Wednesday, June 23, 2010

Soft Patch or Double-Dip?

The latest batch of lousy economic data took a sharp turn for the worse this morning with an awful report on new home sales for the month of May. New home sales plunged a record 33 percent to a record four-decade low. In addition, the April sales number was revised lower while inventories jumped from 5.8 months in April to 8.5. This ain’t good.

Making matters worse, existing home sales surprised on the downside yesterday with a 2 percent decline. Before that, we had big drops in housing starts and retail sales, and an upward tilt to weekly jobless claims. So it’s really no surprise that there’s a growing debate over whether we’re muddling through a soft patch, or whether a double-dip recession lies ahead.

Housing does look particularly vulnerable to a double-dip. All of these temporary, goofy, big-government tax credits, mortgage modifications, and other forms of temporary stimulus merely steal economic activity from the future. They are shortsighted thieves. As the late Milton Friedman successfully argued in his permanent-income theory decades ago, these measures simply do not work. Friedman’s work, of course, won him a Nobel Prize in economics.

The only bright spot out there? A V-shaped recovery in manufacturing.

It’s been about six weeks since I first recommended that investors take some stock market profits off the table, before the IRS does it for them next year. Since then, the market has roiled around a 10 percent correction. I’m still sticking to my call. The Tax Man is coming. Take profits on up days.

The Fed will announce its interest-rate policy decision later this afternoon. Here’s one conundrum: I believe market prices are smarter than Fed computer models. The very strong King Dollar is suggesting a deflationary trend in the economy which would call for a Fed easing. And yet, the soaring gold price is suggesting an inflationary trend calling for a Fed rate hike. So what will the Fed do? In the short run, until it levels out, the deflationary rising dollar is a bigger influence on the economy. Longer run, gold is screaming for a normalized Fed policy.

One particularly interesting story I’ll be paying attention to is that of hawkish Kansas City Fed chief Thomas Hoenig. Will Hoenig abandon his tightening stance in light of all this lousy economic data? Now that would be a big deal.

As for me, I remain in the slow-growth camp. No double-dip, just slow, muddied growth. I also think an overly strong dollar — neglected by many on Wall Street — is interrupting the rate of recovery.