This is the third installment of the LEIPLINE. Our focus each quarter will be on both the four variables for which we collect data and the implications of those data for the Jacksonville MSA overall. Since the local CPI is the most significant variable that we develop we will start with it.
The 2007.2 Jacksonville CPI
The change in the local CPI during the second quarter of 2007 reflected a major jump in inflationary pressures similar to, but structured differently, than the national CPI. April and June produced moderate single tenth increases in the LEIP CPI, but May revealed over a seven tenth increase. The aggregate effect was an annualized inflation rate of 2.75%, which is substantially below the national annualized equivalent of 4.8% for the same time period, but high for Jacksonville historically. The local numbers have been driven by a variety of categories, but fuel prices and housing prices are the primary factors causing the fluctuations in the index. Fuel prices, including both gasoline and fuel oil, grew dramatically during the quarter based on supply shocks including potential hurricanes, refinery problems, and speculation about political issues in Iraq and Iran. The local housing market rebounded in April and May, but June was weak and preliminary data for July is miserable, particularly for building permits. There is still a substantial glut in unsold homes, and with particularly condominium builders ratcheting up their construction, the outlook is poor. We do not perceive either a return to rapid price increases in this market, or further deflation of a substantial amount, even if the FED lowers the Federal Funds rate in September. The most volatile component of our index continues to be apparel prices which swing wildly from month to month, despite that we collect only retail prices.
For the quarter, some very significant changes arose, but they were different than those that dominated 2007.1. The major increases during 2007.2 were in motor vehicle parts and equipment, motor vehicle prices, PCs and equipment, and women’s and girl’s apparel. Other than these, plus housing and energy, the other categories changed very little for the quarter. Consumers and businesses are always more cognizant of price increases than decrease, so there is a tendency to expect higher rates of inflation than what actually occur.
The outlook for the third quarter of 2007 suggests a moderation of price inflation, unless the FED must inject substantial amounts of money due to sub-prime lending problems and defaults. Food prices should remain relatively stable (barring substantial weather issues), but fuel costs should decline with the end of the summer peak demand and a weakening economy. Consequently we see the third quarter as one of moderation in price changes.
Unemployment rates in Jacksonville during 2007.2 crept up even after adjustments for seasonality. LEIP only seasonally adjusts the unemployment rate (we do not calculate it), but doing so provides valuable short term insight into the changes from month to month. For example, the unadjusted unemployment rate in June 2007 was 3.8% while the seasonally adjusted value was only 3.43%. The projections for summer employment for Jacksonville came to pass as high school and college students off for the summer found it more difficult to find employment. Still, the Jacksonville MSA rate of unemployment was very low compared to the national average of 4.6%. The bottom line on unemployment is that job growth in the Jacksonville MSA has been very strong for more than eighteen months, but the influx of new workers has been stronger in 2007.2, so unemployment rates have risen marginally. We expect a small decline in unemployment in the third quarter, but not a return to rates in the low 3% range.
The LEIP leading indicator was up 0.91 points in April, but has fallen each of the last three months. However it is still 6 points higher than the comparable national LEI on which it is based. The other LEIPLINE article for this quarter reveals that our LEI forecasts relatively effectively for two months in advance, suggesting that the early fall will be weaker in terms of retail sales than it has been over the last several months. The outlook for the third quarter of 2007 in total is thus not strong. Building permits, consumer confidence, and the real M2 money supply will once again be the keys to growth in both the third quarter of 2007 and beyond. However, we anticipate that fuel prices will moderate so that the vendor and distribution components of the LEI will improve. The actions by the FED will also be crucial since the real M2 money supply is such a major influence on the LEI, and the broader economy.
Stock Price Index
The local stock index had a rough year in 2006, but despite a rebound in early 2007, the latest quarter has been bleak after a promising start in April and May. The local presence stocks bolted ahead to overtake the DOW. But declines in June and July put the local presence stocks over 1000 points behind on a comparable basis. The local headquarters’ stocks are 3000 points below the DOW, driven down by the problems with Winn Dixie and other local bankruptcies. Issues with insurance companies and health providers locally were likely behind the lagging local stock prices.
The Bottom Line
Overall, 2007.2 was not a good quarter for Jacksonville. Retail sales continued to exceed national growth rates, but unemployment rose, inflation grew substantially, and the LEI turned negative. The outlook for Jacksonville is not terrible for the rest of 2007, but the data seem to indicate that our local economy is slowing. If the housing market remains weak, and consumers begin to allow the high oil prices to substantially reduce retail sales, the local economy could decline significantly. However, more likely the local economy will only grow more slowly, without recessionary implications.
How Effective is the LEIP LEI in Predicting Retail Sales?
Economic variables often depend on other economic variables, but not necessarily at the same time. This relationship is known as a time lag between these variables. Lags are present in economics for a myriad of reasons. Institutional, psychological, and technological factors are just a few examples of how lags can alter economic relationships between dependent and independent variables. Time lags play a vital role in explaining economic decisions, choices, and relationships.
The LEIP LEI (Leading Economic Indicator), patterned after the similar index published by the Conference Board, is structured to reflect data that have predictive power for future values of variables such as employment, output, retail sales, etc. In this article we chose to evaluate the lag structure relating the LEIP LEI alternatively to retails sales in just Duval County, and the Jacksonville MSA (Baker, Duval, Clay, Nassau, and St Johns County). This latter methodology is used because in theory the reactions of the MSA retail sales may be dissimilar to that of a single county, therefore the lag structures between the two may be different as well.
Using various statistical procedures (details omitted), we find that there exists a significant relationship between the retail sales of Duval county and lagged values of the LEI index. Upon regressing retail sales on the LEI values, with various lags, we find that there exists an optimum lag of two periods. That is to say that the LEI exhibits some amount of explanatory power on the current value of Duval retail sales out to two time periods. This means that June’s retail sales value is not only affected by the LEI from June but also May, and April. The other very intriguing aspect to this lag is its sign structure. It seems that when the lags are combined, and certain assumptions met, the current period LEI is slightly negative and the lagged values are both positive. Also more importance is placed on earlier lagged periods than recently previous periods. This means that two months prior to a date is more highly correlated with this periods retail sales than the month prior.
Relative to the lag structure between the LEI and the Jacksonville MSA, the optimum lag structure remained two periods and the pattern of decreasing significance from more distant past to more current is also apparent. The most significant difference comes from the explanatory power of the two models. The model encompassing only Duval county’s retail sales can be interpreted to imply that twenty eight percent of the variation in Duval retail sales can be attributed to the current LEI value and two lagged values of the LEI index. The model for the entire North Florida area boasts a percentage of almost forty three percent.
It is likely then that the LEI index may be effective in making judgments about the overall level of retail sales within the Greater Jacksonville area and not just Duval County. The value that can be derived is most likely most significant for companies that depend on retail sales such as local supermarkets, car dealers, and retailers in general. If LEIP publishes that the LEI index declined sharply this month, by reading this article, you now know that in about two months time we can expect a substantial drop in the level of retail sales in both Duval County and the entire MSA. This in turn can help managers better budget, and schedule so that the “oncoming” downturn will not affect them nearly as much as their competitors who do not subscribe to this newsletter.