Washington D.C. Accounting Magic and Wall Street Greed by Tony Sagami, Mauldin Economics

“I’m from the government, and I’m here to help you.”

My grandparents Fushakichi and Mitsue Sagami, my father, and my nine uncles and aunts were among the 110,000 Japanese-Americans living on the Pacific coast who were locked up for almost four years in internment camps during World War II.

Despite that treatment, my father was passionately patriotic about America. He’s the only man whom I’ve ever known who would stand at attention and place his hand over his heart in his own home when the national anthem was played on TV before a sporting event.

My father taught all of his children to love this country. “In America, you can be president, Tony,” my parents regularly told me. I didn’t become president, but my siblings and I are truly great American success stories.

That’s why I cringe whenever I see politicians like Senator Robert Menendez and Congressman Anthony Weiner behaving badly and bringing shame to our country.

But our elected politicians aren’t the only ones who stretch the truth. Some of our government agencies are just as bad, and that’s why I always dig below the headlines to figure out what the real truth is.

Take last week’s report from the Commerce Department about personal income, personal spending, and price.

The Commerce Department reported that wages increased by 0.3% and that American spending was up 0.1% in the month of February. That wasn’t much of an increase in spending, but Wall Street interpreted that as a giant victory given the heavy snow that covered the Northeast in February and sent the Dow Jones Industrial Average up by 263 points, or 1.5%.

accounting magic

Wall Street was impressed, but they shouldn’t have been, because those numbers were massively massaged and very misleading.

The Commerce Department used some accounting magic to come up with that positive spending number.

The Commerce Department uses something called the Price Consumption Expenditure or PCE deflator. The PCE is a mathematical attempt to factor in price changes to come up with inflation-adjusted numbers. The PCE deflator converts “real” numbers into “adjusted” numbers, and that’s where the deception lies.

More often than not, the massaged numbers are changed to fit the needs of our lovely elected officials in Washington, DC. In short, the PCE numbers are a bunch of crap.

But I digress.

Since October, the magic calculator of the PCE deflator had been flat or even negative, but the Commerce Department decided to change the PCE deflator to +0.2 in February. The excuse for the change was to adjust for the drop in gasoline prices.

That seemingly small adjustment to the PCE deflator changed the “real” numbers from negative to positive. Instead of personal spending being up +0.1% in February, the original unadjusted number was -0.1%.

So much for being positive.

And the PCE isn’t an isolated issue, either. There are all sorts of accounting hanky-panky going on in Washington, DC.

But perhaps the biggest impact on the Bureau of Labor & Statistics inflation model is the slippery concept of “Hedonic Quality Adjustment” that attempts to adjust for improvements in quality. Here is an example from the BLS’s own website.

accounting magic

Item A is an old TV model that’s been discontinued, and Item B is a new, fancy plasma TV.

The new TV costs five times as much as the old TV, but because the quality of the new TV is so much better, the BLS adjusts the price to factor in the higher quality.

accounting magic

The result of that massaging is that the BLS claimed that the “adjusted” price of the new $1,250 TV is actually 7.1% cheaper than the $250 TV.

accounting magic

Yup. 7.1% cheaper. Really!

The BLS applies this accounting magic to everything that’s part of the CPI, so all kinds of things we buy are getting “cheaper” even though they’re going up in price.

These lower prices help keep increases to things such as Social Security payments and TIPS (Treasury Inflation Protected Securities) bonds low.

Love your country, like my father, but always keep a skeptical eye on everything that comes out of Washington, DC.

And don’t even get me started on the accounting hanky-panky that the accounting departments of publicly traded companies use to goose their earnings numbers.

The professional liars make the Washington, DC crowd look like amateurs; that’s why I apply the same skeptical analysis to corporate America in my Rational Bear service. You can read about two companies which recently appeared in Rational Bear: both are facing terrible earnings due to the stronger dollar.

You can also join me at John Mauldin’s Strategic Investment Conference in San Diego on April 29 to May 2. The speaker lineup is the best I’ve ever seen anywhere. This is the one conference you should attend. For more information, go to http://www.altegris.com/mauldinsic.

Tony Sagami

30-year market expert Tony Sagami leads the Yield Shark and Rational Bear advisories at Mauldin Economics. To learn more about Yield Shark and how it helps you maximize dividend income, click here. To learn more about Rational Bear and how you can use it to benefit from falling stocks and sectors, click here.

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