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No. 291: March CPI, Retail Sales, Trade

April 14th, 2010

JOHN WILLIAMS SHADOW GOVERNMENT STATISTICS COMMENTARY NUMBER 291 March CPI, Retail Sales, Trade April 14, 2010 __________ Annual Inflation: 2.3% (CPI-U), 9.5% (SGS) "Strong" Retail Sales Should Prove Fleeting Trade Deficit Widened Recession Is Not Over __________ PLEASE NOTE: The next regular Commentary is scheduled for Friday, April 16th, with analyses of the March Industrial Production and Residential Construction data. Best wishes to all, John Williams

No Official Call Yet on Recessions End. Of some interest, the National Bureau of Economic Research (NBER) official arbiter of U.S. recessions did not call an end to the recession it had been timing from the NBER-determined December 2007 onset. To its credit, despite all the market and political hoopla, the Dating Committee met on April 8th and concluded that determining the latest recessions "trough date on the basis of current data would be premature." Assuming that position holds and that the economic downturn intensifies, as currently signaled by the deepening downturn in real (inflation-adjusted) annual change in broad money supply, the current recession simply may gain popular recognition as the longest and deepest post-Great Depression downturn, as opposed to a double-dip recession.

Todays numbers suggested contained inflation and good growth in retail sales, but such happy reporting will prove fleeting. On the side of business activity, consumers lack the income and credit growth needed to support expanding consumption (see Commentary No. 290). Such is a basic, and beyond short-lived weather, stimulus and seasonal factor distortions, personal consumption and retail sales face plunging activity in the months ahead. On the inflation front, the effects of higher oil prices again are pushing through the system, with U.S.-dollar-denominated oil still feeling some upside pressure from sporadic weakness in the U.S. currency and from ongoing global political tensions. Key to explosive inflation growth ahead remains a savage sell-off in the U.S. dollar and dollar-denominated paper assets and/or heavy monetization of U.S. Treasury debt by the Federal Reserve. Both factors are likely to come into play in the next year, as an intensified economic downturn ironically signaled by declining annual real growth in the broad money supply blows apart projections for the federal budget deficit and related U.S. Treasury funding needs. This area will be reviewed in more detail a Commentary next week. Headline CPI Contained by Seasonal Adjustments. The Bureau of Labor Statistics (BLS) blamed the uptick reported in March CPI-U inflation on fruits and vegetables, having turned its estimate of a 4.5% (Department of Energy reported 4.6%) monthly increase in gasoline prices into a 0.8% contraction with seasonal adjustments. Such adjustment patterns tend to reverse in the second half of the year. Until the last year or so, CPI traditionally was reported by the BLS primarily on an unadjusted basis, where the March 2009 CPI was up 0.4% instead of the headline 0.1%. The headline number dominates the media and Wall Street, however, and few pay attention to the patterns of the surveyed price changes, except for those unfortunate enough to have to pay out of pocket to fill up a gas tank. Notes on Different Measures of the Consumer Price Index. The Consumer Price Index (CPI) is the broadest inflation measure published by U.S. Government, through the Bureau of Labor Statistics (BLS), Department of Labor: The CPI-U (Consumer Price Index for All Urban Consumers) is the monthly headline inflation number (seasonally adjusted) and is the broadest in its coverage, representing the buying patterns of all urban consumers. Its standard measure is not seasonally adjusted, and it never is revised on that basis except for outright errors, The CPI-W (CPI for Urban Wage Earners and Clerical Workers) covers the more-narrow universe of urban wage earners and clerical workers and is used in determining cost of living adjustments in government programs such as Social Security. Otherwise its background is the same as the CPI-U. The C-CPI-U (Chain-Weighted CPI-U) is an experimental measure, where the weighting of components is fully substitution based. It generally shows lower annual inflation rate than the CPI-U and CPI-W. The latter two measures once had fixed weightings -- so as to measure the cost of living of maintaining a constant standard of living -- but now are quasi-substitution-

based. The SGS Alternative CPI-U measures are attempts at adjusting reported CPI-U inflation for the impact of methodological change of recent decades designed to move the concept of the CPI away from being a measure of the cost of living needed to maintain a constant standard of living. CPI-U. The BLS reported this morning (April 14th) that the seasonally-adjusted March CPI-U rose by 0.06% (up by 0.41% unadjusted) +/- 0.12% (95% confidence interval not seasonally adjusted) for the month, after being unchanged (up by 0.02% unadjusted) in February. Seasonally-adjusted, the CPI-U annualized rate of inflation for the three months ended March 2010 (March versus December) was 0.93%, against Januarys 1.36%. The annualized quarter-to-quarter change for the average first-quarter 2010 CPI-U versus fourth-quarter 2009 was 1.53%, against 2.62% quarterly change in the fourth-quarter. Unadjusted, Marchs year-to-year inflation was 2.31% +/- 0.20% (95% confidence interval) against a 2.14% annual increase in February. Year-to-year inflation would increase or decrease in next months April 2010 reporting, dependent on the seasonally-adjusted monthly change, versus the 0.09% adjusted monthly gain seen in April 2009. I use the adjusted change here, since that is how consensus expectations are expressed. To approximate the annual inflation rate for April 2010, the difference in Aprils headline monthly change versus the year-ago monthly change should be added to or subtracted directly from March 2010s annual inflation rate of 2.31%. For those interested in exploring the various facets of official CPI-U reporting, I continue to refer you to CPIwatch.com, a site prepared by one of my SGS colleagues. CPI-W. The narrower, seasonally-adjusted March CPI-W also rose by 0.06% (up 0.46% unadjusted) for the month, following an unchanged (down by 0.01% unadjusted) reading in February. Seasonally-adjusted, the annualized rate of CPI-W inflation for the three months ended March (March versus December) was 1.62%, versus 2.33% in February. The annualized quarterto-quarter change for the average first-quarter 2010 CPI-W versus fourth-quarter 2009 was 2.42%, against 3.25% quarterly change in the fourth-quarter. Year-to-year CPI-W inflation rose by 3.04% in March, following a 2.82% February increase. C-CPI-U. The Chain-Weighted CPI-U the fully substitution-based series that gets touted by CPI opponents and inflation apologists as the replacement for the CPI-U is reported only on an unadjusted basis. Year-to-year or annual inflation was 2.45% in March 2010, versus 2.23% in February. Where C-CPI-U inflation continues being reported somewhat higher than CPI-U inflation, and where the C-CPI-U in theory should be showing lower inflation, the inconsistencies suggest some ongoing reporting difficulties with the CPI series. Alternative Consumer Inflation Measures. Adjusted to pre-Clinton (1990) methodology, annual

CPI rose to roughly 5.6% growth in March 2010 from 5.5% growth in February, while the SGSAlternate Consumer Inflation Measure, which reverses gimmicked changes to official CPI reporting methodologies back to 1980, rose to about 9.5% (9.47% for those using the extra digit) in March, versus 9.4% in February. The SGS-Alternate Consumer Inflation Measure adjusts on an additive basis for the cumulative impact on the annual inflation rate of various methodological changes made by the BLS. Over the decades, the BLS has altered the meaning of the CPI from being a measure of the cost of living needed to maintain a constant standard of living, to something that no longer reflects the constant-standard-of-living concept. Roughly five percentage points of the additive SGS adjustment reflect the BLSs formal estimate of the impact of methodological changes; roughly two percentage points reflect changes by the BLS, where SGS has estimated the impact not otherwise published by the BLS. Gold and Silver Highs Adjusted for CPI-U/SGS Inflation. In the current cycle, gold and silver prices have yet to approach their historic high prices, adjusted for inflation. Even with the recent December 2, 2009 historic high gold price of $1,212.50 per troy ounce, the prior all-time high of $850.00 (London afternoon fix, per Kitco.com) of January 21, 1980 was not breached in terms of inflation-adjusted dollars. Based on inflation through March 2010, the 1980 gold price peak would be $2,377 per troy ounce, based on not-seasonally-adjusted-CPI-U-adjusted dollars, and would be $7,559 per troy ounce in terms of SGS-Alternate-CPI-adjusted dollars. In like manner, the all-time high price for silver in January 1980 of $49.45 per troy ounce (London afternoon fix, per silverinstitute.org) has not been hit since, including in terms of inflation-adjusted dollars. Based on inflation through March 2010, the 1980 silver price peak would be $138 per troy ounce, based on not-seasonally-adjusted-CPI-U-adjusted dollars, and would be $440 per troy ounce in terms of SGS-Alternate-CPI-adjusted dollars. As shown on page 22 in the Hyperinflation Special Report, over the decades, the price of gold has more than compensated for the loss of the purchasing power of the U.S. dollar as reflected by CPI-U inflation, while it has effectively fully compensated for the loss of purchasing power of the U.S. dollar based on the SGS-Alternate CPI. Real Money Supply M3. The signal of pending intensification of the economic downturn, based on the annual contraction in the inflation-adjusted broad money supply (M3), was discussed in the prior Commentary No. 290. The annual real contraction in March M3 (SGS-Ongoing) estimated for that Commentary was 5.8%. Based on todays CPI-U report, that annual contraction was 6.0%. March Retail Sales Put in a Strong Showing, on the Surface. Reported strong automobile sales and upside revisions to earlier auto sales reporting helped to spike reported March retail sales and to produce upside revisions to February and March data. Year-ago March 2009, however, was the trough of the seasonally-adjusted reporting, and there well may be ongoing seasonal factor distortions at play here. With the monthly re-jiggering that goes on with these numbers, it is interesting to note that the retail sales level for March 2009 was revised lower. It may take the looming benchmark revision to recast these data more accurately. Also, it is worth

noting that the Census Bureau relies on its own independent sampling survey of auto sales, not on industry reporting, which is complete, not sampled. To the extent that the March data reflected any pick-up following bad weather in February, such was a one-time shot. The problem remains that underlying consumer income and credit conditions cannot sustain growth in retail sales, as discussed in the opening comments. Separately, the retail sales data will be going through a major benchmark revision on April 30th, which may show a much weaker historical series than is in place now. Nonetheless, this mornings report (April 14th) was a positive one on the surface and likely will help keep reported first-quarter real GDP growth in positive territory. Reported Nominal Retail Sales. Todays (April 16th) retail sales report for March 2010 issued by the Census Bureau indicated a statistically-significant, seasonally-adjusted monthly gain of 1.60% (up 2.15% net of revisions) +/- 0.6% (95% confidence interval). Such followed a revised 0.52% (previously 0.34%) monthly gain in February. On a year-to-year basis, the March 2010 retail sales were reported up by 7.62% from March 2009, versus an upwardly revised 4.37% (was 3.85%) annual gain in February, with the March exacerbated by the severe trough seen a year ago. Real Retail Sales. Based on March 2010 CPI-U reporting, inflation- and seasonally-adjusted monthly March retail sales rose by 1.5%, where before inflation adjustment the current number was up by 1.6%, versus a 0.5% monthly real retail sales gain in February, the same as before inflation adjustment. March real retail sales rose by 5.1% year-to-year, versus a 7.6% gain before inflation adjustment. Real February sales were up 2.1% year-to-year, versus a 4.4% gain before inflation adjustment. For the last 16 months, monthly real retail sales (CPI-U deflated) have been fluctuating around an average of $161.2 billion (the deflated March number was $166.8). Smoothed for monthly volatility on a six-month moving-average basis, as shown in the accompanying graph, the pattern of activity here has shifted to bottom-bouncing in terms of the level of inflation-adjusted sales. The recent bounce from short-lived factors and warped-seasonals appears likely to turn much lower in the months ahead. There has been no fundamental turnaround in economic activity no recovery just general bottom-bouncing, as should be confirmed anew in subsequent reporting

Core Retail Sales. The "core retail sales" methodology was revamped recently, where the net relative monthly increases and/or decreases in gasoline station and grocery store sales were subtracted from the full monthly retail sales number, instead of the total of gasoline station and grocery store revenues each month. Assuming that the bulk of non-seasonal variability in food and gasoline sales is in pricing, instead of demand, the revamped reported "core" change more closely reflects the actual retail sales experience. This remains a work in progress and eventually will be used in the development of additional SGS alternative economic measures. For the near-term, the "core" retail sales is reported in two versions, where Version I uses the original methodology, and Version II version appears to provide a more balanced picture of the impact food and energy inflation in the standard retail sales reporting. Consistent with the Federal Reserves predilection for ignoring food and energy prices when "core" inflation is lower than full inflation, "core" retail sales: Version I March retail sales net of total grocery store and gasoline station revenues rose by 2.1% versus the official aggregate gain of 1.6%. Version II March retail sales net of the monthly change in revenues for grocery stores and gasoline stations rose by 1.6% versus the official aggregate gain of 1.6%. Wider February Trade Deficit Suggests 1st-Quarter 2010 Deterioration versus 4th-Quarter 2009, Net of Inflation. For February 2010, the Bureau of Economic Analysis (BEA) and the Census Bureau reported the nominal (not-adjusted-for-inflation) seasonally-adjusted monthly

trade deficit at $39.7 billion, up from a revised $37.0 (previously $37.3) billion deficit in January, and up sharply from the $26.5 billion monthly deficit in February 2009. Against January 2010, the February trade balance reflected both higher imports and exports, with a sharper increase in imports, due partially to higher physical volume (not higher prices) in oil imports. Against February 2009, the sharp annual deterioration reflected largely an 86% annual increase in oil prices. Adjusted for seasonal factors and inflation (2005 chain-weighted dollars as used in reporting real GDP), the January and February 2010 respective merchandise trade deficits were $40.9 and $42.5 billion, which annualize to a real (inflation-adjusted) annual deficit of $500.3 billion. With $500.3 billion of annualized deficit in place so far for first-quarter 2010 (there will be no further trade data released before the April 30th "advance" estimate of first-quarter GDP), and with the annualized real pace of the merchandise deficit in the fourth-quarter at $492.2 billion, the trade deficit appears likely to provide a net drag on first-quarter 2010 GDP, after having helped to boost reported GDP growth in the third- and fourth-quarters of 2009. For the month of February 2010, the not-seasonally-adjusted average price of imported oil was $72.92 per barrel, versus $73.89 in January 2010 and $39.22 in February 2009. In terms of notseasonally-adjusted physical oil imports, February 2010 volume averaged 8.689 million barrels per day, versus 7.912 million in January 2010 and 9.103 million in February 2009. Week Ahead. Given the underlying reality of a weaker economy (and likely re-intensifying downturn) and more serious inflation problems than generally are expected by the financial markets, risks to reporting will tend towards higher-than-expected inflation and weaker-thanexpected economic reporting in the months ahead. Such is true especially for economic reporting net of prior-period revisions. Industrial Production (March 2010). March industrial production is due for release tomorrow, Thursday, April 15th. Some seasonal-factor catch-up and early signs of intensified downturn offer the risk of some downside reporting surprise to consensus estimates of a 0.7% monthly gain (per Briefing.com), versus the 0.1% gain reported for March. Any "rebound" from negative impact of severe February weather would be a one-shot event. Residential Construction (March 2010). Due for release on Friday, April 16th, March housing starts are not likely to show a statistically-significant monthly change, although levels of activity are at fair risk of starting to fall-off sharply, again. While a small monthly gain may be expected, again, any "rebound" from negative impact of severe February weather would be a one-shot event. __________

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