This is the fifth installment of the LEIPLINE. Our focus each quarter will be on the four variables for which we collect data and the implications of those data for the Jacksonville MSA overall. Since many of the data change for at least one month after we first report them, we have decided to wait until at least the middle of the following quarter to report each quarter's implications. Since the local CPI is the most significant variable that we analyze we will start with it.
The 2007.4 Jacksonville CPI
The change in the local CPI during the fourth quarter of 2007 began an upward trend that continued into January, following the national CPI. While October revealed a decrease in prices, November and December both suggested sizable increases leading up to a 5 tenths increase in January. The aggregate effect through December produced a quarterly increase of just under 4 hundredths, with the annual inflation rate becoming 4.2%. However, the inflation for November through January was at an annualized rate of 4.85%, which is very high for Jacksonville historically. The local numbers were once again driven by fuel prices and housing prices. Fuel prices, including both gasoline and fuel oil, grew dramatically during the quarter based on refinery problems, and speculators seeking profits. Please see the article this quarter on oil prices for a more extensive discussion. The local housing market continued its decline, hitting dismal levels in January. New building permits numbered only 394 in October and only about 1,600 for the quarter, which is about half of their norm for the last two years prior. Prices of single family homes at the mean were $50,000 below their mid 2005 peak and they fell again in January. There was a rebound in prices in February, however. Condo prices fell very dramatically during the fourth quarter, and are about $65,000 below their peak as of February. Rental prices have bounced between $1,150 and $1,250 per month. It continues to be evident that buyers are searching for substantial bargains and sellers are desperate to try to maintain the equity they perceive in their house. Rents are remaining stronger because of the shift of lower income housing buyers back into the rental markets. Ultimately, like we mentioned last quarter, the housing market will not recover until buyers perceive that prices are starting to rise. However, we believe that once that perception becomes wide-spread, the housing market should jump as pent-up desire for movement locally, declining yields from other sources, and speculation and the inflow of new residents, start the market growing again. We are hopeful that the bottom will occur in the first quarter of 2008, but our confidence in this outcome is guarded.
For the year (2007), some very significant changes were seen, and they were very similar to those that dominated 2006. Household insurance rates rose another 25.4% on top of 2006's nearly 30% increase; and fuel was up over 42% relative to heating oil and 66% in terms of electricity. Food prices were up an average of 13% (led by food away from home at 16.7%). Major declines were limited to housing categories including a 7.8% drop in rents, 3.2% in owner's rent of primary residence, and lodging away from home down 7.7%. The other categories changed only moderately for the year. For the quarter, some very significant changes arose, but they were primarily constrained to the volatile non-core components of food and energy. 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, but inflation definitely accelerated in October through December 2007.
The outlook for the first quarter of 2008 unfortunately appears to be supportive of stagflation (declining growth combined with escalating inflation). The economy both locally and nationally appears to be softening and despite the actions of the Federal Reserve, spending on other than energy continues to decline. We expect a recession beginning in the first quarter (if it did not begin in December), the length of which will primarily depend on the recovery in the housing market and energy prices. For those too young (or too old) to remember, the rhetoric coming out of the energy markets sounds just like 1974, with cries of declining world oil reserves and burgeoning demand. Neither is true, but as long as the public and political leaders fall for this line of "you know what", it will be very difficult for the national economy to grow.
Unemployment rates in Jacksonville during 2007.4 rose significantly even after adjustments for seasonality. Specifically, the unemployment rate is now three-quarters of a percent higher than in September. 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 August 2007 fell from 4.2% to 4.1%, but the adjusted rate rose from 3.94% to 4.06%. In the fourth quarter, the seasonal adjustment made little difference however, because unemployment did nothing but go up. The Jacksonville MSA rate of unemployment was low compared to the national average of 4.85%, but definitely gaining on the national number. To put it into perspective, in January 2007 the Jacksonville rate was over 1.4 points below the national rate while in December it was only .5 points below. We were incorrect about employment last quarter again, not properly forecasting how much unemployment would increase, and unfortunately we expect further unemployment in the first quarter of 2008.
Leading Indicator (LEI)
The LEIP leading indicator was down 1.5 points in the fourth quarter, but it rose slightly in January. However it is still 8 points higher than the comparable national LEI on which it is based, and almost 2 points higher than what it was in December 2006. However, looking inside the numbers reveals that the LEI weakened dramatically in the fourth quarter and that it continues to be driven positively by the growth of the money supply almost exclusively. In particular, the local components of the LEI are revealing significant negative movement. Thus, the outlook for the first quarter of 2008 in total is not strong. We anticipate that new claims for unemployment insurance will rise while building permits and interest rate spreads continue to be weak. Consumer confidence is also down. Ultimately, the actions by the FED will 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 2007, following a dismal year in 2006. The local presence stocks have fallen nearly 3,500 below the DOW. The local headquarters' stocks are over 3000 points below the DOW, driven down by bankruptcies. January 2008 looks even worse. Issues with insurance companies and health providers locally were once again likely behind the lagging local stock prices.
The Bottom Line
Overall, 2007.4 was not a good quarter for Jacksonville or at the national level. Retail sales slowed, unemployment rose, and inflation accelerated. The LEI fell, and in a particularly shaky fashion relative to the local components. Our perspective has not changed for the first quarter of 2008 relative to what we expected for the fourth quarter. The outlook for Jacksonville is not strong for the first part of 2008. If the housing market remains weak, and consumers continue to allow the high oil prices to reduce retail sales, the local economy could decline significantly. We are now using the "r" word (recession) and the "s" word (stagflation). The latter is particularly unsettling because traditional federal policy initiatives are ineffectual when dealing with stagflation, and further the causes are external to the United States primarily.
An Apples-Apples Look at Oil and Gasoline Prices
Although we do not collect oil price data for the LEIP project, we believe that oil and gasoline prices are at the heart of the current weakness in the US and local economies (clearly along with the housing slump). Therefore, we offer this brief commentary on where oil and gasoline prices are now versus when we started LEIP in the middle of December 2001. This time reference is significant beyond the LEIP starting date, however, because this is when the current escalation of oil and gasoline prices began. Specifically, gasoline prices hit a relative bottom on December 17th 2001 at $1.08 per gallon. Also as of that date, oil prices in US dollars were $15.59 per barrel. The most current complete data available as of this writing are for February 4, 2008. As of that date, gasoline was selling in the financial markets for $3.01 per gallon and oil per barrel was quoted for March delivery in the New York spot market at $85.36.
There are several influences that explain the differences in these relative prices that can be identified and systematically removed to provide a better perspective on the escalation of oil and gas prices over this over six year period. One of the determinants that is often mentioned in the press, but not delineated sufficiently, is the influence of the declining value of the dollar. Since oil prices are reported in dollars, as the dollar falls in value, oil prices escalate even if they are not changing in absolute terms. In addition to this factor are the influences of general inflation that tend to occur over time. Another relevant pressure is the escalation of world demand for oil that places upward stress on price. The remainder of the influences occur on the supply side of the market including: speculators in oil markets, wars, political intervention, embargos, pipeline failures, refinery issues, weather factors, market power on the part of multinational oil companies, and OPEC. The analysis applied here, although not very sophisticated, is extremely suggestive of from where the major influences behind the increase in the price of oil are derived. Specifically, this analysis demonstrates that the influences from three of the factors: the value of the dollar, world demand, and inflation are not large at all.
Comparing the trough of oil and gasoline prices in mid-December 2001 with the February date mentioned above puts things into perspective. If one adjusts the current prices of oil and gasoline for the 21% drop in the value of the dollar adjusted for inflation, the $3.01 price of gasoline is equivalent to a price of $2.39. The corresponding price of a barrel of oil is $67.74. Thus, while oil prices are nearly 450% higher in February 2008 than at the end of 2001, and gasoline prices are 179% higher; with adjustment for inflation and the fall in the value of the dollar, the corresponding numbers are 334% and 121%. Thus, it should be obvious that the rise in oil and gasoline prices is still monumental even after adjusting for these factors. It should also be clear that oil prices have grown far more substantially than gasoline, so domestic influences are not as substantial as foreign ones and gasoline vendors are not reaping as large a level of profits as the oil companies and OPEC (although they are definitely not hurting
With this being said, the small influences of the falling dollar and inflation are both quite large compared to the demand-side factors. Despite what the media frequently emphasizes, the consumption of oil worldwide has only risen 11.66% cumulatively since December 2001, thus averaging less than 2% per year. The $2.39 price of gasoline is only reduced to $2.14 if you remove the demand-side influences on price. The corresponding value for oil is $60.66 per barrel.
Consequently, this commentary provides indirect evidence of the identity of the true culprits in the escalation of oil prices that are weakening the US economy. The negative influences come from speculators who are taking advantage of the collective impacts of multinational oil companies, refineries, and the OPEC countries to bid up oil prices when the fundamentals suggest that no such escalation should exist. The lack of concern among political leaders regarding the stifling effects of higher energy prices on productivity and growth just makes the cartel behavior that much more egregious. Hopefully, this commentary will better prepare you as a business person and a voter to identify who should be blamed for the current state of energy economics in this country.
Does the Jacksonville Housing Market Predict Retail Sales?
The U.S. housing market since the middle of 2006 has been in a state of steady and seemingly escalating decline. There are numerous justifications for this outcome, not the least of which is the media focus on this negative news. The "housing crisis" has become a media rallying cry. Although there is a definitive housing slump, there are many other factors, including energy prices and the value of the dollar that are also influencing the business cycle in the wrong direction. Relative to housing, however, the slump is not evident in every part of the country. Certain sections of the United States have still managed to maintain a steady rate of economic growth despite the current housing situation, while other regions appear to be declining without a definitive housing effect. Thus far, Jacksonville appears to be in the former category. In order to identify whether housing woes are leaking into the overall local Jacksonville economy we must look for more meaningful relationships between the economic entities that drive the progress of our local economy.
Often, the best measure of economic health within a local economy is retail sales. These data are measured monthly and recorded by county, for all counties within the state of Florida. To assess the possible relationships between housing and retail sales we looked for evidence of lagged dependence between these two variables over time. If there is a definitive relationship between the two we may be able to forecast these values into the future, depending on the strength of the relationships.
Since the exact theoretical relationships between the two time-series is uncertain, we decided to use a theoretical modeling approach, where nothing is assumed about the two series' correlations over time, thus keeping observation bias to a minimum. The equation modeling is conducted via a vector autoregression or VAR process. This modeling technique although extremely difficult to interpret, yields very useful forecasting measures that remain resilient to departures from specific assumptions. VAR modeling states each of the estimated equations for each dependent variable as a function of coefficients and lagged values of both the independent variable and dependent variables. So for our example, two simultaneous equations must be estimated. (If you want to know more about VAR modeling or the statistical procedures used in this article, feel free to contact David Frazier at firstname.lastname@example.org)
Thus, one form of the modeling implies that retail sales can be written as a function of itself and the average price of homes within the Jacksonville area. The results imply that housing in Jacksonville has a direct effect in the same period on retail sales as well as one time period in the future, but after that the coefficients become statistically insignificant. Statistically weaker is the interdependence between the average price of a house (in the current period) and retail sales, thus, making retail sales the independent variable. This form of the model performs best when the average home price is a function of itself lagged in periods one through four, and retail sales lagged in the current period as well as the subsequent two periods following the current period. The t-values for the retail sales lags are both significant at the one percent level. Combining these two models suggests a possible bi-causal relationship between retail sales and average housing prices in Jacksonville. To test this hypothesis we use a test know as Granger causality. The implications follow.
|Housing Price does not Granger Cause Retail Sales
|Retail Sales does not Granger Cause Housing Price
The results in the table imply that at the .05 level there is a bi-causal relationship exhibited between retail sales and the average house price in Jacksonville. However at the one percent level, we cannot reject null hypothesis two. This implies that the causality that dominates (if either does) is from housing prices to retail sales in the Jacksonville area. Taking current circumstances into account, the current dip in the housing market suggests that we should expect the overall level of retail sales within Jacksonville to drop for two consecutive months following a one month decline in housing prices. Since housing prices have fallen for two-thirds of the 18 months since June 2006, this has generated declines in retail sales (relative to what they otherwise would have been) in most of this time period. However, since the causality can also be construed to exist in the opposite direction, there are forces that support a downward spiral in both variables, each reinforcing the other. Therefore, to reverse the downward trend in retail sales we need an improvement in the housing market, and vice versa. However, of a more useful nature, when the housing market eventually recovers, retails sales should begin to grow more strongly within a couple of months. LEIP feels that armed with this information you as a consumer and business person will be better informed to make tough economic choices that shape the world around you in the near future, both during the weakening in the local economy that seems to be apparent, and during the inevitable subsequent recovery.