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Friday, October 12, 2007

More About Consumer Excitement

The retail sales report was published this morning, and it also forecasts unseasonably warm weather for several more months, as does the Producer Price Index (PPI).

The bottom line for retail:
If you look at table 2B, which gives you September's change from prior periods, you get the story in a nutshell. Here are the main indicator category changes for September 2007/September 2006:
Total: +2.9%
Grocery Stores: +5.8%
Gas: +7.8%
Motor vehicles and parts: +1.4%
Clothing stores: +0.3%
Needless to say, as consumers are forced to shift spending to the gas and food categories, they are spending less on discretionary.

You can follow month to month YoY changes in gas and diesel prices at the Tonto page. Diesel is a huge component of consumer price inflation, because diesel affects shipping costs and acts as a VAT tax inflating pretty much everything consumers buy. The really bad news is that by the last week of September, diesel prices were running nearly 17% above Sept. 2006 prices. But gas prices explain why consumers spent 7.8% more on gas in September of this year compared to September of last year. The aggregate change (all regions, all grades) over the month weighting the weeks was 9.3%.

Now let us turn our attention to PPI. The total PPI increase for September was 1.1%. For food it was 1.5%. For energy it was 4.1%. The ex food and energy index was a whopping .1%.

That is not an annualized change. The Total Finished Goods change for the last 12 months was 4.4%, substantially the highest of the prior 12 months. The closest was July's 4.0%.

If you go to page 2 of the PPI release and look at the annualized change for the 9 months ended in September, you see just how structural the inflation for necessities problem is:
Finished Foods: 6.7%
Finished Energy: 11.4%
Intermediate Foods and Feeds: 16.9%
Intermediate Energy: 11.7
Crude Food and Feed: 26.3
Crude Energy: -6.4
Crude ex Food & Energy: 21.6
It's apparent that we are moving into a period of higher structural inflation for necessities. It is true that weak sales for items like clothing, shoes and electronics will cause price cutting for those items in stores, and push the net inflation for consumers who can afford those items down. But everyone must eat and everyone consumes energy in one form or another, and the ability for the supply chain to absorb such costs without passing them along to the consumer is diminishing rapidly. These costs are going to continue eroding consumer spending power. As you move down the income echelon, the pain gets extreme.

It's going to be a long, cold winter for tens of millions of households, and instead of blathering on about giveaways attractive to the upper middle class, politicians should be discussing food stamps and energy assistance programs. At this rate, you are going to see crime rates rise quite rapidly.

As for the movements of the stock market yesterday, the reality is that inflation for necessities is causing price inflation worldwide. ECB said it might have to increase. Japan increased grain prices (they are government controlled) 10% this summer.

If you look at the Bloomberg headlines on the retail sales report and consumer confidence surveys, you get a picture of Wall Street economists and stock analysts so wildly disconnected from the real economy that it is frightening. Consumer confidence is not being hugely affected by the housing problems - they are directly affected by gas prices. And yes, the headline number for the retail sales report was .6%, more than forecast, but the matching numbers for gas were 2.0% (in one month) and 0.8% for groceries. The discretionary categories of clothing, hobby and restaurants and bars were -0.4, -0.7, and 0.0 respectively. These are really bad numbers which forecast a very bad holiday season unless gas prices miraculously fall. It's not just that gas and food are pushing the numbers up - it's that when spending shifts to gas and food the discretionary categories move down. This is an indication of a tight coil for consumers. They seem to be losing ground in aggregate.

There are other numbers which are forecasting real problems for consumer spending. Among them are the terms of car loans at finance companies from the G.20 release. LTVs for new cars are moving up, and LTVs for used cars were at an astounding 103% this summer (the latest data).

And one of the things that will compound the issue is that people no longer know how to cook. I had $125 for food last month. I could scrape by because I tend to buy bulk beans and cornmeal in 25 pound bags. And my husband knows how to cook! (And thankfully, we have a working wood cookstove, so we do not have to buy propane to do that cooking.)
I watched a woman in the store buy 6 packages of microwaveable biscuits at $3.69 a bag. That's a lot of money to spend for biscuits! And since most people are locked into using microwaves, which are good for reheating, defrosting and not much else.
As for gas, I simply didn't make enough last month to buy gas for work for a full month. Had to do an overdraft, which will make it tough this coming month. There is nothing that makes me crankier than working at a job that isn't paying me enough to buy the gas to get there. And it was really bad when gas was up around $3.50 a gallon. Our neighbor moved out and put his house up for sale as it was costing them around a thousand a month for gas for their family, between getting to work and the kids to high school. (In our area, 70+% drive more than 20 miles one way to work. Thank you, environmentalists, for shutting down the woods!)
There are a lot of rather clueless folks out there who do not realize how bad the situation truly is and is going to get.
Terri - exactly. I see people in stores shifting their buying patterns. I see the loss leader items selling out 2 days into the week, every week. I see 69-72 year olds getting back in the job market. I see gray-haired people with nice late model cars and nice clothing shopping in Dollar General after church.

This inflation is really hurting a LOT of people. Badly. I keep trying to read transcripts of the political debates and shutting them down in disgust. There's no connection with real priorities at all.

I nearly died when Dingell proposed that 50 cent gas tax. Nearly died.
PS: It's all very well to sell your house in a rural area if you have the equity, but the people who bought recently on programs like FHA generally don't get a penny out of it. And if they try to move further in they have to pay higher rents.
I'm so glad that I read the financial sites and sold our place a year and a half ago. We didn't get much out of it, but at least it sold. My friend's place, much nicer with five acres, has been on the market close to a year now with no takers. She may well lose it. She has a fairly good paying job and has it on a fixed rate 15 year mortgage. But she can't afford payments and the taxes on a single income. Fortunately, she is one of those folks who tried to keep a year's supply of food on hand. She is able to eat off that for now and doesn't need to buy much in the way of groceries.

When I lost my good paying job in the tech bust, I kept thinking that it was a temporary thing and that I would come up with another decent paying job soon. So I didn't cut back and plan the way I should have. If I'd been smart, I'd have taken my severance pay and bought a year's worth of food. I could have lived quite nicely on the unemployment without having to buy groceries. And I should have shut down cable tv and dialup internet. I can see those things more clearly now that I've had to make do on even less. What is going to happen is that these consumers are going to try and do the same. They will hang onto things like cable tv and broadband as long as possible. They will max out their cards. They will put things up for sale, like all the cars I see for sale on the way to work. In the end, they will put off the inevitable too long and waste too much money on things they could do without. Food prices continue to go up. People just don't realize how critical food is because they haven't had to go hungry.
Teri - can she get a housemmate? That may be her only real option at this point.
She's got her son, wife and her kids living with her now. I'm not sure how well that is going to work out long term. The wife seems to be having issues. (Cleanliness freaks do not seem to understand that kids can get dirty out in the country). And the son has been fudging on what he agreed to pay for rent. But it's at least keeping her in the house for now.

Great post! I read a number of eco blogs and your statistics seem the most meaningful to me. However, something that none of the blogs seem to address when discussing the affects of price increase on consumer spending is the role of credit.

For example, if (hypothetically speaking) a ‘blue collar’ worker’s gas bill for a month increase by 50%; that number alone suggests that the worker will have to cut back on other types of spending.

However, if that worker purchases gas with a credit card and if the minimum monthly credit card payment for that worker only goes up 10%, then it does not necessarily follow that the increase in gas cost will affect other types of consumer spending.

We all read regularly about how the Fed provides liquidity to the stock markets when there is a sell off, and then the markets invariably go up. Is it not possible that analogous liquidity can be provided to consumer markets? Thus, seeing that consumer spending is lagging in some areas, as you point out, is it not possible that the financial system can respond by providing liquidity to the consumer market?

In short, as long as consumers can borrow, they can buy. The question is: Is there any limit to borrowing and what is that limit? For, it is only at that limit that consumer spending will really be affected. Seems to me?


Teri, great point about cooking! I spent many years teaching GED and job skills to single mothers on welfare and I was struck by how many had no cooking skills. I live in a city and the stores I shop in have many low income customers and, like you, I cannot help but notice the ‘fast food’ they buy. Interesting?
I can't comment on credit. I've tried to stay away from credit cards but finally broke down and picked up a card with a thousand dollar limit. Maxed it out rather promptly. I pay more than minimums on it and hope to have it cleared up in time to buy new tires in the spring. And that's another part of the problem. It's not just gas. It's things like insurance (mine seems to go up at least $30 a year even though we've had no claims or traffic tickets). Back in the 70s, when gas was high, I was able to car pool to work. Now jobs seem to require that everyone work some weird shift. I can't carpool to this job. I am lucky that my car gets good mileage. But I had to drive with the handbrake for about two months till I could afford to fix the brakes. At some point, we are talking about more than folks not being able to buy "wants". We are talking about cutting into the funds for "needs". I can't imagine what it would be like to try and make it on minimum wage.
Teri - Please email me! With your background I have an idea for you.
Tom In short, as long as consumers can borrow, they can buy. The question is: Is there any limit to borrowing and what is that limit? For, it is only at that limit that consumer spending will really be affected.

Oh no. The limit shows up very quickly. No consumer can do this for very long.

Suppose that the consumer is missing on living expenses by $75 a month, and starts charging that $75 on a card that had a zero balance. The card has a 4% payment minimum (figured on ending balance P&I), and a limit of $2,000. The annual rate is 15% (quite good). That means each month's interest will be 1.25% of the ending balance.

The first month the balance is $75 + 0.94. The minimum payment amount of $10 applies, and after the payment of $10, the remaining balance is $65.94. So far so good.

But in month two, the shortfall is really $75 + the $10 min pmt, so now our luckless consumer charges $85, for a principal balance of $85 + $65.94. To that add interest of $1.89. We haven't exceeded the min pay of $10 yet (.04 * $152.82 = $6.11).

Month three the shortfall is $85 again, but we are adding that to a starting balance of $142.82, so the ending balance = $85 + $142.82 + interest of $2.85, or $230.67. Min pay is around $9.00 so we still pay $10.00.

Month four:
($85 + $220.67 + $3.82) * .04 = $12.38.

From here on out the monthly additional charge just to cover the consumer's original monthly shortfall of $75 keeps growing because the minimum payment keeps growing. By the 23rd month, the new minimum payment would exceed the original shortfall of $75, so the consumer would now be charging an additional $150 + each month just to stay in place. In month 24 the consumer exceeds the balance limit of $2,000, interest rate shoots up to at least 25%, and it's game over.

A consumer CAN NEVER, EVER, compensate for a shortfall in basic living expenses this way for more than a few months. It's an illusion - each month the consumer has to charge more on the credit card just to eat, keep the lights on and get to work.

Let's retrace the steps. Let's go back to month 12. At that point, the minimum payment has reached $35.58. Let's assume this consumer had a salary of $30,000, and gets a 5% raise. This is better than many have been doing! That 5% * $30,000 = $1,500 annually or an extra $125 a month. Assume that the after tax net is $93.75 (state, fed & employment taxes add up to 25%, probably a bit low). The original monthly shortfall of $75 plus the minimum payment of $35.58 = $110.58 - $93.75, so our consumer now has a monthly shortfall of only $16.83, assuming the consumer is seeing absolutely no more inflation. The consumer still won't be able to start paying the card's principal balance down, though.

That, in a nutshell, is why you have all these mortgage cashout refis at a higher interest rate than the original loan. This is what happened. That's why I posted all those boring graphs about consumer debt and CPI-adjusted wages.
I keep trying to justify buying a house now... you can grow your own food, have extra insulation & wood stoves, better security and neighborhood etc, and yet the thought of going into debt at this point and time drives me insane! We've made a ridiculously low offer on a bank repo, and can reasonably go 76% of their asking price, but I would sure appreciate any insight that you all might have!
Hope Jay is doing better, thinking of him often and praying for him as much!
Gayla, that's why I'm up so late. Actually waiting for the update, because today was the maintain on his on or tracheotomy day. And just got that update, and he's maintaining. He's been off the ventilator for 48 hours now, and more than holding his own.

So it looks like a go. The docs think he will have complete organ recovery.
Oh, glad to hear it!
Gayla, where is the REO? A lot depends on the area.
Kansas City! I know, it's not a high priced area compared to most, a quarter of a million for a 1943 house with a small yard on a busy street would be a steal in some places.
County? Because although there's a relatively high vacancy rate, the affordability ratio is still pretty good in the general area.

Regarding my consumer debt question:
Wow! that was some kind of answer. thank you.
I worry about what is going to happen to electric power prices and what this is going to do to people and the economy. There is immense political hostility to the generation of energy. Every attempt to build plants or transmission lines is met with endless litigation and regulatory red tape. The situation will get much worse should Democrats win the power they seek. John Edwards, for example, is opposed to nuclear power AND to the building of more coal plants.

Electric rates could go up at a rate that dwarfs the increases in gasoline prices..worse, the grid could collapse in some areas. People like Edwards and Gore would have no problem paying 50 cents per KWH in the former case, or running their mansions off private generators in the latter.

And they could blame the evil corporations for all the problems.
Platte County, MO... For some reason I thought that perhaps now might be a good time to buy a bank repo, with the banks taking write downs and possibly needing their money back? And it would seem that the investors are the only ones buying them, to fix up and mark up. And let sit. Individuals are letting them go back before they'll drop prices. It's crazy!
Gayla - providing that you don't overstretch, it might well be. If not this one, then the next. If you have a decent downpayment, at this point that is probably a rarity that can give you an advantage in this market.

However you should make sure that you end up with three months of PITI reserves after closing and can maintain that with your current income with the full payment, plus add to it a little.

In general you'd be better off buying a house that is older, structurally sound, but needs some updating and cosmetics. That would leave you free to improve as your finances allow and offset further declines that might arise out of a recession.

If you check into rental rates for similar homes in the area, and the house you want to buy could be rented for the equivalent of the monthly PITI, that's a good indicator of lowered risk. There seem to be a lot of short sales and REO out there, so you should have room to find a home that won't stretch your budget for a relatively decent price.
David - I couldn't agree more. Our DC politics appears to be dominated by elitism. Why half the country's needs have suddenly been shoved off the table of national politics I cannot understand.
THANK you! Everyone keeps saying it's a buyers market, but I agree with the equivalent rent theory, and it's wacked. What a bad time to relocate!
So good to hear Jay is being cantankerous, it gave me chuckles. Prayer works!
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