journal, a major state-run newspaper, ran a front-page commentary saying China was at a turning point in monetary policy.

“We cannot use as fast money supply growth as in the past, or even faster, to promote economic growth,” the newspaper said. “This means that authorities must control the pace of money supply growth.”

Stan Druckenmiller On China

Part of a Goldman Sachs interview:

Hugo Scott-Gall: What are the risks of investing in China that are not well understood in your view?

Stan Druckenmiller: The growth in credit at a time when GDP growth is slowing is a problem for China. And I think this is the 2009-11 stimulus coming back to bite. I understand that it had to be done to fund entrepreneurs and the private sector, but it’s easier said than done if you’re channelling funds through local government investment vehicles. I’m a believer in markets. A few men sitting around a table and deciding how to allocate capital goes against everything I’ve ever believed. Not only are they not great at capital allocation, such an exercise also needs to deal with a lack of property rights and corruption.

In essence, the frantic stimulus China put together at the end of 2008 sowed the seeds of slower growth in the future by crowding out more productive investments.

And now, the system’s building enough leverage and misallocation of resources to warrant risks of a financial crisis, but the timing of that is still uncertain in my mind. What we’ve seen in China since 2009 is similar to what happened in the US in 2005, in terms of credit growth outpacing economic growth.

I think ageing demographics is a bigger issue in China than people think. And the problems it creates should be become evident as early as 2016.

Pointing up You also need to keep in mind that for China to grow and evolve further, it will need to compete with a more innovative Korea and now a more competitive Japan. I don’t think China can do that with where its exchange rate is today. I think productivity is a key concern too. And I think that could be one of the reasons why the US has been so supportive of Abenomics.

People mention lack of infrastructure as a constraint. But when I go over there, it looks like they have a lot of infrastructure. It seems ahead of the population, not behind. I see expensive apartments in empty cities that 300 mn rural Chinese are expected to migrate to.  That looks very unbalanced to me. Nobody’s ever had investment to GDP at 47%. Japan and Korea peaked at 36%-38%, so as a result I think capacity is way ahead of demand in some areas in China. (…)

And these via John Mauldin’s Outside the Box. Some excerpts but the whole article is fascinating.

    • The demographic challenge is the greatest of all. Here is a bracing forecast: China’s population in 2100 will shrink to 941 million, but the U.S. population will grow to 478 million. Instead of four Chinese to every American, there will be two. As Beardson notes:
    • Societies with steadily falling populations do not normally have a sustained high rate of economic expansion. As China’s population is estimated to peak around 2026 and then to fall, there is a narrowing window for China to continue its high economic growth rates.

    • (…) the solar industry is only the most pronounced example of broader overcapacity in China. Its rise and fall has followed a pattern that is becoming familiar across the world’s second-biggest economy.

    The problems stem from China’s industrial policies and a vast array of subsidies that allow whole sectors to spring up overnight. Ambitious local officials are keen to lavish government money on what they hope will be success stories that can further their careers.

    “When you have administrative measures you get huge overcapacity and this country has created overcapacity in a whole lot of areas,” says Hank Paulson, former US Treasury secretary, who often visits China. “It’s not just clean technologies; steel, shipbuilding we can name all the areas.”

    From chemicals and cement to earthmovers and flatscreen televisions, Chinese industry is awash with excess capacity that is driving down profits inside and outside the country and threatens to further destabilise China’s already shaky growth.

    • In a recent study, Usha and George Haley, US-based academics, studied how Chinese steel, glass, paper and auto parts producers turned from bit players and net importers to the world’s largest manufacturers and exporters in just a couple of years.

    In each of these highly fragmented, capital-intensive industries, labour accounted for between 2 and 7 per cent of costs and the vast majority of companies enjoyed no economies of scope or scale.

    “Our findings contradict the widespread belief that China’s enormous success as an exporting nation derives primarily from low labour costs and deliberate currency undervaluation,” says Usha Haley. “There is enormous overcapacity and no gauging of supply and demand and we found that subsidies account for about 30 per cent of industrial output. Most of the companies we looked at would probably be bankrupt without subsidies.”

    • Another big problem for almost every industry is that companies’ investment and growth plans have been predicated on the belief that the government would never allow growth to drop below 8 or 9 per cent.
    • Today, as growth slips towards 7.5 per cent and lower, China’s new leaders do appear more determined than their predecessors to tackle overcapacity.
    • “We intend to accelerate the transformation of the economic development model and vigorously adjust and optimise the economic structure,” said Zhang Gaoli, the executive vice-premier in charge of the economy and a member of the all-powerful Standing Committee of the politburo, in a speech this month. “We will strictly ban approvals for new projects in industries experiencing overcapacity and resolutely halt construction of projects that violate regulations.”

      However, Beijing has tried for years to tackle this problem but meets fierce resistance from local governments trying to protect their local “seeds”.

Vietnam to Reduce Corporate Income Tax Rate to Help Businesses

The tax rate will be cut to 22 percent from 25 percent starting Jan. 1, 2014, and to 20 percent from Jan. 1, 2016, said National Assembly Vice Chairwoman Nguyen Thi Kim Ngan. The rate for companies with fewer than 200 employees and total revenue of less than 20 billion dong ($950,887) will be lowered to 20 percent from July 1, 2013 and to 17 percent from Jan. 1, 2016.

EARNINGS WATCH

Pointing up  Ed Yardini warns:

We are a bit surprised by the strength in forward earnings given the recent weakness in S&P 500 forward revenues. We monitor lots of domestic and global economic indicators that are highly correlated with S&P 500 revenues. The y/y growth rates of almost all of them are in the low single digits and seem to be heading toward zero. For example, US manufacturing and trade sales rose just 1.5% y/y during April.

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