This note was originally published at 8am on June 13, 2014 for Hedgeye subscribers.
"The responsibility of the government is to have a stable currency. This kind of stuff that you’re being taught at Princeton disturbs me."
-Paul Volcker, May 2014
It’s that time of year again!
Time to round up the buds, pony up the $2K cost of admission, saddle up and ride for downtown Baltimore. Last week’s Triple Crown failure at Belmont was really just the warm-up for the real equine extravaganza - BronyCon 2014.
BronyCon, if you are unaware, is a now annual, multi-day conference in which thousands of grown men come to share in their passion for My Little Pony.
Yep, while still in the throes of a working-class recession, thousands of men incur substantial real and opportunity costs to travel across the country with the explicit objective of hanging out with other men and basking in their collective love for the 1980’s toy designed for little girls.
#BronyCon prep – if you didn’t know why there’s been fumes for market volume, now you know.
Back to the Global Macro Grind, quickly……
In a research note yesterday we discussed the collective cognitive dissonance in the consensus outlook for accelerating consumption growth in the face of an emergent avalanche of disconfirming evidence (See: COGNITIVE DISSONANCE: DEATH BY A THOUSAND DATA POINTS)
To reprise the heart of that note:
After yesterday’s negative revision to 1Q14 GDP, this morning’s retail sales data should serve as another blow to forward growth expectations.
While full year growth estimates continue to get clipped with regular frequency, the collective cognitive dissonance over the outlook for consumption - in the face of overtly middling data - remains very much entrenched.
Indeed, looking across our Economic Summary table (Chart of the Day below), the amount of sequential “Worsening” continues to belie the “accelerating recovery” narrative and sticky, 4%’ish, consensus GDP estimates.
We did see a modest, expected bounce across the breadth of manufacturing/confidence/labor data into 2Q and reported growth will accelerate sequentially but, essentially, we are what the numbers suggest.
Take the average of (soon to be revised lower) 1Q14 gdp and the (overly optimistic) 2Q14 estimate: (-2.0% + 3.5%) /2 = More Muddle
On balance, the 2Q numbers to-date have been ‘okay’ but do not reflect a material acceleration nor any significant rebound demand from deferred 1Q consumption.
In their House of Debt blog yesterday, Professors Atif Mian and Amir Sufi echoed our interpretation of the May Retail Sales data in rightly highlighting the following:
Over the past two years, nominal spending growth has been about 3% on a year-over-year basis. But if we exclude auto sales, the numbers are much worse, especially for 2014. Spending excluding autos in the first four months of 2014 has been less then 1.5% nominal, which implies a decline in real terms. This includes March and April, so it is hard to argue that weather alone explains this weakness.
*Note: Mian and Sufi are solid new school, econ researchers. Their new book, House of Debt, should definitely be on your macro reading list.
In short, the current domestic macro reality is that with Inflation accelerating (food, shelter, energy), housing decelerating, the labor market middling, and tougher growth/inflation comps through 3Q14, the intermediate-term trend for consumption growth is one of deceleration.
Further, with savings rates already near historical trough levels and the spread between spending growth and earnings growth having already re-expanded in the last two quarters, the upside for consumption growth remains quite constrained.
How do you keep the rate of change in consumption growth increasing when spending is already growing at a positive spread to earnings…..credit growth, baby!
One data point we’ve highlighted recently was the marked acceleration in revolving consumer credit in April.
Revolving Consumer Credit: The Fed G.19 data for April showed US revolving consumer credit balances rose at a month-over-month annualized rate of +12.3%, the fastest rate of growth since 2001.
The extent to which this data point is relevant depends on your broader view of credit:
Does Credit Matter? According to the latest Fed Flow of Funds data there is ~$57T in aggregate U.S. Credit Market Debt. This compares with a monetary base of ~$3T and nominal GDP of ~$17T – equating to dollar leverage (ie. obligations to pay dollars) of ~19.3X and a total debt-to-income ratio of ~3.4X. Obviously, credit matters and the slope of credit growth remains the marginal driver of spending growth in a modern, developed economy.
Where are we in the credit cycle? Household debt-to-GDP currently sits at 77.2%, down from the March 2009 peak of 95.6%. At this point, we’ve roughly re-traced back to the debt level that existed in 2000 - before debt growth decoupled from consumption growth and went exponential - but we’re still significantly above the long-term average of ~55%. Notably, Household debt-to-GDP ticked up in 1Q14 for the first time in 20 quarters.
The Credit Edifice: At a most basic level, household credit growth is largely a function of the rich lending to the non-rich. An economic edifice built on lending growth at the middle and low end to drive incremental end demand faces an inherent challenge at the end of a long-term credit cycle and amidst growing inequality perpetuated by monetary policy aimed at financial asset inflation.
If the lower 60%+ of households don’t own financials assets, remain over-encumbered, still haven’t recouped the wealth loss from the Great Recession, and are getting squeezed by rising commodity and shelter prices, are they really incentivized, or in a position to incur incremental debt?
Maybe, but it’s likely that incremental leverage is largely involuntary, non-productive in its deployment and /or hyper-transient. The household sector certainly hasn’t delevered enough to start another ‘credit cycle’ and, critically, zero bound rates and demographic trends are antithetical to those prevailing at the start of the 30Y cycle that began in 1981.
Further, the spike in credit card debt in April occurred alongside very weak consumer spending and housing data – weakness that extended into May. Tapping credit to purchase everyday essentials because cost inflation is running at multiples of income growth is not reflective of a resurgent consumer driving an accelerating, sustainable consumption recovery.
The thought train above is very “secular stagnation-y” and more of an early morning macro musing than a refined conclusion ‘endorsed by Hedgeye’. But that’s okay – the early distillation of macro noise generally begins with an initial pass through a common sense filter, then more questions.
On a less dismal note, as we head into daddy day, feel heartened that new, not-so-Ivory Tower voices like those of Mian and Sufi are finding traction and established voices like Volcker continue to stand unabashedly counter to crony conventionalist, economic thought.
…..Although you may feel equally disheartened that the best seats at BronyCon are already sold out – try to enjoy the weekend anyway.
Our immediate-term Global Macro Risk Ranges are now:
UST 10yr Yield 2.44-2.64%
WTI Oil 103.88-106.99
Christian B. Drake