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Being Street Smart 9/30/5


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#1 TTHQ Staff

TTHQ Staff

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Posted 30 September 2005 - 04:30 PM

BEING STREET SMART
___________________

Sy Harding

INFLATION IS FINALLY AFFECTING CONSUMERS! September 30, 2005.

Evidence is beginning to pour in that rising energy costs and inflation in
general are finally beginning to affect consumer confidence and spending.
Since consumer spending accounts for 65% of the U.S. economy, that it might
happen has been a major concern of economists for more than a year.
Until recently, even as inflationary pressures increased, consumers seemed
not to care. Measurements of consumer confidence remained strong. Consumer
spending remained high, even though requiring increased levels of debt to
finance the spending. Purchases of big-ticket items like automobiles and
homes even led the way.

However, economic reports of the last week or so indicate that situation is
changing.

The willingness to borrow and spend apparently hit a wall for some consumers
several months ago. The American Bankers Association finally got around to
reporting this week that credit-card delinquencies reached a record 4.81% of
all credit-card accounts in the 2nd quarter of this year. Interest rates,
gasoline, and other energy costs have risen further since the second
quarter, taking even larger bites out of consumers’ pocketbooks. So
delinquency rates surely rose further in the current quarter, and are surely
destined to rise again in the 4th quarter, when dramatically higher heating
costs check into the mix.

Same story, second and third verses, the Commerce Department reported on
Tuesday that new home sales plunged 9.9% in August. And in a release
covering more recent conditions, the Conference Board reported that its
Consumer Confidence Index plunged a huge 19 points in September, from 105.5
in August to just 86.6 in September.

It was the biggest one-month drop in consumer confidence in 15 years. The
last occasion was in 1990. As an indication of how important consumer
spending has always been to the economy, while as usual it wasn’t recognized
until well after the fact, in 1990 the economy was already slowing into the
1990-91 recession.

Finally, on Friday, the Commerce Department released its consumer income and
spending report for August, which added further evidence of problems in
consumer land. Consumer income fell 0.1% in August, while consumer spending
declined 0.5%.

The drop in spending was the largest since November, 2001, when once again
as we learned months later, the economy was already in the 2001 recession.
With the economy obviously so dependent on consumer spending, some of the
questions being debated regarding the rebuilding of New Orleans, where the
money will come from, the need for more oil refinery capacity in the U.S.,
etc., may not be as important to the well-being of the country, including
Louisiana and the rest of the Gulf Coast, as whether a slide into recession
can be avoided this time.

That obviously would require quickly reversing consumer confidence. How is
that done?

After declines in consumer confidence and spending led the country into the
2001 recession, it took the most aggressive stimulus package ever out of
Washington, tax cuts, tax rebates, and the lowest interest rates in forty
years, to put easy money in the hands of consumers and get us spending
again.

Even if it wanted to, Washington would have problems coming up with that
kind of program again, due to the record budget deficits. In fact, Congress
is talking about eliminating some previously approved tax cuts in the wake
of the expenses of Katrina and Rita. The Federal Reserve could reverse
direction and begin cutting interest rates. But it also has a problem this
time. Unlike in 2001, energy prices are spiking and overall inflation is
threatening, making it difficult to even stop raising rates, let alone swing
around to lowering them.

On the bright side, the major depressants to consumer confidence have no
doubt been the spike up in gasoline prices, and the shock of the Katrina and
Rita disasters. Barring yet another hurricane, both of those situations
should begin to improve. It certainly seems to be Washington’s intention to
at least throw a lot of money into the Gulf Coast rebuilding process. And
given that some of the most recent spike in oil prices has been due to
commodity traders and hedge funds jumping aggressively into the situation,
crude oil prices should level off and drop back some as more Gulf Coast
refineries and pipelines come back on line.

But whether that would be enough to reverse consumer confidence to the
upside again is questionable, since it’s too late to avoid dramatically
higher heating costs this winter, and unlikely that gasoline prices will
drop much below $2.50 a gallon.

Meanwhile, the all important Christmas shopping period, which many companies
depend on for as much as 50% of their annual sales and profits, is rapidly
approaching.

So keep your eyes on consumers. After providing the main support under the
economy for several years now, consumers will still be controlling what
happens going forward.

Sy Harding is president of Asset Management Research Corp., DeLand, FL,
publisher of The Street Smart Report Online at www.streetsmartreport.com and
author of 1999’s Riding The Bear ­ How To Prosper In the Coming Bear Market
.