The retail report today was unexpected good news (see here). Retail sales ex-auto increased 1.1 percent, beating the best of the Bloomberg estimate range (0.8 percent). Even sales ex-auto and ex-gas were up, by 0.6 percent. This is particularly impressive because the three times that auto sales experienced such a noticeable jump, ex-auto sales actually contracted. Can this continue?

Probably not. While consumer spending may be on the increase, consumer credit is decreasing. Worse, consumer defaults are up. As reported by Bloomberg, U.S. Credit-Card Defaults Resume Ascent as Unemployment Worsens:

JPMorgan Chase & Co., Bank of America Corp. and Citigroup Inc., the biggest U.S. credit- card lenders, said defaults climbed in August as the unemployment rate jumped and the impact of tax refunds waned.

American Express Co. was the only one of six card-issuers releasing data today to report an improvement in the rate of both defaults and delinquencies, a signal of future write-offs.

…

Discover Financial Services, the credit-card company that took $1.2 billion from the Treasury Department’s rescue fund, said charge-offs rose to 9.16 percent from 8.43 percent in July. The Riverwoods, Illinois-based lender is scheduled to report third-quarter results on Thursday.

Capital One Financial Corp., the third-biggest issuer of Visa Inc. credit cards, said charge-offs improved to 9.32 percent in August, from 9.83 percent.

Delinquencies and charge-offs are expected to increase further. Reduced credit and high unemployment will weigh a bit on consumption. I don’t have quite the faith that others have that people are becoming more frugal. In fact, if the economy exhibits signs of stability into November, I expect the consumer credit problem to explode post-Christmas. I’d expect retail to do well over the Christmas shopping season and then absolutely disappear. Delinquencies would then spike. That’s my optimistic forecast. I also believe stable signs through November are perfectly correlated with this junk rally. I do expect some Retail weakness in the September and October numbers, but as long as they don’t completely collapse, my optimistic forecast has a good chance of unfolding.

If people really are becoming frugal, then I’d expect a lousy Christmas. I’d prefer my bad news sooner rather than later, though. Without an employment miracle on 34th street, I think the bad news is inevitable.

A significant source of jobs would completely negate my thesis. An expansion in consumer credit in November would delay the reckoning (How long? Wish I knew), potentially providing time for the source of jobs to appear. Genuinely good retail numbers in September or October can go either way. If things improve, look for improvements in retail employment, further delaying a reckoning. An end to this junk rally that doesn’t result in a stock market collapse invalidates my thesis (it also lends some credibility to those that believe this is a real, possibly sluggish recovery).

There’s also one big fact I’m ignoring: a significant chunk of consumption is concentrated at the wealthiest end of the spectrum. An uptick in their consumption can fuel a recovery even without the employment situation improving (and still with a net decrease in consumer credit). Unfortunately, I think that would be the worst of all possible options. That would cause a shift in numbers from the formerly middle class to the new ranks of the lower class. The alternative, that the rich manage to spend in such a way that improves the middle class situation, seems a bit … trickle down.