I could probably write three letters a week, there is so much happening that is worthy of our attention. The problem today is trying to decide what not to write about, which means I get emails from readers wondering why I don’t mention their areas of particular interest. But at eight pages, I just have to stop. You need a break!

Today, we have to look at the unemployment numbers, and the connection between the credit crisis and the rise in oil of about $16 dollars a barrel in just two days! If there is still room, the dollar is certainly being pushed and pulled by central bankers, who are also worried about inflation. And I doubt we will have room to cover what is a very important rise in inflation in Asia. It is all connected. (And you HAVE to look at the picture of my daughter and associate Tiffani at the end of the letter. Too much fun!)

But first, a quick note. I will be in Las Vegas July 10-12 for the annual Freedom Fest Conference, where I will speak several times, and the line-up of speakers is as strong as for any conference I have ever been to: Denish D’Souza will debate Christopher Hitchens; and Steve Forbes, Ron Paul, Stephen Moore (Wall Street Journal), Charles Murray, George Gilder, John Goodman, and about 100 other speakers, each impressive in their own right, will be there, as will 1,500 freedom-loving attendees. You can go to http://www.freedomfest.com/promo.htm and click on the list of speakers to register. Mark Skousen is the driving force behind the conference, and he does it right. I hope to see you there.

Unemployment Jumps to 5.5%, On Its Way to 6%

The headline number said the US lost 49,000 jobs in May, somewhat fewer than expected. The details were much uglier. It is no surprise that construction saw losses of 34,000, but “goods production” also saw a drop of 57,000 and manufacturing was down 26,000. What was up? Health care (34,000), bars and restaurants (11,000), and government added 17,000 (though, as Phillippa Dunne and Doug Henwood of The Liscio Report noted, the gain was all from local governments, as federal and state governments shed jobs).

So, with all the large losses and few gains, how did we show a loss of only 49,000 jobs? As long-time readers will guess, it is our old friend, the birth/death model, which is the estimate of new jobs created by new and small businesses, which are not covered in the survey. Contrary to some opinions, it is not a conspiracy by a government agency to “cook the books” in an attempt to show a number better than it really is. (If it was, they are doing a really bad job!) It is simply a moving-average projection of the past few years. Like any trend-following system, it will be wrong (sometimes badly) at the inflection points of the change in the trend.

Thus, the Bush administration was right to be upset when the birth/death model significantly understated the growth in jobs during the recovery from the last recession, as Democrats talked about the “jobless recovery.” Subsequent revisions showed that in fact there were a lot of jobs being created.

And now? As the economy rolls through a recession, the system is overstating the number of jobs created. It is just a function of the model. The BLS is very open with the numbers it uses, if you care to dig into them. In October the BLS will announce new benchmarks and apply them in March 2009, although they will only be applied through March 2008. The number of lost jobs through last March will be revised significantly upward, just about the time the recovery is underway. And also in time to help modestly understate the jobs being created in the recovery. As my friend Dennis Gartman likes to say, anybody who trades on the employment numbers deserves the spanking they get.

For the record, “March was revised down by 7,000, and April by 8,000. We’ve now had four consecutive months of downward first revisions, and also four consecutive downward second revisions – unusual strings that support the picture of a weakening employment trend.” (The Liscio Report)

And the birth/death model? This month it added in an estimated 217,000 new jobs. But looking into the details, the model suggested that 42,000 construction jobs were added. The survey showed lost jobs in construction, but the birth/death model added more construction jobs than were lost. Given the current economic climate, that is highly improbable. Ditto for the 77,000 in leisure and hospitality. Do we really think 9,000 jobs were added in financial services or another 9,000 in small manufacturing start-ups?

The reality is that we probably saw a decrease in jobs of at least 100,000. The market was upset with 40,000. What will it do when the monthly number prints 100,000 later this year? And it likely will. The Federal Reserve projects that unemployment will rise to 6%. That means there are a lot more jobs to be lost. And that is if unemployment stops at 6%, which would be a very mild recession indeed.

There are two unemployment surveys. One is for businesses, called the establishment survey, and for whatever reason that is the one most people pay attention to. When they do the household survey, they found that the number of employed people fell by 617,000 last month, spiking the unemployment rate to 5.5%. Some on CNBC said it was just teenage unemployment showing up in the numbers, but that is not true. Teens, according to Phillippa, accounted for just 0.2% of the rise. Adult unemployment rose to 4.8% and accounted for 0.3% of the rise. (By the way, technically, for the three people with no social life actually watching the scorecards, the household survey dropped 250,000 jobs; but after you adjust for factors in the establishment survey and seasonally adjust, you get 617,000.)

One of the best indicators of the direction of employment is temporary employment. If the workload is shrinking, the first thing you do is lay off your temporary help, or simply do not hire them. Normally, unemployment is a lagging indicator, but temporary help is at least a coincident if not a leading indicator. Temporary employment is down 5.7% year over year and is showing continued monthly deterioration with each passing month since last October. That does not bode well either for future employment or consumer spending. We will watch to see when temporary help begins to rebound, to give us a hint that a recovery may be in our future.

What the Tax Numbers Show

Philippa Dunne & Doug Henwood write The Liscio Report. They focus on interpreting the employment numbers and doing in-depth research on tax collections at the state level, plus a lot of interesting “inside” information not typically known by the public. When you see an analyst talking about tax collections at the state level, there is a high likelihood that the source of the number is actually the work of Dunne and Henwood. I find their letter very useful, as I get analysis very quickly after the report comes out, and you always get “the rest of the story” not revealed in the press releases and the media. (www.theliscioreport.com) If I ran a trading desk I would want their reports on my desk.

I called Phillippa about a report they sent out this week. Basically, sales tax and income tax collections at the state level are either down or flat. You can do all the surveys and polls you like, but one of the rules of life is that no one pays a penny more in taxes than they have to. The flip side of that premise is that sales tax collections are a VERY good barometer of economic activity.

Good day… And a Happy Friday to one and all! A Fantastico Friday in my books, as we had a day without rain yesterday, and… Mr. Trichet did jawbone the euro back to life, as I hoped he would do yesterday… After all that craziness from Big Ben this week, things sort-a got back to the awful fundamentals of the U.S….

OK front and center this morning, I’ve got to tell you that European Central Bank (ECB) President Trichet set the record straight yesterday, and reminded the world’s traders that U.S. rates are low… But Eurozone rates could be going higher, and increasing the already wide interest rate differential that exists between the dollar and euro.

Trichet warned that inflation was high, and probably going higher, and then reminded everyone that the ECB’s mandate is to maintain price stability… There’s two ways to go about that… Turn the money supply spigot off, or raise rates… With the economy slowing in the Eurozone, he can keep the money supply spigot trickling as to not completely kill the economy, but raise rates… The ECB might not get around to raising rates in this cycle, but the threat to do so is there, and the markets have to take that seriously…

So… In taking that threat seriously, the markets sold dollars and bought euros for the first time in two days… And the euro’s rise was something to behold… The single unit sat at 1.5385 when Trichet began to talk… And soon afterward, it was well into the 1.55 handle!

It wasn’t all Trichet though… The Fed’s Vice Chairman, Kohn, had some very strong words about the lending landscape… Let’s go to the tape…

Kohn noted that bank loan quality would worsen, bank write downs would increase, and expressed concern that loan losses might spread. Now before I go on, let me say that the “banks” he’s talking about are all those that participated in the mortgage Ollie, Ollie oxen free the past few years… Let me say also that EverBank did NOT, participate in the sub-prime, fancy free mortgage loan business… We stayed the course with our tried and true principals… Yes, we didn’t make as much money as the “other” guys the past couple of years, but then, we don’t have the losses to book now either!

Anyway… Kohn, sounded like he was a Pfennig reader… I just get a kick out of others that finally come around to my way of thinking that we may have averted a major meltdown, but the problems aren’t going away… And… We’ll have another “Bear Stearns” from all of this…

To follow up what Kohn had to say… 1st QTR mortgage delinquencies were reported by the Mortgage Bankers Association, showing a rise to 6.35%, a record high in data back to 1979. These delinquencies threaten the banking system folks… And on top of that the economy as a whole.

So… We saw a huge turn around in the currencies on our Thundering Thursday… If you had sailed around on the ocean and was gone for a week, and just came back, you would think that nothing had happened, except a stronger bias to sell dollars…

OK… Continental announced job cuts of 3,00 yesterday… And… A BIG home builder here in St. Louis, Taylor, Morley Simon closed their doors! It’s a sign of the times… I saw a funny sign yesterday that was titled: A sign of the times… “Beer costs less than gas” Drink Beer, Don’t drive! That’s funny!

Under the heading of: That’s NOT so funny, is the news that the SEC is going to investigate AIG on their accounting of sub prime mortgage contracts… Here’s where my thoughts are headed on all of this… Recall about 7 years ago, when one Corporate Scandal hit the news after another? I have the feeling that we’re heading right back to that awful time… It just all depends on how many rocks the investigators want to turn over…

Another Fed Head, Lacker chimed in yesterday and struck a nerve… Let’s go to the tape here… In a striking insider’s critique, Lacker said lending programs the central bank has created to combat the credit crisis distort private markets, encourage risky behavior and could endanger the Fed’s independence. Federal Reserve Bank of Richmond President Jeffrey Lacker’s remarks show that concerns that outsiders have raised about the Fed’s actions — in particular its rescue of the investment bank Bear Stearns — are shared by some inside the Fed.

Whoa there partner! Those are some harsh words… But… Sounds like Lacker has become a Pfennig reader!

The weaker dollar yesterday sent Oil prices climbing to the tune of $6 on the day! I looked at some stuff last night and saw that our friend, Jim Rogers, was speaking again, and said that the Bull Market in Oil has “years to go”… I agree… The demand has amped! I know that some will point to the U.S. and say that there aren’t lines at gas stations, etc. but… The slack in demand here is being taken up and more so by India and China…

Speaking of China… A former colleague at the old Mark Twain Bank, brought at thought to me attention yesterday and that is… With the election period on its way, the guys with the bats that are always beating on China to allow greater appreciation with their currency, will be tied up, and focusing on getting re-elected rather than beating on China… Therefore, China gets a “get out of jail free card” and therefore, I suspect the appreciation to slow for the rest of this year…

Yesterday, markets were closed in both the US and Britain. Still, here at the Daily Reckoning’s mobile command post, we continued our lonely vigil. What are we waiting for? What are we watching for?

Ah, dear reader…just a little dignity, a little grace, a little courage and beauty. That’s all we ask. Can we find it on Wall Street? In Washington? In politics or economics? We hope so, because that’s all we have to work with here at the Daily Reckoning.

Oil went up yesterday. Asian markets fell – with Japan taking its biggest hit in 6 weeks. And the dollar fell. Speculators are beginning to bet that the Fed will cut rates for an 8th time; that’s the world on the street. As we predicted, the first 7 cuts have done wonders for the prices of oil, gold and commodities…but little for the real economy. Oil has gone up 60% in 6 months…putting big pressure on US household budgets. Now, instead of taking the hint – that it’s time to go in the other direction, by raising rates to head off rising prices – speculators think Ben Bernanke will continue battling deflation with further rate cuts. Maybe, maybe not…but our guess is that it doesn’t matter. Even if the Fed raises rates, it is unlikely to raise them enough to block the consumer price inflation already in the pipeline.

In economic theory, the supply of money is the key to prices. Prices should remain more or less stable when the supply of money increases at the same rate as the supply of goods and services. But in the last 15 years, the US money supply increased about twice as fast as GDP. The surprising thing was that prices didn’t rise. That was the period known as the Great Moderation. Food prices only increased at a 2.5% annual rate…even though money supply, MZM, was going up at nearly 9%.

We have given our opinion as to why consumer prices did not go up. We guessed, too, that those trends that labored so hard to hold them down have now walked off the job. Prices now seem to be adjusting to a higher money supply, with food up 4% last year, officially. Unofficially and anecdotally, consumer prices are rising at about 10% per year.

But while consumer prices were stable during that 15 year period…asset prices frequently went into bubble territory. And now, we await the Final Bubble, dear reader…about which we will have more to say later in the week.

In the meantime, the winner of the Enron Prize, and former head man at the Fed, Alan Greenspan, is in the news this morning. The Financial Times reports that he believes “there still greater than 50% probability of recession.”

Warren Buffett, on the other hand, says recession is already a fact of life. And he says it will be “deeper and longer that people expect.”

The old timer’s definition of a recession was ‘when your neighbor loses his job.’ When you lose your own job, it’s a depression. How many people have lost their jobs in this downturn? Well, for the answer to that question we look to the same people who give us the official inflation numbers – the apparatchiks at the U.S. Labor Department. Therein, of course, hangs a tale…and we will let Dana Samuelson of Danagold tell it:

” The average person judges a recession mainly on employment. If jobs are available, then the economy is holding up. If jobs are scarce, the economy is poor. By that standard, the economy is really struggling, with payrolls down in each of the first four months of the year. But the headline figures, again, don’t reflect the lived reality of Americans. At 5.0% in April, down from 5.1% in March, the current BLS unemployment rate is relatively low by historical standards. Yet the number of jobless Americans of prime working age, that is, men aged 24 to 54, is historically high at 13.1%. Most of these people don’t qualify as unemployed but they are nonetheless out of work.

“Why don’t these would-be workers show up in the headline statistics? Mainly because the government’s definition of the unemployed includes only people who do not have a job, have actively looked for work in the four weeks preceding the survey, and are currently available for work. But it excludes the self-employed, 1099 workers who can’t get enough contracts, those working part-time or on commission only, and the under-employed (like real estate agents waiting tables or mortgage brokers bagging groceries). It also doesn’t count those who’ve given up looking for work altogether—a category known as “discouraged workers,” defined as persons not currently looking for work specifically because they believe there aren’t any jobs available for them. Some analysts say this particular group of jobless Americans—who believe their prospects for finding a job are getting ever dimmer, yet who don’t figure in the computation of the unemployment rate—represent the nation’s dire job situation. According to John Williams’ Shadow Government Statistics , the primary source for unbiased economic data, if adjusted for “discouraged workers,” the actual unemployment figure for April rose to 13.1%, up from 13.0% in March. Now that’s recessionary!”

Real inflation at 10%? Real unemployment at 13%? Maybe. But we have not quite seen the fall off in consumer spending that these numbers suggest…

…stay tuned.

More thoughts…

*** Since we have so little market news to report to you, we will take our quest for truth and beauty to other areas: global warming and the children of Israel for example. Both are touchy issues. In Europe, if you say you are skeptical of global warming, they look at you like a lion at a Christian. In America, you can say almost any nasty thing you want against Arabs…but if you are planning to run for public office, don’t dare to criticize Israel.

We begin by telling a story. A Jewish colleague told us yesterday.

“You really have to be careful to maintain good relations with your neighbors. That’s something my family discovered in WWII. My father was just a little boy in Paris when the war broke out…and then the French surrendered. You know, France was divided in two…there was the zone occupied by the Nazis and there was the unoccupied zone to the South. Since they were Jewish, they figured they’d sneak across the line and once they got to the unoccupied zone, they would just keep a low profile, not mention to anyone that they were Jews, and they would be safe. But my father was only a kid. And when they put him in the local school, in the little town they were staying in, the first thing he did was tell everyone that he was a Jew. So everyone knew why they were there. And then, when the Germans took over all of France anyone in the village could have denounced them and get them sent to a concentration camp. But no one did.”

This recalled another story. A disagreeable French woman, then in her ‘70s, once told us that during the war she had been the directress of a boarding school for little children. It was a catholic boarding school. But it was wartime and a few of the children were Jewish, sent there by their parents in the hopes that they would be safe.

The Bureau of Labor Statistics (BLS) gave us some crazy numbers to chew on last week. For example, it said that gasoline prices decreased 4.6 percent.

It also said that the price for vegetables dropped 4.1 percent. Beef, veal, and coffee also cost less in April, according to the BLS.

It’s impossible to believe its numbers – that overall energy dropped 0.2 percent and food prices remained the same.

We all know that this can’t be true. The funny thing is, even the BLS admits it. There it is, in black and white, in its monthly Producer Price Index (PPI) report: the index for finished consumer foods climbed 5.2 percent … the energy goods index advanced 17.5 percent … and gasoline prices rose 3.2 percent.

The total increase for the core PPI (excluding food and energy) came to 3.0 percent.

But 3.0 percent was not the number you saw in the headlines last week. The number you saw was 0.4 percent. And the market was still taken aback. It was only expecting 0.2 percent – as in the previous month.

What’s going on here is seasonality. The government builds it into its employment and inflation numbers not to confuse us (though that is arguably the result), but to smooth out the numbers.

Let’s revisit gasoline prices. Why did the BLS say it decreased 4.6 percent when it really rose 3.2 percent?

Because last April and the April before that (the BLS actually goes back five years to compare prices), it rose even faster. In other words, this is the season (as we approach the heavy driving months of summer) when gasoline prices rise rapidly – every year.

Annualizing the 3.2 percent rise in April would give us an almost 40 percent rise for the year, but that’s overestimating what happens. Into the summer, prices usually fall back. There are other months earlier and later in the year when prices fall back. So the annual price increase ends up being much less than 40 percent.

Seasonality can lower “adjusted” price increases. But it can also raise them. For example, what happens if the price of gasoline doesn’t fall beginning in June – as it has done in prior years. If the price of gas just stays the same and doesn’t go up at all, the BLS will be reporting a hefty rise on the “adjusted” price of gas in June.

And if the real price of gas goes up? Then the seasonally-adjusted price could very well cause a panic over energy prices which will make last week’s outcry seem like a whimper.

And what goes for the PPI index also goes for the CPI index. The CPI index beat expectations for the month of April, but only because of adjustments made to the numbers based on seasonality. May’s numbers should also be held down by seasonality. But when June’s numbers are reported (that would occur in July), then all hell could break loose.

Seasonality also was a huge factor in making April’s unemployment numbers look good because a lot of new jobs are usually created in the spring. So the Labor Department added tens of thousands of “new” jobs into its final job count.

One of the sectors where it had new jobs expanding? The financial sector. With all the layoffs by the big banks, do you really think this is a sector seeing strong new job growth?

Without the Labor Department adding these presumed new jobs into its bottom line, instead of reporting “only” 20,000 jobs lost for April, the figure would have been well above 100,000, and you wouldn’t be hearing the pundits remark on how well the job market has been holding up.

The truth is, employment isn’t holding up well. And prices aren’t being held down too well. Mark my words. These employment figures will also be revised upwards. It seems the Labor Department conveniently forgot that we’re on the verge of a recession (actually, I believe we’re already in one).

What seasonality giveth, it will taketh away … come June. These very important inflation and job numbers will not merely slip. They could very well drop drastically. Wall Street won’t like that. If crude prices remain well above $100 by then (as I think they will), it will be damning evidence that the Fed couldn’t, after all, finesse its way out of the twin threats of no growth and rising inflation.

This is my contrarian take. While most economists and brokerages have been predicting a 2nd-half comeback for the economy, I believe it’s going to begin a major leg down. Depression/recession, crisis, runaway inflation, a new bear market, and Fed impotence will be Wall Street’s new battle cries. It won’t be pretty.

Good Trading,

Andrew Gordon

P.S. To let me know what you thought of today’s article, send an e-mail to: feedback@investorsdailyedge.com.

Source: It Is the Season of the Bear

Good day… And a Marvelous Monday to you! Man… Talk about hitting the wall! I got home on Friday afternoon, sat down in my recliner, and fell asleep for hours! The last few days on my four weeks of cancer meds, this last week has been awful for me… But… I carried on, and I doubt anyone at the Money Show noticed me being uncomfortable and in pain.

The Las Vegas Money Show was quite good I believe, one of the better ones with regards to people having interest in what we do. It’s still nice to receive the “good to see you” and well wishes from readers that stop by the booth.

OK… Well… Friday saw some chinks in the dollar’s armor, and the euro (EUR) was marked up as the day went on. The U. of Michigan consumer sentiment index dropped to 59.5 in early May, its lowest level since 1980, from 62.6 in April. The decline was below the experts’ expectations calling for a dip to 62.0.

There was also news that U.S. housing starts posted an unexpected increase… But, really folks, is that a good thing? Empty homes a.k.a “inventory” is the major problem in this housing glut, so should we really get excited about “more homes” being built? I don’t think so… And apparently neither did the currency players, as this news was largely ignored.

In the overnight market, the Asians have really taken the dollar to the woodshed, pushing the euro to 1.56. Wasn’t it just last Monday that the euro dropped to 1.5365? This overnight move is being pushed by the thought that home sales, the more important part of the housing data, will show another decline, thus dropping for the second consecutive month.

Then there was a subtle little statement by the U.S. Treasury Undersecretary that I believe helped usher the dollar on its way to the woodshed. U.S. Treasury Undersecretary, David McCormick urged China to quicken their currency reforms. Now, I know, you’re saying what’s new about that, Chuck? Ahhh grasshopper… The dollar had rallied lately and the calls for Chinese currency reforms were nowhere to be seen. This statement reminded the markets that in the end… The U.S. Government wants a weak dollar… And if that’s what they want, currency traders and participants are happy to oblige them!

I don’t know at this point if this is a true reversal of the dollar rally or a false dawn… But either way… Just to see some chinks in the dollar right about this time is probably a good thing to currency holders!

The key focus for the United States this week will likely be the release of April’s FOMC minutes on Wednesday, which should provide some indication as to who is winning at Battleship. No wait, we’re looking for indication on who is winning the battle for rate hikes or rate cuts. The rate hike hawks have dominated of late on speculation that the Fed has ended its easing cycle, and the next U.S. rate move will be a hike later this year.

Of course you know me… I’m still keeping the light on for another rate cut by the Fed this year, which should really throw a spanner in the rate hawks’ works.

And getting back to last month’s -20K job loss posting… I’ve already highlighted the BLS ghost jobs that totaled 260K… But now this… The sum of state payrolls just came out for April showing -151K jobs, versus the actual preliminary release earlier this month of -20K. This hints at a potentially large downward revision to April payrolls when the May data is released.

I’m currently reading a new book called, Greenspan’s Bubbles: The Age of Ignorance at the Federal Reserve written by William Fleckenstein. You know that name as the guy who writes financial columns on MSNBC. I met Bill Fleckenstein a few years ago… He told me I was bang on with my banging on the Fed. Well, his new book is awesome at pointing to the mistakes that Big Al Greenspan and the Fed Heads made over and over again… More on this in the future…

Today, we’ll see the color of the latest printing of leading indicators here in the United States. I suspect they will show no gains, thus leaving the people like me that believe the recession is already in place, with reinforced thoughts.

We won’t see the above-mentioned existing home sales report until Friday… So, we’ll probably drift around all week… But at least we’re drifting in the right direction!

I was writing our monthly newsletter to clients, The Review & Focus, last night (yes, on a Sunday night!) and highlighted the Aussie dollar (AUD)… Through all the dollar strength the past couple of weeks, there were a couple of currencies that remained resilient… Aussie dollars, Brazilian reals (BRL), and Canadian loonies (CAD)… That’s no coincidence either! As I kept telling people last week… Look at positive balance of payments currencies and currencies from countries that provide the world with something they need! Voila! Aussie, Brazil and Canada!

The Aussie dollar has pushed the door of 95-cents wide-open overnight, and Canadian loonies have passed the parity level to the green/peachback. Aussie is looking quite perky, which is good for my thought that Aussie too would reach parity to the green/peachback.

Aussie dollars have a central bank that will either keep rates unchanged or move them higher, while the loonie has to fight with a central bank that wants to keep in step with the Fed’s rate cuts… So… Look for Aussie to outperform loonies, kiwi (NZD), and reals going forward based on this rate outlook.

Now that was some great news that Chris brought to you regarding Iceland on Friday, eh? The poor krona (ISK) was in need of some good news, and when the Nordic Banks pledged to provide liquidity to the Icelandic Central Bank, it was just what the doctor ordered! But… Please do not take this as an endorsement to buy Iceland again. Instead, I believe that this news gives us better levels to sell when our CDs come due.

Someone asked me at the Money Show last week, what I would buy with the Icelandic krona proceeds… Well… I would either cross to Norway (NOK) or Aussie… There are two great economic stories right there, with little chance of going the way of Iceland.

And how about bold? The shiny metal enjoyed its best week in about two months it seems, and has come back to the $900 level and beyond. I have to admit that the $900 handle looks much better hanging on gold than the lower number it wore for too long!

Retail Sales Take a Dive

Many commentators, looking for a bullish lifeline, have pointed to the fact that retail sales grew in April by 1.8% over this time last year. But that is truly grasping at straws. Just last November they were growing at 6% year over year and have been dropping relentlessly for the last six months. And as good friend and data maven Greg Weldon points out, retail sales last November were 1.3% over inflation and now are a negative 2.1% below inflation. Retail sales are clearly headed down. (www.weldononline.com, a must-read for those who need in-depth analysis of all things and data economic)

But there was growth. Gasoline sales were up 16.3%. And food sales were up 6.1%. 77% of the increase in retail sales this year has been from increases in food and gas sales. If you take out food and gas, retail sales are down by about 2% in the last three months.

The consumer is getting squeezed. Reuters did a rather anecdotal, but revealing survey of Wal-Mart buyers at the beginning of the month. They found a significant increase in store traffic from the end of the month to the first of the month. Surveys showed that shoppers were stretched on their budgets due to rising gas and food costs and simply had to wait until their monthly checks came to go to the store for food. Many indicated they had changed their buying habits, now shopping at lower-cost stores like Wal-Mart.

At the Mauldin household I must admit to a kind of food shock upon my return. I eat a lot of smoked turkey from a local grocery deli. Arriving back from South Africa last night, I sent my oldest son to the store to put in a supply for the next few days. My “regular” turkey that was about $5.99 a pound a few months ago is now selling for $8.99. That is considerably higher than the 5.9% food-at-home inflation rate that the folks who give us the CPI tell us is the case. Next time I will find a less expensive brand, as the Reuters survey suggest shoppers all across the country are doing.

(I do recognize the inconsistency of saving a few dollars at home while I eat out at nice restaurants where the price increases are even greater. It is all about what is in your head. There are books and massive studies devoted to such behavior.)

“Leslie Dach, executive vice president of corporate affairs and government relations at Wal-Mart, said the cycle of shoppers running out of money in between paychecks and then flocking to its stores on payday is ‘more pronounced, more visible.’

While many U.S. retailers are facing waning sales as shoppers cut back on purchases of clothes, jewelry or home furnishings, Wal-Mart’s vast grocery business and its emphasis on low prices is spurring a resurgence at its U.S. stores and in its stock price.” (Reuters)

But prices are actually up at Wal-Mart. And not just from food. Looking at the latest Commerce Department data, we find that US import prices are up 15% year over year. Even taking out gasoline, prices are up 6.2%. And it is somewhat surprising that it is only 6.2%. Why?

Because the dollar has fallen by more than 6%. The Chinese ambassador to the US, Mr. Zhou Wenzhong, recently pointed out that the Chinese renminbi has appreciated almost 19% since July of 2005. I have been writing for years that the Chinese would allow their currency to appreciate slowly and steadily for their own purposes and on their own schedule. They need to do so in order to contain their own rising inflation. Look for it to rise another 10% by the middle of next year.

Consider that because of the rise of the renminbi, the prices for oil and food imports in China have risen 20% less than for US consumers. And the prices they charge us for their goods are only about 4% higher. But that meager growth is up from only 1% last fall. Those (notably economics-challenged Senators Schumer and Graham) who have been pressing for China to allow its currency to rise are going to find that such a rise ultimately means higher prices for US consumers. Be careful what you wish for, Senators. You just might get it.

Lower consumer spending is not just due to gas and food. There is also a psychological component. Frederic Mishkin, one of Ben Bernanke’s colleagues at the Fed, has done research that suggests the “typical American family will cut its spending by up to 7 cents for every dollar in housing wealth it loses. Given a 20% fall in prices, this adds up to a nationwide reduction in consumer spending of about $350 billion a year, or 2.5% of the U.S.’s gross domestic product. That’s a big number – more than enough to tip the economy into recession.” (Conde Nast)

And that’s if the fall in prices is only 20%. I continue to put forth the proposition that we are going to see a slow Muddle Through Recovery, as the boost we got from Mortgage Equity Withdrawals during the last recession will not be available this time.

Accounting for Inflation

If beauty is in the eye of the beholder, inflation is in the eye of the statistician. Because the number you end up with is dependent on the models and assumptions you choose. As the chart below shows, there have been two major revisions to how inflation is figured, one in 1983 and another in 1998. (Thanks to Barry Ritholtz at The Big Picture for this source.)

Note that using the same methodology as was used in 1983, inflation would be around 11.6% today. Before 1983, the BLS used actual home prices to account for inflation. After that time, they used something called Owners Equivalent Rent or OER. This is the theoretical price a home would rent for. There are sound reasons to use OER and equally good reasons to use actual home prices (as is done in Europe). But both methods have flaws. You just have to pick a methodology and stick with it.

And there are reasons to think that OER may not rise as it would normally do in this part of the cycle, because so many homes which cannot sell are being rented out, and rent prices might not rise as much as in past cycles.

The Jobs Jamboree… Can you believe that so much attention and drive to the markets is tied to this?

The dollar is a bit softer this morning going into the Jobs Jamboree, and rightly so, given the forecast. However, the dollar is still swinging a mighty hammer and I’m a bit perplexed by this. Last night I was up late (for me) and decided to put down some thoughts that were bouncing around in my head.

Well… How about that U.S. dollar? That’s some currency, Rudy! Why, look at it rallying against the euro (EUR) and other currencies as if it’s on a mission from God! It looks as if the United States has turned things around. The deficit no longer needs to be financed with over $2 billion a day in foreign investment… Interest rates are where they need to be to fight this soaring inflation… The government has stopped spending wildly, and the budget is balanced… The mortgage lenders have recovered all of their losses… There is no longer a credit crunch… And finally, the war is the Middle East is over.

But Wait! Unless I pulled a Rip Van Winkle and slept through all of that… These things haven’t happened, nor do they look as though they might begin to happen any time soon! So, what the heck has the dollar bulls dancing in the streets swinging a mighty hammer?

You’ve got me on this one. Folks, for once, I’ll admit that I have no idea what the heck is going on here… Serenity Now! Is this the pullback in the euro that I said we should look for in January, but never saw? If so… When will the tourniquet be applied to this gushing wound? Hmmmm… Good question! And I don’t have an answer to that either! I thought back in January when the euro was around 1.45, that we could see it fall back to 1.40, before moving ahead again… But that never happened. Instead we saw the euro climb to 1.50, then 1.55, then 1.60 in a little over three months time. Was it too quick? Is that what we’re seeing, merely a technical correction? Or is there something else in the works here?

Again… I don’t know the answer… But I’m hoping that in the days to come, it becomes apparent, and when it does, I’ll be Johnny on the Spot in reporting it to you! (Notice I said, “I’ll be Johnny on the Spot”, and not I’ll be “A” Johnny on the Spot! HAAHAHAHAHA)

This dollar rally has got the “naysayers” coming out of the woodwork too. Oh, the whole lot of them are pointing fingers and claiming they knew the dollar was undervalued, and blah, blah, blah… Where were these guys when the euro hit 1.60 about 10 days ago? They were hiding under the sheets!

Forgive me for this but this reminds me of when I coached my darling daughter Dawn’s girls softball team. The girls would do these chants on the bench that drove me nuts! But there was one that would just make me want to scream! We would be getting beat unmercifully, and the girls would be chanting something that ended with, “We can beat your team any old time.” UGH! But that’s what the naysayers are reminding me of right now. They are chanting about the dollar, when it has gotten beaten unmercifully for six years.

OK… Onto other things… The U.S. ISM Manufacturing Index remained well below the 50 level for the third consecutive month. I saw a news story yesterday where the writer was seriously talking about how Manufacturing will pick up due to the stimulus checks, as the receivers of those checks go out and spend them. Folks… The writer was serious…

I’ve told you over and over again that these stimulus checks might get spent by some… But I don’t see the checks getting spent by most. Instead, I see them using the money to pay down a credit card, or some form of debt, as the past couple of months has been quite sobering to the U.S. consumer.

Hey! You’ve got to feel good this Fantastico Friday, as U.S. Treasury Secretary Paulson is telling anyone that will listen, that we are “closer to the end” of the credit crisis. Oh, now that gives me a warm and fuzzy, given his track record of spouting off stuff like that in the last year!

I’ll bet him a shiny quarter that we’re only halfway through the credit crisis! The Bank of England (BOE) said yesterday that they feel as though the “worst is over” . Hmmm… Maybe these guys know something I don’t!

Down Under in Australia, retail sales surprised on the upside, printing at +0.5% versus the +0.3% that was forecast. Retail sales account for 40% of private consumption, which in turn accounts for around 60% of GDP… So this is important data for the Reserve Bank of Australia (RBA). The RBA will not need any excuses to keep rates at current levels given the strength of this data… And that thought should be a good underpinning for the Aussie dollar (AUD).

The U.S. stock market has been on a feeding frenzy since the rate cut on Wednesday. All this euphoria in stocks has the carry trade going great guns once again… This is being reflected in the price of yen (JPY) and Swiss francs (CHF)… I just don’t see how this can continue to go on and on and on. The carry trade has longer lasting power than the Energizer Bunny! But one day, it will all come crashing down like a house of cards… At least that’s my opinion.

There was another story yesterday about the Gulf States ending their dollar peg. This is getting out of control! About every three months these guys get together and make big plans to drop their dollar peg, and the media goes hog wild over the story. Shoot Rudy, I used to get all caught up in it too until I realized they were just being the boy who cried wolf.

U.S. consumer prices rose 4% year over year, pushing the high end of a 15-year range. And you can bet the reality is worse than what the government data will confess.

The U.K. also reported a 6.2% year-over-year gain in its headline PPI. I mention it because the pound has been stronger than the greenback in recent years — but the inflation story is not just about the dollar. The buildup of inflation pressures overseas will soon be evident — when the foreign currency bubble pops.

You’re seeing a price revolution unfold before your very eyes. Media reports of truckers and consumers angry over escalating fuel prices are becoming more frequent and intense, as are the reports of riots over soaring food prices in some corners of the world. Cost inflation continues to ravage mining project economics, hampering the industry’s ability to increase production in response to higher prices.

The ultimate cause of both price inflation and the business (boom-bust) cycle lies in the constant manipulation of money supply and interest rate levels by central banks and their governments.

The economic data, meanwhile, continue to point to recession.

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Instead of letting the market correct the dislocation — heaven forbid — central bankers, under pressure from the electorate, are but fanning the flames with price pressures already at two-decade highs.

Working off the same defunct Phillips Curve dynamic (the consumptionist theory of a trade-off between inflation and unemployment) that formed the monetary policy playbook of the ‘70s, the Federal Reserve is hoping a weak economy will weigh down prices. Yet even using this theory, one can see that if the Fed is successful at averting recession, what will keep prices down?

There is no end in sight for this vicious cycle but hyperinflation if the policy continues.

But more relevant to the present, the idea that slower economic growth might relieve price pressures that are concomitantly fueled by monetary policy is limited by global factors that many have alluded to over the past year or two — a worldwide slowdown in the growth of the real pool of savings, a switch from mercantilism to consumption policies in developing countries and slower productivity growth.

As one economist recently put it (emphasize mine):

“Past bouts of expansion have created bubbles in the financial sector, plus other sectors such as housing and state-dominated sectors like medicine and education. But a high dollar internationally, the growth of the international division of labor as well as technological advance kept the prices of consumer goods down, even falling. All these effects have been absorbed already, and the falling dollar relative to other international currencies has meant a higher price on imports. Lower productivity contributes, as well, as does the general recessionary environment. So the downward price pressure on consumer goods is at an end.”  

So a contraction in production just makes the situation worse.

Tell it to the Fed. Or just buy gold.

Your golden bull,
Ed Bugos

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