There’s some good news in the market selloff

I’m no happier than anybody else to see a reeling stock market, triggered most recently by earnings misses at big retailers such as Target and Walmart. But I’m delighted by some of the details. You should be too.

One of the reasons retailers are underperforming is they built inventories of goods they’re now having trouble selling. That might force them to sell excess inventory at a discount, as Yahoo Finance’s Brian Cheung reported on May 19.

That’s excellent news! Here’s why: Remember, like, yesterday, when the biggest problem in the economy was a shortage of goods? Broken supply chains? Chip shortages? Jammed ports? Missing truckers? Any of that ring a bell?

One big cause of inflation, now 8.3%, was a huge mismatch between soaring demand for furniture, appliances, electronics, home remodeling materials and other things we spent all our money on during the stay-home phase of the COVID pandemic. Few people wanted to go out or travel back then, which caused a massive shift of spending toward goods, away from services. There wasn’t enough supply to meet the demand for goods, so prices soared and there were suddenly wait times for ordinary things.

If retailers are now telling us they’ve got more stuff than people want to buy, that means consumers are rebalancing their spending back toward more normal patterns. YES! It’s been a long time coming. And it’s good news for the direction of inflation.

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Consumers may be buying less stuff at Target and Walmart (and Amazon), but spending is still strong. Retail sales in March and April were robust, but the biggest gains in April came in automobiles—which Target and Walmart don’t sell. Americans also spent less on food eaten at home and more on going out to restaurants. The April numbers tell us what was happening in the first part of the second quarter, while those Target and Walmart results are for the first quarter. Anybody who can remember back that far might recall the COVID Omicron surge that sent shoppers back to hibernation at the start of 2022.

Travel bookings for this summer are strong. That won’t show up in economic data till mid or late summer, and in earnings numbers for travel companies until late summer or fall. Meanwhile, there will probably be a lot of coverage of high airfares, overbooked planes and packed hotels. But this is what getting back to normal looks like. It’s an encouraging sign and something economists have been watching for since the COVID recovery picked up steam toward the end of 2020.

The Federal Reserve is hiking interest rates fairly aggressively, to depress demand for stuff consumers and businesses buy on credit. Raising rates makes those purchases more expensive, and spenders buy less. Reduced demand bring prices down, eventually.

The retailers are telling us demand for some things is already dropping. That’s a start at getting inflation under control. Again, those first-quarter numbers came mostly before the Fed started raising rates. Actual rate hikes in the second quarter and beyond could cut into retailer profits further. That may explain why those stocks have taken an unholy beating. But anything that brings inflation down, in any category, ought to be good for the overall economy.

Inflation in other categories could remain troublesome. The most obvious problem for consumers is high gasoline and household energy prices, and that could get worse as Russia’s war in Ukraine drags on and more nations stop buying Russian oil. Service-sector inflation could heat up as more spending shifts in that direction. Again, however, that would be a welcome shift back toward pre-pandemic spending patterns and a relief on stressed supply chains for goods.

Markets don’t see any of this as good news, for now, because they’re gauging the odds of a recession in six or nine months’ time. Since consumer spending is such a huge part of the US economy, any sign of reduced spending can mean the Fed is overshooting and depressing demand too much. Markets also don’t have a good mechanism for measuring the unprecedented shifts in spending we’ve seen during the pandemic, including what may now be a shift back toward normalcy.

If discounts at Target, and cheaper goods overall, do bring down inflation, however, markets will roar. The next batch of inflation numbers comes on June 10, and a notable drop from the current level of 8.3% would suggest the Fed might have more wiggle room on rate hikes than the market now expects. If there’s a consistent drop in inflation for the next several months, the market will start to get more comfortable with the idea that the Fed can lower inflation without causing a recession. Even the retailers would cheer that.

Rick Newman is the author of four books, including “Rebounders: How Winners Pivot from Setback to Success.” Follow him on Twitter: @rickjnewman.

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