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Our phony economy

Damn, we're in a tight spot!
    —Everett McGill (George Clooney) in Oh Brother, Where Art Thou?

(Note: it's all oil prices all the time in the media, so if you want to know the fundamentals behind why oil prices are rising, read last week's column.)

Harpers Magazine assigned this column's title to congressional testimony1 by Jonathan Rowe in its June, 2008 issue. Rowe's basic observation is that Gross Domestic Product [GDP] measures not only wealth, but "illth" as well. If the rate of onset of Adult Diabetes is soaring—it is—then "expenditure [on medical care] and motion [patient/care provider activity]" goes up, although this is not a welcome development for those suffering from this disease. The GDP grows and growth is always deemed to be good.

That term "the economy": what it means, in practice, is the Gross Domestic Product—a big statistical pot that includes all the money spent in a given period of time. If the pot is bigger than it was the previous quarter, or year, then you cheer. If it isn't bigger, or bigger enough, then you call Federal Reserve Chairman Ben Bernanke up here and ask him to do some explaining. The what of the economy makes no difference in these councils [Congress]. It never seems to come up. The money in the big pot could be going to cancer treatments or casinos, violent video games or usurious credit-card rates.

Rowe has been arguing for common sense since at least 1999—"A human economy is supposed to advance well-being. That is elementary" (Washington Monthly, March, 1999).  Perhaps Rowe's argument could be more aptly called "Our Misleading Economy," for not only does GDP mislead us by including all sorts of detrimental things, but the actual growth measurements themselves are, for lack of a better word, phony.

Why is understanding that the economic data is spurious important? First, such data does not accurately measure the amount of financial distress in people's lives and thus attempts to cover up (as in Watergate) economic ill health. However, people know—or should know—their own situations and can easily see the effects of inflation every time they fill up at the pump or go to the grocery store. 

Consumer Confidence More importantly, bogus data enables bullish predictions about a short, mild recession, or even no recession at all, to be followed by more "growth." Cheerleading is meant to boost confidence, and seeks to get people to buy into the "more spending is better" assumption—buy more cars, more Fritos© corn chips, more iPods©, more ... everything, which obviously includes oil and its refined products. Buy more even if you can't afford it—run up those credit cards. Apparently, this strategy is not working (graph left). And not only are high oil and gasoline prices here to stay, but an overwhelming majority of people believe they are here to stay (USA Today, May 13, 2008).

Pigs Have Wings at the EIA Those of us who write about the longer term oil supply issues know the dangers inherent in this kind of happy talk. For example, the EIA actually predicts that Brazil will produce some 3 million barrels per day (b/d, all liquids) later this year, whereas their generally flat production now stands at 2.26 million b/d (ASPO-USA, May 14, 2008). Brazil will not reach the lofty goal the EIA has set for them this year, or even come close to it. If pigs had wings, they could fly.

Skewed expectations, for both oil and the economy as a whole, will eventually lead us down the garden path to ruin. There's really not a lot of difference between counterfeit oil supply predictions and doctored growth numbers for retail sales in April, 2008. All bogus numbers, whether they come from the EIA or the Bureau of Labor Statistics, are part and parcel of attempts to manage our behavior to keep the growth party going.

Pollyanna Creep

John Mauldin's The Fed at the Crossroads takes a realistic look at retail sales in April.

Many commentators, looking for a bullish lifeline, have pointed to the fact that retail sales grew in April by 1.8% over this time last year. But that is truly grasping at straws. Just last November they were growing at 6% year over year and have been dropping relentlessly for the last six months. And as good friend and data maven Greg Weldon points out, retail sales last November were 1.3% over inflation and now are a negative 2.1% below inflation. Retail sales are clearly headed down. (Weldon Financial, a must-read for those who need in-depth analysis of all things and data economic)

But there was growth. Gasoline sales were up 16.3%. And food sales were up 6.1%. 77% of the increase in retail sales this year has been from increases in food and gas sales. If you take out food and gas, retail sales are down by about 2% in the last three months.

This higher gas and food spending is all in your head, your eyes are deceiving you, the Guardian facetiously reported on May 14, 2008. This is worth quoting at length.

The EIA Versus the BLS High gasoline prices got you down? Come to the land of seasonal adjustment, where the sun is always shining and gas prices fell 2 percent last month.

What? You paid more? Well, in the real world, gasoline prices did rise by a sharp 5.6 percent in April from a month earlier, but the way that the Bureau of Labor Statistics adjusts the figures to smooth out seasonal oddities, it appeared to be down in the consumer price index released on Wednesday. "The drop makes absolutely no sense. Where does the BLS buy their gas?" asked Mark Vitner, senior economist at Wachovia...

Another branch of the very same U.S. government, the Department of Energy's Energy Information Administration [EIA], said average retail gas prices actually shot up 9.5 percent in April from March. To compare EIA and BLS gasoline price data, [look at the graph above].

It has to do with how the Bureau of Labor Statistics compares current price trends with the norm. Typically, gasoline prices rise sharply in April as the arrival of warmer weather encourages people to drive more. The government data is adjusted to reflect that pattern so that it can highlight variations from the trend. Because gas prices did not rise as much last month as they typically do in April, the seasonal adjustment showed that prices fell.

Note: To be fair, the EIA does try to report energy prices accurately.

The BLS is entitled to compare this April's gasoline price hike with the historical trend. They are not entitled to adjust that price increase (i.e. the data) via a "seasonal adjustment" according to that trend.

Two Views of Consumer Inflation Fraudulent reporting of April's gasoline price increase by the BLS is a minor league deception. To get to the major leagues, you need to look at John Williams' Shadow Government Statistics. Williams tracks "pollyanna creep," the official government rule changes that have put a rosy gloss on how the economy is doing over the last 25 years. As described in Kevin Phillips' Numbers Racket: Why the economy is worse than we know, Williams calculates the numbers for GDP, the consumer price index (CPI), and unemployment based on the pre-creep rules (Harpers Magazine, subscription required, May, 2008). The graph above and the first graph below are taken from Phillips' article.

Using the old rules yields some startling results. The first graph (above left) shows that inflation is currently 12% based on the pre-1983 criteria, whereas the "official" number is just over 4%, including energy and food. The government estimate makes several dubious assumptions, one of which is the infamous hedonic adjustment. Back in 2005 an inflation debate was brewing over intangibles at the mall

To most people, when the price of a 27-inch television set remains $329.99 from one month to the next, the price hasn't changed.

But not to Tim LaFleur. He's a commodity specialist for televisions at the Bureau of Labor Statistics, the government agency that assembles the Consumer Price Index. In this case, which landed on his desk last December, he decided the newer set had important improvements, including a better screen. After running the changes through a complex government computer model, he determined that the improvement in the screen was valued at more than $135. Factoring that in, he concluded the price of the TV had actually fallen 29 percent.

Mr. LaFleur was applying the principles of hedonics...

No comment I could make would improve your understanding of the absurdity of this adjustment to the CPI. You're still paying $329.99 for the the TV with or without the "improved" screen which you may or may not want.

What Does Unemployment Mean?The next graph (left) compares the "official" unemployment rate with the percentage you get if now excluded categories are put back in, including part-time, discouraged and other marginally-attached workers. This calculation shows that unemployment is actually around 9%, not just over 5% as the government reports.

One more egregious example suffices to drive out point home. Old Personal Savings RateAs reported at the mortgage industry blog mariah.com, the BLS apparently did not like the negative personal savings rate (graph left) so they replaced it with a more cheerful graph (graph below left). The new BLS graph, which can be found here, is presented without explanation for the change, which we wouldn't even know about unless someone had saved the older version.

Although there are different ways to calculate the personal savingsBrand New Personal Savings Rate rate, the St Louis Fed concludes that "despite these measurement problems, the recent decline of the U.S. personal saving rate to low levels seems to be a real economic phenomenon and may be a cause for concern for several reasons. After examining several possible explanations for the trend advanced in the recent literature, [we] conclude that none of them provides a compelling explanation for the steep decline and negative levels of the U.S. personal saving rate." No doubt the BLS employed an alternative method yielding a happier result for its personal savings rate calculations and then made the revision. Not that it makes any difference to the terrible reality.

The BLS has traveled so far down the Road to Perdition that all of our trust in their economic metrics must evaporate.

An Orwellian Nightmare

The oil supply question concerns our future quality of life. Jonathan Rowe reminds us that "a human economy is supposed to advance well-being." Escalating energy prices threaten our well-being. How can one warn others about likely dire economic effects resulting from very high liquid fuel prices if there is no official recognition that those effects even exist? Or even acknowledgment of the price increases themselves?

This Orwellian nightmare poses yet another obstacle, a big one, to promulgating a correct understanding of what is really happening as the oil price continues to rise in an economy that has multiple failures (ASPO-USA, May 14, and March 26, 2008). Websites like the Prudent Bear or iTulip warn us about the possibility of hyperinflation, the detrimental aftereffects of the Housing Bubble, new bubbles on the horizon, or other disasters (ASPO-USA, February 13, 2008).

There were warnings about the Housing Bubble on the web for years before the market tanked. Now we are warning you about the approaching global maximum of oil volumetric flow rates, a concept which others call "peak oil." Thank God for the internet. In the meantime, merrily we roll along, living in the phony economy Big Brother has invented for us.

Contact the author at [the original article]

1. I have taken the liberty of publishing the Harpers Reading, which is a reprint of Rowe's "testimony delivered March 12 before the Senate Committee on Commerce, Science and Transportation." I assume therefore, that this text is in the public domain and that this constitutes "fair use."

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