naked capitalism

‘Big Dry’ turns farms into deserts BBC

Investor interest in algae grows Financial Times

Palinfest!

Wily Obama beats McCain on strategy Andrew Sullivan, Times Online

McCain’s gamble on Palin is shrewd Clive Crook, Financial Times

Palin Republican pushback Diane Francis, Financial Post

“The Ferraro Factor” Mark Thoma

There is no need to fight Russia – just harness an alternative to oil Ambrose Evans-Pritchard, Telegraph. The article explains extending NATO to include Georgia and the Ukraine is a lousy idea.

Iraq Safer Than Ohio Banks Stung by Credit Crisis Bloomberg

Pencil in 2010 as the start of recovery from the recession Charles Goodhart, Telegraph

Ben Stein Watch: August 31, 2008 Felix Salmon

Antidote du jour:

Steve Waldman has a great little post on how the end of the consumer credit bubble is going to expose rifts papered over by the illusion of rising living standards for all. In fact, average real wages have been stagnant since the mid-1970s; the gains in income have accrued entirely to those at the top of the food chain.

Thomas Palley has made a similar argument with a different emphasis. He contends that policy-makers retreated from full employment as a goal, since it allows workers to demand higher wages, which in turn causes inflation. Reducing worker bargaining power led to disinflation, lower interest rates led to rising asset prices, which in combination with financial innovation, created an until-recently reinforcing cycle whereby rising asset prices funded consumption. Palley noted that that cycle was at its limits, and Waldman discusses the implications.

My favorite section:

Credit was the means by which we reconciled the social ideals of America with an economic reality that increasingly resembles a “banana republic”. We are making a choice, in how we respond to this crisis, and so far I’d say we are making the wrong choice. We are bailing out creditors and going all personal-responsibility on debtors. We are coddling large institutions of prestige and power, despite their having made allocative errors that would put a Soviet 5-year plan to shame. We applaud the fact that “wage pressures are contained”, protecting the macroeconomy of the wealthy from the microeconomy of the middle class.

Go read it here.

Reader Paul e-mailed about the special, early opening of the NYMEX to permit pre-Gustav trading. As he correctly noted:

I have NEVER heard of a US market opening early due to macro events; the usual move is to CLOSE during exceptional circumstances.

Neither have I. This looks pretty suspicious. Did some influential parties need to rearrange their positions, or did some hope to use a probably-thin market to their advantage? How many were aware of this session when it opened? How much advance notice was there, and how was this disseminated? It is almost certain no questions will be raised. Any reactions from informed readers very much appreciated.

As for the substance, Bloomberg notes that the market reaction is subdued compared to the supposed severity of the storm, although as of this writing it was a Category 3, not the feared Category 5 it seemed likely to become.

From Bloomberg:

“It’s a huge storm, and it’s got the potential to cause all kinds of problems,” said Peter Beutel, president of energy consultant Cameron Hanover Inc. in New Canaan, Connecticut. “There’s a lot of concern that this is something that could really, really damage infrastructure badly, and this could be another instance of Katria-Rita or worse.”

Crude oil for October delivery rose $1.67, or 1.5 percent, to $117.13 a barrel at 5 p.m. on the New York Mercantile Exchange. Prices are up 22 percent this year.

Gasoline for October delivery gained 6.58 cents, or 2.3 percent, to $2.92 a gallon on the exchange.

To see oil “up two and a half dollars is a muted reaction to what they’re calling the mother of all storms,” Beutel said….

“We’re more prepared for this storm than we ever have been for any hurricane that I remember,” said Phil Flynn, senior trader at Alaron Trading Corp. in Chicago. “We’re better prepared, and demand isn’t that strong anyway, so I’m about as optimistic as I can be in this type of disastrous situation.”…..

“You get a couple of rigs shut down, keeled over from this hurricane, and this is going go take days or weeks to fix,” said Brad Samples, a commodity analyst for Summit Energy Inc. in Louisville, Kentucky. “The bigger problem is on the refining side and the potential impact on all the refineries that string along the Gulf Coast.”

Almost half of U.S. refining capacity is centered along the Gulf Coast, and refineries have been operating at less than 90 percent of capacity all year, according to the Energy Department.

Bargain Wine and the Big Mac Index Wine Economist

Most Verizon FIOS Installations Violate National Electric Standards [Fire Hazards] Consumerist. You should also know that Verizon will cut your copper connection unless you insist. My Verizon DSL has been very sluggish lately and I have no doubt that it is deliberate.

Huge rally against Taiwan leader BBC

Veep Nominee Palin and the Exxon Valdez Case The Blog of LegalTimes

McCain, Palin, and the Important Difference Between Boldness and Riskiness Robert Reich. Reich can dish it out when wants:

Sarah Palin has been a governor of state inhabited by more moose than people for twenty months, and before that mayor of a town with a population smaller than two blocks of downtown Manhattan. Although she has barely exercised power, she is already under federal investigation for abuse of it. And while Ms. Palin is perfectly entitled to believe that evolution is a myth, that women should be barred from choosing to have abortions, and that global warming has yet to be proven, these views all run counter to the views of mainstream America.

“What’s Wrong with This Hurricane?” Mark Thoma

Bank of England to show no mercy as firms go under The Independent

Lehman: Following Good Bank/Bad Bank to Redemption Roger Ehrenberg

Antidote du jour:

Princeton economics professor Alan Blinder’s article in today’s New York Times provides a useful summary of a new book by a Princeton colleague, Larry Bartels, which finds consistent differences in economic performance and income inequality trends between Democratic and Republican administrations.

From the New York Times:

Many Americans know that there are characteristic policy differences between the two parties. But few are aware of two important facts about the post-World War II era, both of which are brilliantly delineated in a new book, “Unequal Democracy,” by Larry M. Bartels, a professor of political science at Princeton…

I call the first fact the Great Partisan Growth Divide. Simply put, the United States economy has grown faster, on average, under Democratic presidents than under Republicans….

Data for the whole period from 1948 to 2007, during which Republicans occupied the White House for 34 years and Democrats for 26, show average annual growth of real gross national product of 1.64 percent per capita under Republican presidents versus 2.78 percent under Democrats.

That 1.14-point difference, if maintained for eight years, would yield 9.33 percent more income per person, which is a lot more than almost anyone can expect from a tax cut…

The second big historical fact, which might be called the Great Partisan Inequality Divide, is the focus of Professor Bartels’s work.

It is well known that income inequality in the United States has been on the rise for about 30 years now — an unsettling development that has finally touched the public consciousness. But Professor Bartels unearths a stunning statistical regularity: Over the entire 60-year period, income inequality trended substantially upward under Republican presidents but slightly downward under Democrats, thus accounting for the widening income gaps over all…

The Great Partisan Inequality Divide is not limited to the poor. To get a more granular look, Professor Bartels studied the postwar history of income gains at five different places in the income distribution.

The 20th percentile is the income level at which 20 percent of all families have less income and 80 percent have more. It is thus a plausible dividing line between the poor and the nonpoor. Similarly, the 40th percentile is the income level at which 40 percent of the families are poorer and 60 percent are richer….The 95th percentile is the best dividing line between the rich and the nonrich that the data permitted Professor Bartels to study. (That dividing line, by the way, is well below the $5 million threshold John McCain has jokingly used for defining the rich. It’s closer to $180,000.)

The accompanying table…tells a remarkably consistent story. It shows that when Democrats were in the White House, lower-income families experienced slightly faster income growth than higher-income families — which means that incomes were equalizing…

The table also shows that families at the 95th percentile fared almost as well under Republican presidents as under Democrats (1.90 percent growth per year, versus 2.12 percent), giving them little stake, economically, in election outcomes. But the stakes were enormous for the less well-to-do. Families at the 20th percentile fared much worse under Republicans than under Democrats (0.43 percent versus 2.64 percent). Eight years of growth at an annual rate of 0.43 percent increases a family’s income by just 3.5 percent, while eight years of growth at 2.64 percent raises it by 23.2 percent.

The sources of such large differences make for a slightly complicated story. In the early part of the period — say, the pre-Reagan years — the Great Partisan Growth Divide accounted for most of the Great Partisan Inequality divide, because the poor do relatively better in a high-growth economy.

Beginning with the Reagan presidency, however, growth differences are smaller and tax and transfer policies have played a larger role. We know, for example, that Republicans have typically favored large tax cuts for upper-income groups while Democrats have opposed them. In addition, Democrats have been more willing to raise the minimum wage, and Republicans have been more hostile toward unions.

The two Great Partisan Divides combine to suggest that, if history is a guide, an Obama victory in November would lead to faster economic growth with less inequality, while a McCain victory would lead to slower economic growth with more inequality. Which part of the Obama menu don’t you like?

When the Korea Development Bank had signaled that buying a stake in an investment bank might be premature at this juncture, it had appeared the bureaucrats had beaten back KDB’s chairman and former head of Lehman’s Seoul branch, Min-Euoo-song, who was pushing the deal. But the Telegraph tells us not only that negotiations are back on, but that Lehman appears desperate to cinch a deal before its earnings are announced in roughly two weeks.

And no wonder. The Telegraph indicates the earnings release will include $4 billion of writedowns. Note that this is consistent with, even lower than some of the estimates out on the Street now. For instance, Merrill’s Guy Moszkowski forecasts that Lehman will lose $2.6 billion in its third quarter, showing $4.5 billion in losses, with a 35% reduction due to gains on hedges.

So if these numbers are already reflected in the stock price, why the scramble to get a deal done? Is this simply adherence to the recent practice of having capital-raisings in hand that are equal to or in excess of the hit to capital? Is it that, as with the second quarter, the losses that will be announced are vastly worse than expected? Or is it that the details in the financials will suggest that further deterioration is likely?

From the Telegraph:

The Sunday Telegraph has learned that Lehman has intensified talks in recent days with Korea Development Bank, the South Korean government-backed lender, about a capital injection of as much as $6bn (£3.3bn). KDB has drafted in bankers from the heavyweight advisory boutique Perella Weinberg to provide counsel on the talks, which could be concluded this week.

The acceleration of the negotiations, which Lehman wants to have wrapped up before it reports third-quarter earnings in mid-September, underlines the urgency with which one of the US banking industry’s most venerable names is seeking capital.

If the talks with the Koreans fall through, Lehman is lining up alternative investment from other sources, including Citic Securities, a Chinese brokerage which was on the verge of investing in Bear Stearns before its implosion earlier this year, which resulted in a cut-price takeover by JP Morgan, another Wall Street banking group.

Lehman is also holding talks with a number of sovereign funds from the Middle East, which have been invited to participate in a capital-raising. These are understood to include investors from Abu Dhabi and Qatar.

Under the structures being discussed by Lehman executives, including Richard Fuld, the bank’s chairman and chief executive, KDB could buy up to 25 per cent of Lehman, which has a market value of just $11.2bn following a slump in its share price this year.

Alternatively, if it proceeds with a deal with Citic or the Gulf investors, Lehman is likely to sell no more than 10 per cent of itself to each of those funds, but could combine it with a broader equity-raising in the open market. Fuld, who is determined to avoid a sale of the bank’s prized assets at distressed prices, is understood to have assigned several of his key executives to look at different fundraising scenarios.

Other options open to the Lehman board, whose members include Sir Christopher Gent, the former chief executive of Vodafone and current chairman of GlaxoSmithKline, include the sale of part or all of its asset management arm.Lehman’s so-called “crown jewel”, it includes Neuberger Berman, a highly rated fund management business. Analysts have valued the division at up to $10bn.

“The preferred option is not to sell any of it unless they cannot raise enough from external investors,” said a person involved in the talks. Dozens of parties, including JC Flowers and Kohlberg Kravis Roberts, have expressed an interest in the business.

Fuld is also keeping Lehman’s board appraised of plans to spin off the bank’s troubled $40bn commercial real estate portfolio, which may result in the creation of a separately quoted company in which Lehman Brothers shareholders would be given equity. The demerger of the real estate assets would leave the investment bank with a cleaner risk profile and remove one of the main drags on its share price…

At its earnings announcement next month, Lehman is expected to disclose further writedowns of about $4bn, to add to the $8bn in writedowns and losses already declared.

HuffPollstrology: Candidates’ Horoscopes, Polls And More For August 30 Huffington Post. Probably can’t be any less accurate than prediction markets….

“Big Misconceptions about Small Business and Taxes” Mark Thoma

Oil Goes Limp Bespoke Investment Group

Chancellor Alistair Darling warns slump could be the worst for 60 years Times Online. Admittedly, the UK economy is more overlevered that the US’s, but why are their officials willing to be candid and ours not? Don’t try the US elections as an excuse, there’s not much more candor in the off season.

Fannie and Freddie doubts grow Financial Times

Post-Olympic slowdown and AMCs troubles paying their debt Michael Pettis

Sarah Palin’s Record Isn’t Spotless Amanda Coyne, Guardian and McCain’s maverick mistake Diane Francis, Financial Post. Two takes from women north of the lower 48.

Antidote du jour:

Today’s Financial Times describes a new sign of how bad things are in the real estate market in London. People are so desperate to keep their deals alive that they are buying houses they do not want (yes, that sounds completely barmy, but the piece explains how it works). The net effect is that not only are sellers having difficulty exiting the real estate market even with a nominally successful sale, but as the example shows, some are increasing their exposure.

From the Financial Times:

The London property market, once one of the most buoyant in the world, is now so stagnant that desperate vendors are spending hundreds of thousands of pounds buying houses they don’t want in order to sell their homes.

The extreme measure arises from the growth of the so-called property chains that often frustrate home sales in the UK, where houses are normally sold by one party to another, rather than by auction.

The chains occur when a line of buyers and sellers all rely on each other’s transaction to go through. If one deal falls through, because someone pulls out or cannot get a mortgage, for instance, the rest are delayed or fail.

In the increasingly difficult London market, where estate agents say prices have been falling or weak for most of the year, there are fewer cash buyers so vendors are facing longer chains that break down more often as buyers fail to obtain mortgages or try to negotiate discounts.

Rather than waiting for chains to clear, agents say vendors have begun to buy the properties of people further down the chain to clear the way for their own home to be sold.

One homeowner engaged in such a process told the Financial Times she had only been able to sell her house for £450,000 – in order to upgrade to a £700,000 home – by buying an apartment at the bottom of her chain for £200,000…

Hamptons International, one of London’s biggest agents, says it has a number of clients who have sold properties worth between £2m and £3m after buying homes in the region of £300,000 further down the chain. These properties are then being rented out or given to children.

Some of the usual suspects have dutifully noted the closure of $1.1 billion in assets Integrity Bank of Alpharetta, Georgia (weirdly, the links at the Wall Street Journal to two stories lead only to “Page Not Available”).

The plot is already familiar: the Friday night, FDIC prepack, in this case, with Birmingham, Alabama-based Regions bank assuming all $974 million of deposits and $34 million of assets. The New York Times reported that the bank focused on real estate lending and had a “faith based culture”. The results suggest that they might have relied overmuch on divine intervention at the expense of due diligence.

Now let’s get to the juicy bit. As Bloomberg noted:

Banks are being closed at the fastest pace in 14 years as financial companies report more than $505 billion in writedowns and credit losses since 2007…..

Regions will buy about $34.4 million in assets and will pay the FDIC a premium of 1.01 percent to assume the failed bank’s deposits, the FDIC said. The FDIC estimates the cost of the Integrity failure to its deposit-insurance fund will be $250 million to $300 million.

$250 to $300 million of losses for a mere $1.1 billion in assets bank? As reader Steve A noted:

Today’s failure of the amusingly named Integrity Bank of Alpharetta, GA, confirms two very ugly trends: once again, FDIC was only able to pass cash and cash-equivalents to the assuming bank, and the FDIC’s loss estimate is extremely high ($250M – $350M on $1.1B of assets). I don’t have hard numbers handy but I seem to recall that receivership losses in the range of 25% – 35% were unusual in the commercial bank failures of the late 80′s. I could be wrong, but the numbers this year are extremely high. FDIC’s expected losses certainly make me wonder what on earth the bank examiners were doing for the last year besides critiquing the bank’s coffee and color scheme.

Now given that the bank was only eight years old and may have have used its religious positioning to hide some less-than-upstanding practices, the magnitude of the bust may reflect fraud, and well executed fraud harder to detect than good old fashioned recklessness or shoddy controls.

I’d love to learn more about what went awry here, but his story will probably slip beneath the radar as failures continue apace.

The question in the headline may seem odd, but consider. Many of the things we want are desires adeptly created by marketing and/or peer influence. It’s easy to recognize in teen agers.

Cassandra brings us a more vivid example of how ideas and desires can be influenced:

I was simply wondering whether all this is financial furor is simply, well, psychological, behavioural, maybe even imagined? And if so, perhaps, rather than embarking upon some of the messy heavy lifting and austerity seemingly required to alter consumption, savings and political orientation problems, we can simply alter our minds. Enter Neuro-Linguistic Programming. Why has this been relegated to the likes of McDonalds and the soap-powder advertisers, when the world of high-finance is simply screaming out for quick and easy solutions to the big financial and economic problems of our day such as sustaining the price s of level-3 assets, monoline solvency, performance of Alt-A or BBB mortgage tranches as well as extending the maximum amount of leverage households and the US government might safely assume before the lenders say no?

Tony Robbins uses NLP along with other tricks, and I know some people who claim they employ it to great effect.

The demo below, according to Cassandra, shows

the fabulous Derren Brown operate upon a dyed-in-the wool cynic like english actor-director-writer Simon Pegg

BTW, the way he touches Pegg’s shoulder and hand is significant, although I don’t know enough about the technique to say how.

We wrote yesterday about Japanese retail and institutional investors exiting Freddie and Fannie holdings, and didn’t consider it as worrisome as it might seem on the surface, since at this juncture, the funding of our current account deficit is coming almost from central banks and to a lesser degree, sovereign wealth funds.

Tonight, the Financial Times reports in “Bank of China flees Fannie-Freddie,” that the Bank of China has cut its Freddie and Fannie positions. Although it went public in 2006, state entities still have majority control, and the bank is generally described as a state-owned bank. Thus one must wonder if the bank’s move is an early sign of changing official sentiment.

Doc Holiday commented yesterday that the low yields on Treasuries relative to inflation constituted a huge, largely unrecognized bubble. The FT provides a possible explanation. In the last month, foreign investors were sellers of Agencies and made much-larger-than-usual purchases of Treasuries.

From the Financial Times:

Bank of China has cut its portfolio of securities issued or guaranteed by troubled US mortgage financiers Fannie Mae and Freddie Mac by a quarter since the end of June.

The sale by China’s fourth largest commercial bank, which reduced its holdings of so-called agency debt by $4.6bn, is a sign of nervousness among foreign buyers of Fannie and Freddie’s bonds and guaranteed securities.

Foreign investors have been a mainstay of the market for such debt, but uncertainty over the mortgage financiers’ capital positions and the timing and structure of a potential government rescue has made some investors reassess their exposures. Asian investors in particular have become net sellers of agency debt, said analysts.

Federal Reserve custody data shows that for the year to July, foreign official and private investors bought an average of $20bn of agency debt a month, including debt issued by other government agencies such as Ginnie Mae and the Federal Home Loan Banks. Purchases of US Treasuries averaged $9.25bn.

From July 16 to August 20, foreign investors sold $14.7bn of agency debt, trimming their overall holdings to $972bn. They purchased $71.1bn of Treasuries in the same period…..

This weekend, the Group of Twenty developed and advanced developing countries will be holding a preparatory meeting in Brazil. Although the crisis at Fannie Mae and Freddie Mac is not on the agenda, there is speculation that Treasury officials could informally encourage big holders of agency debt and mortgage-backed securities not to scale back their investments..

We’ll see in the next few weeks if the sales campaign succeeds.

The Independent reports that consumers have slammed on the brakes as far as shopping is concerned. The story draws on survey data, and contradicts official retail sales, which showed a modest gain. However, the aggregate data includes petrol and food vendors, so the real change was probably negative.

From the Independent:

Retailers delivered their worst performance for nearly a quarter of a century last month and there is little sign of relief for them any time soon.

Some 60 per cent of UK retailers said that sales in the first half of August were lower than a year ago, while just 13 per cent said they had increased, the CBI Distributive Trades Survey revealed.

The CBI data reinforces a widely held view among retailers that it could be 2010 before consumers, who are squealing from soaring food prices, utility bills and motoring costs, return to the high street with the vigour of previous years. The survey is also the latest to contrast sharply with the Office of National Statistics’ retail sales data, which showed a 0.8 per cent rise in July and have recently drawn gasps of disbelief from retailers.

The CBI said the resulting rounded balance of minus 46 per cent of retailers posting falling sales was the worst since the survey began 25 years ago, although the business organisation said it had tweaked its answering practices over those years….

The CBI said sales were weak across all retailers, except for grocers, which posted modest growth on a year ago. It said the sectors related to the housing market, particularly durable household goods, furniture and carpets, continued to face “very difficult” conditions. For example, all the furniture and carpet retailers surveyed said their

sales had fallen between 29 July and 13 August, compared with a net balance of plus 46 per cent for the same period last year.

Arctic ice ‘is at tipping point’ BBC

Why did Truman drop the bomb? Mies Economics Blog

Bell Labs Kills Fundamental Physics Research Wired

Zoom airline collapses and halts all flights Times Online

Sense and Reality on Energy Floyd Norris, New York Times

Merrill losses wipe away longtime profits Financial Times

Weasel Brokers Whine When Faced With New Rules Susan Antilla, Bloomberg

Accounting for Quality: the Quality of Accounting David Merkel. Gives a reasoned thumbs down to SEC proposal to adopt international accounting standards. The post is worth reading, and he plans to provide a link so you can complain to the SEC.

Fitch Downgrades WM Covered Bonds Program to ‘AA’ MarketWatch (hat tip reader dh). Any reader intelligence on this one appreciated. This doesn’t look so good for such a new market and such a recent issue.

Antidote du jour. A reader kindly sent me this photo, and I cannot locate the e-mail to give a proper hat tip, so e-mail me again and I’ll amend this post. The legend came with the photo and is not a personal view of mine.

Last year, we put America on Banana Republic watch, and sadly, things appear to be playing out as we feared:

I’m certain you’re familiar with the expression “death wish.” I am beginning to wonder whether America has a banana republic wish. The country has been taking steps towards being a small-minded, elite-dominated, sham democracy.

Mind you, I am pointing to a tendency, not an established fact. The US isn’t Haiti, or even Argentina. But we are moving in that direction on a variety of fronts, and the devolution seems so concerted that I wonder if there is some unconscious mass desire to give up on the messiness and ambiguity of an open society and surrender to the certainty of one with institutionalized inequality, more authoritarianism, but more predictability, and perhaps an illusion of greater security.

What triggered this line of thought? Something surprisingly minor: the April employment report,…But even this disappointing figure may have been the product of manipulation, as we will discuss in due course. And we’ve now had so many instances of what charitably may be called artful reporting that it’s beginning to undermine my faith in government statistics. Unreliable government statistics are a Banana Republic Indicator….. the integrity of that data is becoming compromised on enough fronts so as to render them suspect. And inaccurate data leads to bad business and bad policy decisions. Bad policy decisions are particularly likely since the information is massaged so as to minimize unpleasant news.

What is remarkable is that today’s 2Q GDP revision. from a 1.9% that most observers regard as likely to be revised downward (and initial releases are often revised by significant increments), has now been revised to a simply not credible 3.3%. We’ll discuss in a bit how this artwork was achieved.

Yet what is more remarkable is that a quick read of the MSM (Bloomberg, Financial Times, the Wall Street Journal, and the New York Times) reveals that no source seems willing to challenge this practice and call it for what it is, manipulation for political purposes. Some economists quoted by the MSM instead politely chose to ignore the dead body in the room and argue, essentially, that this supposed data point was irrelevant as far as the outlook was concerned. Here we see some tiptoeing around the tulips quotes:

Bloomberg: “Outside of trade, the economy is considerably weaker,” said Carl Riccadonna, an economist at Deutsche Bank Securities Inc. in New York. “When you look at the spending, it looks terrible for the second half of the year.”

Reuters: “This number seems to overstate the underlying strength even though exports are obviously strong,” said James O’Sullivan, an economist at UBS Securities in Stamford, Connecticut.

Now of course, there is good reason for less than a full-bore assault. One is that by the time someone made all the Freedom of Information Act filings to get enough of the supporting work to prove this number was massaged, we’ll be not just into the next Adminstration, but into the recovery. Second, economists are supposed to be sober and analytical. Stirring controversy is not part of their job description.

Nevertheless, there were quarters in which doubts were expressed more strongly. Zubin Jelveh at Portfolio provided this quote:

RDQ Economics: “The strength of the economy in the second quarter suggested by the expenditure estimate of real GDP growth seems truly bizarre and is a product of a declining real trade gap.”

Bloggers, needless to say, were less inhibited, with Barry Ritholtz, long on the bogus statistics beat, leading the charge:

GDP is out, ticking higher to 3.3% rather than 2.7%

And if you believe that data, I also have a bridge for sale in Brooklyn.

Why the beat on the headline figure? Aside from the usual inflation nonsense, there were two other factors: Exports, which rose to 13.2% (versus earlier reported 9.2%) and Inventories, which also played a part in the apparent strength.

My fishing buddy John Silvia of Wachovia put it into context:

“The overwhelming story is that the export numbers have offset this domestic weakness in consumer spending and business investment. We have a domestic recession.”

Also worth noting: larger than earlier reported gains in every single government expenditure category. If you are wondering why the government does not know what it is actually spending in near real time, welcome to the club.

That boldface was mine. If that isn’t sus, I don’t know what is.

Barry in a later post, with the help of a chart provided by Michael Panzner, found the real smoking gun: a laughable assumption for inflation. The lower the inflation assumption, the higher the GDP figure. Not only was the 1.2% chosen lower than CPI, which has been adjusted over time to underreport inflation so to reduce payouts on CPI-indexed programs, most notably Social Security, but as a commentor on Econompics noted, constituted the biggest gap between the GDP deflator and CPI since 1980 (squinting at the chart, that seems to be accurate):

Mind you, this massaging is taking place on top of long-running adjustments that make both GDP and inflation stats questionable. Is it time to revive the 1960s expression “credibility gap“?

Refreshingly, some in the MSM are coming close to doing so. This story in Bloomberg, “Lagging Incomes Signal U.S. Economy Weaker Than GDP Suggests,” which came out within hours of the release, discusses the disparity between incomes data and GDP without taking on the GDP report frontally. That’s a step in the right direction.

From Bloomberg:

The meager gains in earnings over the last year signal the U.S. economy is in much deeper trouble than the growth estimates indicate, economists said.

Gross domestic income, or the money earned by the people, businesses and government agencies whose purchases go into calculating gross domestic product, rose 0.3 percent in the 12 months ended in June after adjusting for inflation, according to Bloomberg calculations based on today’s Commerce Department growth report. GDP expanded 2.2 percent.

“The income side of the economy, with profits down for four straight quarters and employment falling, looks like a recession,” said John Ryding, chief economist at RDQ Economics in New York.

Incomes last quarter grew 1.9 percent at an annual rate after adjusting for inflation, a little more than half the 3.3 percent gain posted by GDP, according to Bloomberg calculations. The figures showed incomes dropped in each of the prior two quarters.

“What you are seeing is more legitimate economic weakness in the income numbers,” said James O’Sullivan, a senior economist at UBS Securities LLC in Stamford, Connecticut. “The GDI numbers raise the potential that GDP is overstating growth.”

The 1.9 percentage-point difference between the GDI and GDP over the last 12 months is the biggest in the post World War II era…..

The income numbers are more in line with other figures that indicate the economy struggled from April through June. The jobless rate was 5.5 percent in June, up from 5.1 percent at the end of the first quarter, and employers cut 165,000 workers from payrolls, according to the Labor Department.

“I’m looking at the labor market, and the GDP income numbers make more sense,” said Ryding. “It certainly did not feel like 3.3 percent growth.”

The earnings data may more accurately predict the start of economic contractions, according to researchers at the Federal Reserve.

Income adjusted for inflation “has done a better job recognizing the start of recessions than has the growth rate of real GDP,” Jeremy J. Nalewaik, a Fed economist wrote in a December 2006 report. “Placing an increased focus on GDI may be useful in assessing the current state of the economy.”

While the income and growth figures should theoretically match, the different methods used in calculating the numbers prevent them from converging fully.

Reader Michael sent us a Credit Suisse Equities research report dated August 27 and called our attention to the section on China. Note that the analysts did some primary research to try to get a grip on the post-Olympics outlook. They expect a widespread, albeit not too severe, slowdown (click to enlarge, and yes, it is quite readable once you do so):