The Recovery Is an Illusion: John Williams
Source: JT Long of
The Gold Report
John Williams, author of the ShadowStats.com newsletter,
shines light on his interpretations of the GDP, CPI, unemployment
and other government statistics in this exclusive
interview from the recent Recovery Reality Check conference.
Highlights include what the money supply measures tell him and
why QE3 will be a hard sell.
The Gold Report:
John, at the recent Casey Research Recovery Reality Check
conference you described the economic recovery heralded by the
Obama administration as an illusion based largely on skewed
inflation data. Can you walk us through why, based on your
calculations, a recovery is impossible?
We can start with the gross domestic product (
), which like most economic reports is adjusted for inflation. If
you take inflation out of it, what is left should be changes in
economic activity, as opposed to changes from prices going up or
Reported GDP activity for Q3/11, Q4/11 and Q1/12 was above
where it had been going into the recession. Formally, that is a
recovery. The problem is that no other major economic series
shows that same pattern, which is a physical impossibility if the
GDP numbers are accurate.
I contend that the recovery is an illusion created by the
government using inflation numbers that are too low when
deflating economic series. The lower the inflation rate you use
for adjustment, the stronger the resulting inflation-adjusted
In addition, a number of reports such as payroll employment
have no ties whatsoever to pricing or inflation. Payrolls have
risen a little bit since the trough, but they just recently
recovered the levels they hit before the 2001 recession, some 12
years ago. They have not come close to their pre-2007 highs.
Would you include the unemployment rate among those unreliable
reports, given that it does not count people who have stopped
looking for jobs or are underemployed?
It is a matter of definition, but that is right as to the
headline number at 8.1%. Looking at the number of people who
consider themselves unemployed, there has been no real decline in
the unemployment rate. It remains at a level not seen outside of
the worst recessions.
If you include people who are out of work and have given up
looking for work, but consider themselves unemployed because they
would take a job if one were available, the unemployment rate is
something over 22%. Again, this is not a number tied to
You compared that to the Great Depression in your
During the Great Depression, the estimated unemployment rate
peaked in 1933 at 25%. But that included 27% of the population
living and working on farms. Today, less than 2% of the
population works on farms. A more meaningful comparison perhaps
would be the non-farm unemployment rate, which in the 1930s
peaked at about 35%. We are still shy of that.
Which is a more accurate indicator, the payroll employment rate
or the GDP?
The indicator here, in terms of payroll employment or the number
of jobs, is well off its peak. There has been no employment
growth in 10 years, despite 10% growth in the population. There
is no recovery based on the employment data, which is a
coincident indicator. That is a more accurate picture of what is
happening in the economy than the rosy scenario coming out of the
Another series that has no ties to inflation is housing
starts. This is perhaps the hardest hit area of the economy. It
peaked in 2006, has dropped about 75% and is bottom-bouncing. It
is stagnant at a historically low level.
Consumer confidence is the same. It plunged and is
Consumer liquidity is related to consumer confidence. There is a
lack of positive, inflation-adjusted income growth. Your
statistics show the real average weekly earnings for production
for non-supervisory employees was down 0.6% from the first
quarter of 2011. It peaked in 1973 and has been going downhill
ever since. How important are real earnings and associated retail
spending to a recovery?
They are quite important. We are not in recovery because
consumers are in severe financial straits. There is a structural
problem with income. We have lost a lot of jobs
offshore-generally higher paying production jobs-due to our
ever-expanding trade deficit.
Not only are average earnings down at an individual level, so
is household income. In the 1970s, when earnings peaked, it was
more common to have one person in the household working, usually
the husband, with the wife at home raising the kids. As
individuals saw their income drop off faster than inflation, many
households needed to have two people working to make ends
Adjusted for the government's inflation measure, household
income continues to shrink month after month. Without real growth
in income-growth that's faster than the pace of inflation-you can
never have sustained, positive growth in consumption. You can buy
short-term growth through debt expansion, but the key is
Student loans, which are up 29.9% from 2011, have been in the
news lately. Are student loan burdens and their interest rates
having a real impact on the economy or are they just an isolated
I think of student loans as one part of outstanding consumer
credit. A lot of people looking at the system's liquidity believe
that consumer credit outstanding has almost reached its
pre-recession high. That is due solely to the expansion of
Normal consumption lending-credit cards or fixed loans-has
been dropping off and is bottom-bouncing. The extraordinary
growth in student loans looks like a big problem going forward, a
bubble like the mortgage market.
If you look at the overall bank lending, banks' balance sheets
are so impaired that they cannot lend normally. Everything
considered, bank lending is flat.
Is our GDP structured such that domestic consumer spending is
needed for a recovery?
Consumer spending accounts for 71% of the GDP and everything else
is pretty much related to it in some form or another.
For example, look at retail sales. If you remove the
artificially depressed inflation numbers imposed by the
government, you see a pattern of plunging activity and
bottom-bouncing. The same is true for industrial production.
The liquidity problems are at a point now that consumers, both
in terms of income and credit, have not been in a position to
fuel a recovery. There is no recovery coming. That has all sorts
of implications for the markets.
We had a financial panic and a near collapse in 2008. The
people in Washington, D.C. had to prevent a collapse. The primary
function of the Federal Reserve is to keep the banking system
healthy, to keep it afloat. Taking care of the economy and
containing inflation are secondary goals.
The federal government and the Fed created, spent, guaranteed
or loaned whatever money was needed to keep the banking system
alive, and the government will do that again. The problem is,
that creates inflation and is not very effective. Yes, we avoided
a systemic collapse, but the banking system is still in trouble
four years later. The solvency crisis continues. The economy has
not recovered. All they have done is kick the proverbial can down
What do your money-velocity statistics show relative to the
existence or absence of a recovery?
I still track what used to be the broadest measure of the money
supply, M3. There are three M measures. The M1, the smallest
measure, includes cash, checking deposits, traveler's checks and
such. The M2 includes M1 plus savings accounts, small time
deposits and retail money market funds. That is as far as the Fed
It used to have an M3 category, which included M2 plus
substantial categories such as institutional money funds and
large time deposits. The M3 is almost twice as big as the M2. The
Fed stopped reporting M3, but I still track it.
A lot of people have noted the strong growth in M2 recently,
but I believe that growth is out of context. That growth is due
to funds flowing out of M3 accounts into M2 accounts. The
broadest measure, M3, had some recent growth, but it is beginning
to stagnate and turn down. That is a sign of stress in the
I put together a stress measure based on the ratio of M3 to
M2. When the ratio is high, you generally have good confidence in
the banking system. Big, uninsured funds are flowing into the
At the crisis point in 2008, the ratio plunged. Immediately,
the Fed introduced quantitative easing (QE). When that failed to
bring the banks around, it introduced QE2. The ratio of M3 to M2
continues to worsen. I would expect we will see QE3 from the Fed
in the not-too-distant future.
The Fed may call it something else, because QE3 will not play
well politically to announce the infusion of a couple of trillion
dollars into the banking system. The Fed will say it is necessary
to stimulate a slowing economy.
This is a very dangerous situation, one that eventually will
lead to a massive decline in the U.S. dollar. Global confidence
has been lost in the dollar. I think the Fed's next action will
trigger renewed dollar selling, leading to dollar inflation,
which is already starting to accelerate. Weakness in the dollar
tends to spike oil prices, a big factor behind domestic
We have been having inflation in a weak economy. Instead of
being driven by strong demand-which is a relatively happy
circumstance for having inflation-inflation today has been
created by a weak dollar and unstable monetary policy by the Fed.
That is not a happy circumstance. It is a circumstance that
promises much higher inflation as people look at preserving their
The federal government has been reporting inflation between 2% to
3%. You just updated your 2012 hyperinflation report. What is
real inflation right now?
The government's numbers are accurate by its definition, but they
are not what people think they are. Over the years, the
methodologies have changed.
The average person thinks that the Consumer Price Index (
) measures inflation, that it reflects the cost of maintaining a
constant standard of living. They also believe that it reflects
out-of-pocket inflation. It does not, nor does it reflect the
cost of maintaining a constant standard of living.
After World War II, the CPI was used to measure the cost of
inflation for a fixed basket of goods and services. For example
the basket of goods might contain a gallon of gas, a pound of
steak and a loaf of bread. The government would measure the same,
year after year. However much the price had gone up, that was how
much inflation had gone up.
In the 1990s, Fed Chairman Alan Greenspan and Michael Boskin,
then chairman of the Council of Economic Advisors, started
pushing the story that the CPI was overstating inflation. They
figured that adjusting the CPI reporting would reduce the Social
Security cost-of-living adjustments. That is why they did it. If
they had not changed the CPI, Social Security checks would be
about double what they are today.
But at the same time, they introduced a substitution that made
the CPI worthless for anyone trying to use it as a target for
calculating, for example, what their minimum return on investment
should be in order to maintain their standard of living.
If you use an inflation rate that is too low, you get a
too-strong inflation growth. You see recovery that is not there,
which is what we've been seeing.
Other changes have been made beyond the CPI substitution.
Usually, when the government changed its methodology, it
published an estimate of the change's effect on inflation. If you
add all of those changes together, you find that, since 1980,
about five percentage points have been taken away from the annual
inflation rate. Another two percentage points can be attributed
to changes the government did not consider methodological and
therefore did not estimate the effect, but they are very much a
So, seven percentage points have been taken out of the CPI. If
inflation is being reported at 2.5%, adding that 7% back in puts
inflation up around 9.5 to 10% using the 1980 CPI methodology.
Using the 1990 methodology, it would be 6% to 7%. That is what
people need to be making to stay ahead of inflation.
What can individuals do to protect themselves if the
hyperinflation you are predicting comes to pass?
We keep moving down the road to hyperinflation. This is not the
time to worry about short-term gains or losses in the
marketplace. It is the time to make sure your basic wealth and
assets are protected against inflation, and that you are in a
position to ride out a bad financial storm ahead.
How do you do that?
Your primary hedge is physical gold; precious metals, including
silver; and some assets outside the dollar. I still like the
Swiss franc-its ties to the euro will not last. I like the
Australian dollar and the Canadian dollar. Having funds actually
outside the U.S. is a plus. To get through the crisis, you need a
hard asset that is liquid for the near term.
Over the longer haul, gold stocks are wonderful hedges, but if
the system gets into real trouble, which I think it will, you may
have liquidity issues in the market. I am talking about
limitations on the physical ability to transact in the market.
You may also have liquidity problems with real estate, although
over time, real estate is a tremendous hedge against
What is the best investment advice you ever received?
Well, I do not generally take investment advice, but the best
investment advice I ever gave myself was to buy gold.
Advice our readers will appreciate. John, thank you for your
Walter J. "John" Williams
has been a private consulting economist and a specialist in
government economic reporting for 30 years. His economic
consultancy is called Shadow Government Statistics. His early
work in economic reporting led to front-page stories in
The New York Times
Investor's Business Daily.
He received a bachelor's degree in economics, cum laude, from
Dartmouth College in 1971, and was awarded a Master of Business
Administration from Dartmouth's Amos Tuck School of Business
Administration in 1972, where he was named an Edward Tuck
Williams went into much more detail about the economic
troubles he foresees for America during his presentation at the
recent Casey Research Recovery Reality Check Summit. You can
hear it in its entirety, as well as every recorded summit
presentation with the Summit Audio Collection. It contains over
20 hours of recordings and features contrarian investing legend
Doug Casey, Porter Stansberry of "End of America" fame, former
director of the US Office of Management and Budget David
Stockman, and Thoughts from the Frontline Editor John Mauldin.
All together, 31 of the greatest financial minds of our time
were on hand to share their views of the economy and offer
actionable investment advice, including specific stock picks,
to protect you in these troubling times. For more information
about how to add this invaluable collection to your resource
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