CNB Weekly Economic Commentary: August 30

 To: Everyone
From: Gregory S. MacKay, Senior Vice President & Chief Economist
Date: 08/27/10

Is the economy starting to act like the 2007 and 2008 New York Mets? The Mets managed to throw away huge leads in those two years and failed to make the post season baseball playoffs. Is that where the economy is headed? Down after a good start?

Recent numbers didn’t seem very encouraging. Existing home sales in July dropped 27.2% to the lowest sales level on record. New home sales in July dropped 32.4% over the past year. Second quarter G.D.P. was lukewarm. National and local employment levels suffered. Looking quickly at all the numbers it might seem that the economy had stalled.

Let’s look at the housing picture first. Existing home sales did drop 22-35% in the past month and are down 20-33% over the past year. The blame was properly put on the 2010 tax credit, which shifted an abnormal number of sales into the earlier part of the year. I don’t feel as discouraged as some writers, as existing home prices are still up .2% year-over-year and are up 10.7% since January 2010. Inventory levels are actually down 2% from a year ago, so inventory is working off, not increasing. New home sales in July dropped 12% from June and were down 32% nationwide from the July 2009 – July 2010 period. Due to the huge decline in new home starts, inventories of new homes actually fell 22% on a year-to-year basis. Both mean and median prices have fallen year-to-year (14% and 5%, respectively), but a good part of the price constriction is the changing market scene. New homes sold under $299,999 have actually risen 12.5% in the past year, while sales of homes priced over $300,000 have fallen almost 36%, as American owners have begun to downsize.

The bright spot in housing is our own area. The Greater Rochester Association of Realtors reported home sales in the second quarter of 2010 at 3510 units, up 43% from the second quarter of 2009 (2450 units). Prices locally averaged $120,000, up almost 2% from year ago levels. So our local housing market remains much more resilient than the national picture, which isn’t as bleak as some writers suggest.

The employment picture is somewhat weak this year on the national front, as job creation has slowed significantly, and new unemployment claims have begun to rise. The national unemployment rate is at 9.5%, just above year ago levels of 9.4%. New unemployment claims have risen above 475,000 on a weekly basis. While certainly better than the 600,000+ levels at the height of the recession, the numbers have been slowly creeping up, and adding new jobs has been difficult. On the local level, Rochester region unemployment was 7.8% in July, up a bit in the past two months, but down from the 8.2% level of July 2009. Reviewing past Rochester data showed one trend. The non-seasonally adjusted levels of unemployment released by the N.Y.S. Labor Department show a regular increase in summer unemployment in our area in six of the last eight years. I’m not overly concerned about local employment now, as I expect job levels will improve again in the fall.

With housing and jobs in our area in fair shape, I thought I’d look at car sales, to get a feel for local consumer strength. In June 2009, the Rochester region had unit sales of 6166, followed in July 2009 by sales of 7640 units. This 24% increase was due to the “cash for clunkers” program, and sales in August 2009 dropped back off to 6171 units. June 2010 sales were 5345, down 13% year-over-year. However, July sales were 7643 units, almost exactly the level of July 2009, and without any tax incentives. I’ll be looking for August numbers, and if similar to last year, will suggest a stronger local consumer picture here than nationwide.

The nationwide economy looked a little weaker as the first revision of second quarter Gross Domestic Product was reported at +1.6% (a downward revision from an earlier reported +2.4%). Now a 1.6% increase isn’t bad, it’s equal to or better than 7 of the last 10 quarters, but the slowing growth is troubling. The cause of the slowing can be linked to two items: inventories and imports. A statistic called “Gross Domestic Purchases” measures U.S. consumer purchases of goods made anywhere in the world (not just U.S. made). That level increased 3.9% in the first quarter of 2010, was up 4.9% in the second quarter, and is up 3.7% annualized over the past year. Simply put, consumers are spending nicely, but on products made outside the U.S, with our cash leaving the country. While imports and exports were only 20% apart in the first quarter, imports were almost four times larger than exports in the second quarter. That’s a big subtraction from G.D.P. Inventory levels have become more stable, also subtracting from G.D.P. growth. A statistic called “final sales of domestic product” measures GDP growth less inventory changes. It grew at 1.0% in the second quarter, and at 1.1% in the first quarter of 2010, but should grow at 2% to aid G.D.P. growth. We need more business confidence to build inventories for future sales, period. There has been good improvement in both residential and non-residential fixed investment, consumer consumption remained at first quarter levels, and business equipment spending moved up a bit. But an overall revision downward to a slower pace of economic growth was not well greeted.

Fortunately, Fed Chairman Bernanke was speaking at a Kansas City Fed Symposium and had a chance to draw a clear picture for everyone. Stating that “the task of economic recovery and repair remains far from complete”, and “growth during the past year has been too slow and joblessness remains too high”, Mr. Bernanke laid out his view that the recovery is underway and will continue. He sees fiscal stimulus and inventory buildups giving way to consumer spending and business fixed investment, and believes that household balance sheets are healing nicely. Lower prices and interest rates will absorb the overage of available housing, business spending will remain positive, but will slow, and the export picture will improve. All of this will lead to a better jobs market, which will put the punch back into G.D.P. growth. But the Fed is looking well into 2011 for any strong economic growth. In the meantime, the Fed will continue its economic support through securities purchases and an accommodative monetary policy, as well as continue its goal of price stability. The Chairman was firm in his belief that the recovery will continue, and I agree. It was a very large recession, and it will be a long recovery. But it’s happening. Now.

The equity markets loved the Chairman’s speech, and had a rousing rally today. Prices regained most of this week’s loss, and remain at fair levels. At the close, for the week and year:

Bonds are still the place to hide unsure money. Yields remain abysmal, but Treasuries were slightly higher as some money moved back into stocks.