“Change We Can Believe In”

Based on the rhetoric flying around Washington, it seems unlikely that meaningful budgetary reform will come in the next two years. In his Wednesday campaign-like speech Mr. Obama stated his intention to raise taxes more clearly than any other part of his plan. Just as clearly, House Republicans claim that tax increases are dead on arrival in their chamber. It even turns out that $38.5 billion ‘savings’ in government spending, triumphantly celebrated by Boehner, Reid, and Obama, will only cut this year’s deficit by $352 million according to the non-partisan Congressional Budget Office. Don’t these guys get it that Americans are fed up with reckless spending, political posturing and outright lies?

Trash talk such as, ‘throwing women under the bus’ (Planned Parenthood) or the “Ryan-Tea Party” budget, or Obama’s “put simply, it ends Medicare as we know it” only destroys any potential for meaningful discussion, debate, and reform. We all understand the political requirements for getting re-elected and the need to rev-up the constituent bases with zingers every so often, but real people who think are getting real tired of them. What voters or at least those who derive their living from the economy rather than from its government, are becoming increasingly doubtful that there is any hope for reform, or that anyone there really cares. Unless there is leadership and soon, extremes will worsen as they grow stronger and louder, diminishing any chances for reform and fiscal responsibility.

The workhorse of the American economy is small business. Nearly three quarters of new jobs created in this country are risked by small business owners. That’s right risked. Business owners money from profits to create new positions, positions that are not easily (emotionally or legally) eliminated when profits decline.

Earlier this week in a speech Fed Governor Elizabeth Duke spoke to the heart of small business in this economy. She said that personal wealth is a key factor behind small business formation. She noted that the stock market crash of 2008 created a significant drag on new businesses, along with a drop in demand. She went on to say that “according to the most recently available data from the US Census Bureau’s Survey of Business Owners, 6 in 10 small business owners use personal savings or assets to finance or expand their businesses.” Due to the crash “we found that 43% of families saw a wealth decline equal to or greater than six months of their usual income, and almost one-third saw a loss greater than an entire year of the usual income. Such wealth declines would, of course, reduce the likelihood that such households would start a small business.”

Mr. Obama and Mr. Reid are you listening? Tax hikes have an even greater impact on personal wealth because they LAST. Stock market crashes are followed by stock market booms. Quoting the survey, Ms. Duke said “that many small business owners do not tap the credit markets, but instead use their own wherewithal to start and fund their businesses. Indeed, a bit less than 80% of small business owner survey respondents with fewer than 500 employees indicated that they had not even applied for business loans in the past five years. [Mr. Obama, they don’t need government loans, they need assurance that you will not tax their ‘wealth’ further] This is not to say that loans are not important–far from it–but that for a broad range of businesses, personal finances may be the determining factor in starting a business, and personal finances may also be most important in sustaining the health of a business once started.”

The more government can get out of the way of small business the better. The more we hear Messer’s Boehner, Reid, and Obama talking meaningfully about enabling small business to thrive and restoring the ‘animal spirits’ required to motivate risk-taking in this country, the sooner we can take heart in the possibility of reversing the damage of generations of “Ponzi-style” government. Cutting spending is essential, but it cannot be done without ensuring that the ‘engine’ of the US economy isn’t well fed. Some tax increases may make sense here and there, just as keeping some government programs, but the rhetoric of absolutes must end, or compromise, much less win-win will be impossible.
Inflation remains a concern on the minds of many. The consumer price index released today showed that headline inflation increased 0.5% in March, but the core rate (less food and energy) remains subdued, dropping to 0.1%. Energy jumped 3.5% after surging 3.4% in February. Gasoline increased 5.6% percent, following a 4.7% rise in February. Food price inflation worsened to a 0.8% gain, following a 0.6% increase in February. At the core, apparel prices, household furnishings, and recreation declined or remained flat. Shelter rose only 0.1%. So we should go on a diet, carpool, and fill in our wardrobes.

The Fed is caught in the middle of two mandates to increase jobs [thus keep rates low] while maintaining control over price inflation [raise rates to slow the velocity of spending]. Fed members are arguing among themselves both in FOMC meetings and in public speeches this week and last. As noted by Bloomberg “Fed Governor Elizabeth Duke said in Washington yesterday that rising commodity costs aren’t resulting from US monetary policy and don’t warrant higher interest rates, while Fed Governor Daniel Tarullo said he sees no sign of inflation spreading more broadly. Richmond Fed President Jeffrey Lacker and Philadelphia’s Charles Plosser indicated they’re more concerned about prices, with Lacker saying the central bank must tighten credit before inflation gains speed.”

At the producer level prices were on the rise in both the headline and the core. The Overall PPI inflation index in March eased, but still rose at a strong 0.7% following February’s 1.6% jump. Energy led while food edged back from its huge surge in February. The Fed expects both to ease in the coming months. At the core level prices rose 0.3%, following a 0.2% advance in February.

The strength of the current recovery continues to rest primarily with the industrial sector. According to the government, industrial production in March jumped 0.8%, following a revised 0.1% uptick the month before. A jump in auto production helped but other manufacturing components such as utilities rebounded 1.7% after dropping 3.6% in February and mining gained 0.6% percent in March after a 0.3% rise the month before. On a year-on-year basis, overall industrial production posted at 5.9%, up from 5.6% in February.

An index from the New York Fed known as the Empire State Manufacturing index showed the region is robust and so far has not suffered substantial effects from Japan. New orders surged in the April report as did shipments and employment. The supply chain shows no lengthening in delivery times. In a special question, 80% of the sample report little or no impact from the crisis in Japan.

Of course, the biggest portion of our economy is our world-famous consumer. Many are worried that higher gasoline and food prices will stem demand for consumer goods. But concerns so far have failed to show in the numbers. Overall retail sales advanced 0.4%, following a revised 1.1% gain in February and a revised 0.8% increase in January. Excluding autos (which declined last month), sales gained 0.8%, following a 1.1% increase in February. Consumer sentiment, at 69.6 for the mid-month reading vs. March’s 67.5, is improving but remains near six-month lows. Consumers expect conditions to improve, but those readings also remain near six-month lows.

So things are looking better in the near term, but our hope is for real signs of “change we can believe in” in the coming debate in Washington. Have a good weekend.

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