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July 13, 2007

Q2 Retail Sales - Well, At Least Prez Plosser Has Exports
by Paul Kasriel

On July 11, Philly Fed President Plosser said that he was optimistic about U.S. consumer spending and exports. Today's report of a 0.9% in nominal retail sales suggests that President Plosser is going to have to pin his hopes primarily on exports, which account for about 11-1/2 % of real GDP, to bring the U.S. economy out of its slumber rather than consumer spending, which accounts for about 70% of real GDP. Assuming that the CPI for retail goods is flat in June, probably too optimistic an assumption, then price-adjusted retail sales in the second quarter will have contracted at an annual rate of 4.9% vs. their first-quarter annualized growth of 2.5%. Moreover, the quarterly averaging arithmetic sets third-quarter annualized price-adjusted retail sales on a course of approximately 2% contraction at an annual rate because the June level is below the second-quarter average level.

June saw a lot of discretionary consumer spending either decline or post weak increases. For example, new and used car/truck sales were down 3.1%, furniture/home furnishing/electronics/appliance sales were down 2.2%, clothing/shoes/accessories sales were down 1.4% and food services/drinking places sales were up only 0.1%. For those who did dine out or hit the bars, service must have been quite good inasmuch as the BLS said that 34,600 new positions were added in this sector in June. Building materials/garden equipment & supply sales fell 2.3% in June. Building materials get counted in residential investment expenditures rather than personal consumption expenditures in the GDP accounts. Nominal grocery store sales increased 0.2% in June, but most of that probably reflected price increases rather than volume increases.

But wait, the University of Michigan preliminary consumer sentiment survey for July finds households more upbeat, as evidenced by the increase in the index of 7.1 points to a level of 92.4 - the highest reading since January's 96.9. Isn't this good news for consumer spending going forward? Not according to some research done by Dean Crousure of President Plosser's Philly Fed economic research department. This research was published in the Philly Fed's 2006:Q3 Business Review in an article entitled "Consumer Confidence Surveys: Can They Help Us Forecast Consumer Spending in Real Time?" Judging from the last sentence of the article, I think it is fair to answer the question posed in the title as "no": "If you are forecasting consumer spending for the next quarter, you should use data on past consumer spending and stock prices and ignore data on consumer confidence [emphasis added]."

Annualized growth in second-quarter real personal consumption expenditures is likely to come in at less than 1-1/2% vs. first-quarter growth of 4.2%. One has to be in a state of denial not to acknowledge that the tentacles of the housing recession are beginning to strangle the consumer. If consumer spending growth does not pick up to 2-1/2% or more in the third quarter, which I do not expect it to, then come the October 31 FOMC meeting, the day on which the Commerce Department will release its first guesstimate of third-quarter GDP, Fed officials are going to have a tough decision to make. Will they continue to forecast the "immaculate recovery" and wait for a lagging indicator, inflation, to move further into their "comfort zone," or will they become alarmed about the weakness in a coincident indicator, current economic growth, and start to take out some anti-recession insurance? I think the FOMC will opt for the anti-recession insurance. It might be too late.

Paul L. Kasriel, Director of Economic Research
The Northern Trust Company
Economic Research Department
Positive Economic Commentary
"The economics of what is, rather than what you might like it to be."
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The information herein is based on sources which The Northern Trust Company believes to be reliable, but we cannot warrant its accuracy or completeness. Such information is subject to change and is not intended to influence your investment decisions.

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