Recovery Continues, But Slowly

The economy is coming back according to stocks, bonds, gold, economic reports, and Mr. Bernanke. The S&P 500 gained 13% in 2010 and 1.4% so far this year. Companies are poised to report strong earnings for the fourth quarter with profits for S&P 500 companies expected to be up about 20%. Unfortunately, unemployment is not yet following suit, despite the unexpected drop in the headline number.

The unemployment rate unexpectedly fell from 9.7% to 9.4%, but the drop was more a factor of declines in the overall job market than growth in new jobs. In fact new jobs of 103,000 were considerably below estimates for 160,000 new jobs in December. Average hourly earnings in December edged up 0.1% and the average workweek for all workers was unchanged at 34.3 hours. Wage inflation is not a problem. Robust expansion of the economy will depend on notable and sustained declines in unemployment. At the moment, this decline in unemployment appears to be an aberration.

While unemployment continues to be a problem, manufacturing continues to power on. The monthly ISM composite index of manufacturing came in at 57 to indicate significant monthly growth (anything over 50 signals expansion). Construction outlays also continue to be strong, rising .4% in November and following a .7% rise in October. The gain was led by a 0.7% increase in private residential outlays, following a 3.9% surge in October. This week’s ISM report of non-manufacturing showed strength coming in at 57.1, up two points from November and a new recovery-best. The various reports indicate that the recovery is firmly underway, though relatively modest.

The consumer is engaged as indicated by Apple’s recent report of a 47% jump in their latest quarter’s earnings and this month’s vehicle sales report showing a 2% jump. Automobile sales rose from a 12.6 million annual rate from a 12.3 million rate in November. The annualized rate for auto sales stands at 13.5%, roughly double the rate for regular retail store sales as noted by Bloomberg. Strength continues to be in North American-made vehicles which sold at a 9.4 million rate, while imports were steady at 3.1 million.

Ben Bernanke in his Senate testimony said “We have seen increased evidence that a self-sustaining recovery in consumer and business spending may be taking hold.” He went on the say, “Overall, the pace of economic recovery seems likely to be moderately stronger in 2011 than it was in 2010.”

Mr. Bernanke defended his controversial program to buy $600 billion in US Treasuries saying that unemployment is likely to remain above 8% for the next two years while inflation remains subdued. He said that despite the recent economic momentum, “progress toward the Federal Reserve’s statutory objectives of maximum employment and stable prices is expected to remain slow.”

He also warned Senators that if the budget deficits, the domain of Congress, are left untamed, “the economic and financial effects would be severe” with consequences including: “sharply rising interest rates, broader financial turmoil,” less private investment, more foreign indebtedness and “adverse long-run effects on U.S. output, incomes, and standards of living.” We hope they are listening.

Commensurate with stocks indicating recovery, so are gold, commodities and bonds. Gold has dropped to a five-week low on signs of a strengthening US economy and a stronger dollar which curbs investment demand. Other precious metals have followed suit. Commodities, as represented by the CRB index are at a plateau since the beginning of the new year.

Intermediate government rates as tracked by the Barclay’s 7-10 year Treasury index are down 6.5% since their peak in mid-October. But for the last five weeks they have been in a narrow trading range of roughly 1.5% signaling a bottom to their recent fall and perhaps a conclusion that inflation is not imminent.

Signs point to improvement in 2011 with reason to expect stronger momentum than last year. The extension of the Bush tax cuts went a long way toward reducing uncertainty, but so much more has to be done in that regard. The key challenge before the new Congress and Administration will be to cut through or eliminate the uncertainty of costs regarding Healthcare and Finance Reform. Increased costs and regulatory uncertainty are strong disincentives for job creation. If Mr. Obama’s Administration, the Republican-led House, and the Democratic Senate find a way to work together to remove disincentives to job-creation and make significant inroads toward deficit reduction then our recovery gains even more momentum.