U.S. Small Business OptimismImproves But Credit Remains Tight With Hiring Cautious

Small business' optimism recently recovered from its recession low, but the latest readings indicate further, modest upside movement. The National Federation of Independent Business (NFIB) indicated that their small business optimism index rose to 89.1 during October, the third consecutive monthly gain. The latest level was the highest since September '08. During the last ten years, there has been an 85% correlation between the level of the NFIB index and the two-quarter change in real GDP.

The percentage of small businesses expecting the economy to improve bounced back after earlier weakness to 11, the highest since May. The percentage which thought that now was a good time to expand the business slipped m/m to a still-improved 7, near the highest level this year. Moreover, the percent reporting higher net-earnings this quarter versus last year held at -40 m/m for the third month, meaning fewer were reporting negative earnings versus last year. It was the highest level since November.

Tight credit conditions continued as 14% of firms indicated that it was harder to get credit. That was near the 1981 high of 15%. Perhaps because of these tight conditions, the recent improvement in business' sentiment has done little, if anything, to improve hiring intentions. The percentage of firms planning to raise employment remained in the net-layoff region and the percentage of firms with one or more job openings held at just 8% during October, the lowest level since 1982. During the last ten years there has been a 74% correlation between the NFIB employment percentage and the six-month change in nonfarm payrolls. Also to the downside, the percentage expecting credit conditions to ease slipped back to the February low.

Pricing conditions eased. The percentage of firms actually raising prices improved to -17 (indicating deflation) and remained just above the record low. During the last ten years there has been a 69% correlation between the six-month change in the producer price index and the level of the NFIB price index. The percentage of firms planning to raise prices gave back the prior two months' improvement and fell to a net 6, though that remained up from the March low of zero. Worker compensation fell back to near its recent series' low.· The largest, single most important problems seen by business were poor sales (33%), taxes (22%, near the highest level since 2007), government requirements (11%), insurance cost & availability (8%), competition from large businesses (6%) and inflation (2%).

About 24 million small businesses exist in the United States. Small business creates 80% of all new jobs in America and the NFIB figures can be found in Haver's SURVEYS database.

Financial Regulation: Past and Future is the title of yesterday's speech by Fed Governor Daniel K. Tarullo and it can be found here here.

The ZEW measure of confidence among German institutional investors and analysts in the macroeconomic outlook six months ahead declined in November to 51.1 from 56.0 in October.  While the extent of the decline was greater than expected, the optimists on the outlook still outweigh the pessimists by 51.1%.  A year ago the pessimists outweighed the optimists by 53.5%.  Moreover, the current reading is well above the long term average of 26.9%.

Although there has been some improvement in the appraisal of current conditions, the majority of investors and analysts still view current conditions negatively.  The excess of pessimists over optimists among the respondents declined to 65.6% in November from 72.2% in October.  The first chart shows the two indicators:  the macroeconomic outlook and current conditions.

Some of the reasons why the respondents have become more cautious about the outlook  may be found in their appraisal of the profit prospects in the thirteen industries regularly canvassed.  In November, the respondents expected declines in profits in seven of the industries and increases in six.  Declines in profits are expected in Banking, Insurance, Steel and Metal, Consumption/Trade, Utilities, Telecommunication and Information Technology.  Increases in profits are expected in Vehicles/Automotive, Chemicals/Pharmaceuticals, Electronics, Machinery, Construction and Services.  Selected industries where profits are expected to decline are shown in the second chart and selected industries where profits are expected to increase are shown in the third chart.  Profit expectations in the Banking and Insurance industries have been declining since August and appear to have had the biggest negative reappraisal.

There's little to suggest that current inflation is a problem for the U.S. economy as consumer & producer prices remain weak. Nevertheless, market signals suggest a future problem may be developing. Higher gold prices are one of the more visible indicators of pending inflationary power with its rise yesterday to an all-time high of $1,107 per ounce. That strength has been accompanied by a drop in the trade-weighted value of the U.S. dollar to its lowest level since the summer of last year.

U.S. monetary & fiscal stimulus has done much to generate this inflationary scenario. Low interest rates and the propping up of the banking system have combined to generate an excessive 60% y/y rise in the monetary base and 12% y/y growth in the money supply (M1). Fiscal stimulus is more-than-evident in the budget deficit which ballooned last year to $680 billion and is projected by OMB to be around $1 trillion for the next ten years. Of course, monetization of this deficit is the worry.

The end of the U.S. recession and of the recessions abroad have given rise to energy prices which potentially could fuel higher inflation. Though they are down slightly from the early-October high, crude oil prices at an average $79.43 per barrel yesterday were up sharply from the December low of $32.37. For all of last week the spot market price for light sweet crude oil averaged $79.04 per barrel.

Consumers have seen this pricing strength, and worries abound. The pump price for regular gasoline slipped last week to $2.67 per gallon which was slightly below the June high. However, prices remain up from the December low of $1.61 and this week the wholesale gasoline price remained firm at $1.97. Though gas prices were down slightly from the October high of $2.10, worries abound about the future for pricing power. The expected rate of inflation for the next year has risen to 3.2%, roughly double the December low according to the University of Michigan's survey. Finally, higher gasoline prices have prompted a cutback in driving. Following earlier strength, the demand for motor gasoline fell slightly last week from one year earlier. The energy price figures are reported by the U.S. Department of Energy and can be found in Haver's WEEKLY & DAILY databases. The gasoline demand figures are in OILWKLY.

Natural gas prices also have strengthened ahead of the winter heating season. They slipped last week to an average of $4.27 per mmbtu (-36.6% y/y). Though they remained down by two-thirds from the high of $13.19/mmbtu reached in early-July of last year, they are more than double the low reached early last month.  A bit of good news for the pricing outlook occurred yesterday. Prices natural gas slipped further to $3.87/mmbtu.