Econowatch

David Rosenberg ranks up there with the very best economic minds currently practising the dismal science, and last week he returned home to Toronto, to a new job as chief economist with Toronto firm Gluskin Sheff, after a seven-year stint as lead economist with Merrill Lynch in New York.

While he was south of the border, Rosenberg became known as one of a precious few economists willing to warn of serious trouble ahead. While most of Wall Street constructed complicated justifications for the gravity-defying surge in housing and stock prices, Rosenberg warned again and again that it would end in tears. As we all know by now, it did. And, in all honesty, it’s been a fair bit worse than even Rosenberg predicted. It spread pain around the world and, ironically, destroyed Rosenberg’s own firm. Even the men who paid his salary weren’t paying close enough attention to his sobering analysis of a market gone mad.

One of Rosenberg’s most memorable contributions at Merrill was his list of 13 rules for fledgling economists. They’re all worth memorizing, but one stands out: get the U.S. consumer right and everything else will take care of itself.

That seems especially relevant right now because, for the past month or so, there’s been a lot of talk about “green shoots” in the economy. On the back of a smattering of fairly encouraging data, we’ve seen a rousing surge on the stock markets. Many economists are convinced that the worst of this crisis has passed and sunny days are just around the corner. But the end of the crisis phase and the beginning of a true recovery are two different things, and to understand why, you need only to remember Rosenberg’s advice: keep your eye on the consumer.

We know from past experience that it is possible for the economy to recover without creating any new jobs. It’s possible for GDP to grow while huge industries and vast regions are in turmoil. But can the world economy recover while U.S. consumers are in shock? Can the U.S. and its trading partners thrive while hundreds of thousands of Americans are still losing their jobs every month? While millions are seeing their home values sink, and thousands are being foreclosed upon each week? April’s flaccid retail sales numbers provide an unpleasant hint at the answer. We’ve seen many amazing things in this recession, but a global rebound taking hold while ordinary Americans are still too terrified to spend? That would top them all.

GRAPH OF THE WEEK: Eyes on the warehouse

For a clue as to when manufacturers will increase production and hire workers again, watch the relationship between sales and inventories. Typically, manufacturers maintain inventories at about 1.25-times sales. But as sales plunged faster than production in the past year, inventories have ballooned to around 1.5, and must be sold down before factories can start accelerating again.