Comstock Partners, Inc.September 30, 2009
U.S. Economy Analogous to Relay Race
With the latest 60% gain in stocks since the March low there has been an almost universal feeling that, "the worst is over for stocks and the economy, and now there is clear sailing ahead". We, however, are looking at the dilemma of the U.S. economy as a relay race where the baton has to be passed on to the anchor team member who is very fast but has a problem receiving the baton.
We have to admit it does look like the "all clear" has sounded with the U.S. GDP about to be reported at somewhere in the range of 3% to 5% real gain in the third quarter. This gain followed a less than 1% decline in the second quarter and around 6% declines in the fourth quarter of 2008 and the first quarter of 2009. The stock market rally seems to be confirming the economic recovery, but we have a different slant on all of this bullishness. We look at the recovery process a little like a 400 meter relay race with the first three legs of the race almost over-- but we see problems with the last (or anchor) leg.
The first three legs of the race are analogous to the main reasons the economy is showing strength and has put us in first place going into the last leg to hand the baton off to the very fast anchor relay team member. The first three legs we look at as the three forces driving the economy higher. Number one (coinciding with the first leg of the race) is the inventory restocking from a very depressed level during the recession. Number two (leg two) is the "cash for clunkers" program which is part of the economic stimulus package. Number three (leg three) is the rest of the stimulus package. The next couple of things we have to see in order for the economy to continue into a sustained recovery would be increases in fixed investment by corporations and real consumption (unrelated to gimmicks). We are now hoping to see the last leg of the relay race, the anchor leg, continuing to take us to the finish line as the "V" shaped economic recovery continues. The problem is that the last leg is dependent upon the U.S. consumer because business fixed investment won't occur unless consumer spending is revived.
In the past, consumers supported us by coming back from economic downturns with a more voracious appetite for goods and services than they had before the downturn. And we looked at this in the past as the equivalent of the anchor leg having tremendous speed. The question is, can they be as responsive this time around? In the past, they would brush off the downturn by continuing the borrowing and spending that not only drove the U.S. economy but also the global economy (by buying imported goods and services). This time we have major doubts as to the anchor's ability to finish the race.
This time there is a major employment problem that leads not only to job loss but also wage contraction. We also have a continuing problem of restriction of credit to business for expansion and consumers for consumption. This, in conjunction with about 35% excess capacity, is not conducive to corporations expanding their facilities or hiring new employees. These conditions, along with a housing market almost entirely supported by government mortgage guarantees, make the last leg of the relay race much more of a problem than in past expansions. Also, the losses of net worth experienced in the earlier implosion of stocks and real estate have not come close to being restored by the latest stock market rally or a lessening real estate contraction.
The facts discussed above make the last leg of the relay race much more of a problem than it was in the past. In fact, that anchor leg in the past has always been able to extend the lead of the first three legs of the relay race, but this time we believe the anchor leg will have a very difficult time in receiving the baton. We see the hand-off as being the major problem as the consumer has become afflicted with the dreaded "shaky hand syndrome" in receiving the baton. Therefore, the anchor leg of "sustained economic growth" (consumer spending and business expansion), rather than the temporary expansions of the first three legs, constitutes the major problem. And, this gets down to what we would call the problem of "fumble-itis."