All posts by joel

May Philadelphia Fed Survey, April Leading Indicators and Weekly Jobless Claims

KEY DATA: Phila. Fed (Manufacturing): +11.2 points; Orders: +22.2; Prices: +6.6 points/ LEI: +0.4% / Claims: +11,000

IN A NUTSHELL: “While the strong growth should continue through the rest of the year, the rising pricing power it is supporting is becoming worrisome.”

WHAT IT MEANS: The concerns about strong growth and expansionary fiscal policy being implemented at the wrong time are that inflation and interest rates could surge. So, what firms have been doing when faced with rising demand and increasing costs? One indication comes from the May Philadelphia Federal Reserve’s Business Outlook Survey. Today’s report was for manufacturers and boy was it strong. Manufacturing activity in the Middle Atlantic region jumped in early May, led by a surge in new orders. Firms are not only adding more workers to meet the growing demand but are working their current employees longer. But the real story is in the pricing data. The prices received index hit its highest level in over 29 years. You have to go back to the early ‘80s to find any period where the current level was sustained. Already, 55% of the respondents say they have been raising their prices and almost two-thirds believe they will be able to so over the next six months. In addition, firms are expecting their price increases to be in the 3% range over the next year. That has to worry the Fed members.

Looking forward, the economy should be strong for months to come. The Conference Board’s Leading Economic Index rose solidly again in April. Only two of the ten components, stock prices and housing permits, were down and stocks have done pretty well so far this month. So this index should continue to point to strong economic activity.

On the labor front, jobless claims jumped last week, but the level remains ridiculously low. Of course, I keep saying we are in a labor shortage environment, and I keep believing that, but the proof for workers is in wages and they still are not rising as fast as the claims data would imply.

MARKETS AND FED POLICY IMPLICATIONS: Right now, the trends in inflation and interest rates are not good. Oil prices continue to rise and hit levels not seen since November 2014. Until it is clear what will happen with Iranian exports, oil prices should remain elevated. I would not be surprised if prices back down, but I think we will wind up with higher oil costs as a result of backing out of the Iranian agreement. Unless that decision is modified, the Fed has to assume the higher prices, at least to some extent, are sustainable. That should be a factor in not just the speed of interest rate hikes but also in how fast the Fed will shrink its balance sheet. Meanwhile, rising oil prices and surging bond rates (the 10-year T-Note hit its highest rate in seven years) seem to mean little to investors. I guess they will worry about the future when it comes. But the Fed will not close its eyes to what is going on and a rate hike at the end of the June 12-13 FOMC meeting looks highly likely.

April Housing Starts, Permits and Industrial Production

KEY DATA: Starts: -3.7%; 1-Family: +0.1%; Permits: -1.8%; 1-Family: +0.9%/ IP: +0.7%; Manufacturing: +0.5%

IN A NUTSHELL: “Manufacturing continues to expand solidly, but the housing sector seems to be flattening.”

WHAT IT MEANS: With both short and long-term interest rates on the rise, it is time to look at the interest sensitive sectors to see if they will be sensitive to a rise in rates. Housing is the sector always highlighted when the argument is made that rising rates would slow growth. So, what is happening? It is not clear. Housing starts did fall in April, but the decline came from a drop in the always-volatile multi-family segment. Construction of single-family units was essentially flat. Between April 2017 and April 2018, starts were up over 10% and for the first five months of this year compared to last year, they are up over 9%, so it is hard to say that the sector is not doing well. Looking across the nation, there were sharp declines in housing starts in all regions except the South. As for the future, permit requests were also down, again due to a drop in multi-family segment. But the level of permits continues to run above starts, so builders will likely be using those permits in the near future.

The manufacturing sector is in great shape. Industrial production jumped in April as the three major components, Manufacturing, utilities and mining posted solid gains. On a monthly basis, manufacturing output has been up, down and all around over the past six months and over the year, it is up only moderately. While vehicle assembly rates moderated and that led to a slowing in related sectors such as metals. But there was a solid increase in the production of all types of business equipment, led by a surge computer output. It looks like the hoped-for increase in investment spending is happening.   Rising prices are generating a large jump in energy production.

MARKETS AND FED POLICY IMPLICATIONS: How high can mortgage rates go without affecting home purchases and construction? Probably a lot higher than they are currently. In the 1980s, 30-year mortgage rates were around 10%, in the 1990s they were in the 8% range and in the 2000s the rate hovered around 6%, yet housing starts were about 25% higher in each of those periods than their current level. In other words, mortgage rates could move from the near 4.5% rate to 5.5% or 6% before we discern any measureable impact. A better indicator of housing starts is housing price appreciation. When prices rise, builders build, but when they fall, watch out. Of course, home prices are reflective of demand, which is driven by the condition of the economy and income, but we are talking about indicators, not explainers. Nevertheless, prices are up sharply so we should expect home construction to continue to increase, especially since economic growth should be solid over the next year. That is the point that investors should consider when they start to panic about rising interest rates. The Fed is tightening because the economy is solid and inflation is back to where it should be. Thus, short-term interest rates, which are still historically low, should be moving back to more normal levels. Longer-term rates are increasing because stronger growth is triggering the rise in inflation back to more normal levels, so long rates should be higher as well. The point is, “it’s the economy, stupid!” A strong economy means the economy, including the housing sector, can support inflation in 2s and mortgage rates around 6%. Historically low interest rates and inflation are not birthrights and until we stop believing that, we will continue to fear the normal. We shouldn’t.

April Import and Export Prices

KEY DATA: Imports: +0.3%; Over-Year: +3.3%; Nonfuel: +0.2%; Exports: +0.6%; Farm: -1.2%

IN A NUTSHELL: “The import price pressures that had been building seem to moderating.”

WHAT IT MEANS: While economists can debate all they want about the lack of wage gains, ultimately what matters is the rate of consumer inflation. Wage increases supported by productivity gains have limited inflationary implications. But retail price increases don’t have to come from just a rise in labor expenses. We get a significant portion of our consumer and producer goods from other nations and that means we have to watch the import price numbers carefully. During the second half of last year, import goods inflation was soaring. So far this year, import price inflation has moderated, as can be seen in the April report. We know that energy prices are rising. However, nonfuel cost increases are not as threatening. They were up moderately in April. Food prices were down, capital good costs were flat and consumer goods import prices rose modestly. Just about all the gain came from the industrial supply sector and it wasn’t all petroleum. In addition to petroleum-based products the cost of other industrial inputs such as wood and minerals were also up sharply. On the export side, firms were raising prices in just about every sector except farm products. Agricultural exports are extremely exposed to a backlash from the administration’s trade policies and that may explain, at least in part, the large decline. Between April 2015 and April 2016, farm export prices were up 4.6%. Over the past year, they rose only 1.4%. In April, the only export products that didn’t show large price declines were related to fish/seafood.

An early May reading on consumer confidence came out today. The University of Michigan’s Consumer Sentiment Index was flat during the first half of the month. Expectations rose but respondents thought that current conditions were not as strong as they had been.

MARKETS AND FED POLICY IMPLICATIONS: The more moderate increases in import prices are nice to see. The rise in foreign product costs have been strong enough to convince the Fed to continue tightening but not so high that the members need to worry that inflation will suddenly soar. That is, inflation is running neither too hot nor too cold. It is running just right for rate hikes every other meeting and that is what most economists, including myself, expect. Investors seem to be growing comfortable with that pattern of rate increases and they should be. A solidly growing economy and a move back to more normal interest rates are indications that the negative impacts of the Great Recession are finally disappearing. Now we can start focusing on the next set of problems, which already be cropping up. As Jamie Dimon noted, there’s a 100% chance of another economic downturn. Of course there is. But the issues are when and what will cause it. Recessions are created by either bubbles bursting and/or policy mistakes. Potential bubbles are stocks and interest rates, while the policy mistakes could fiscal policy at the wrong time, too much Fed tightening and/or trade risks. Together, though, they do add up to a formidable list of potential issues that could derail the economy, maybe not in the next twelve to eighteen months, but not much after that.

April Consumer Prices, Real Earnings and Weekly Jobless Claims

KEY DATA: CPI: +0.2%; Ex-Food and Energy: +0.1%/ Real Hourly Earnings: 0%; Over-Year: +0.2%/ Claims: unchanged

IN A NUTSHELL: “Inflation may not be soaring, but it is high enough to  wipe out most of the gains workers are seeing in their paychecks.”

WHAT IT MEANS: Solid economic growth and tight labor markets have yet to translate into rapidly accelerating inflation. The Consumer Price Index rose moderately in April and excluding food and energy, it increased only modestly. The details, though, were all over the place. There were strong increases in gasoline and fuel oil prices, but electricity and piped gas costs fell. Food price gains picked up steam, though cookies and ice cream costs were off sharply – thankfully. Interestingly, medical care costs were tame, with medical commodity prices actually down. Over the year, both medical commodity and services costs rose less than the overall price index, a real surprise. I thought medical costs were soaring. Oh, well, another misconception put to rest. And then there are used vehicle prices, which dropped sharply. The record sales in 2015 and 2016 are having an impact as the two and three year old vehicles coming off leases are flooding the market. That helped restrain the rise in the overall index. Since people don’t usually buy vehicles frequently, I am not sure if the sharp decline in used vehicle prices matters a whole lot to the average worker. But the cost of housing does and that keeps rising sharply.

Even though inflation did not jump in April, neither did wages. So, when you adjust the rise in hourly earnings by the increase in consumer prices, you find that household spending power went nowhere. Worse, over the year, consumer costs were up by 2.4% and hourly earnings by 2.6%, so real earnings rose a pathetic 0.2%. As I say month after month, it is hard to sustain strong growth if consumers don’t have the income to spend and that is the case.

 That wages are not increasing is a conundrum that defies explanation. Jobless claims, when adjusted for the labor force, remained at record lows last week. In addition, job openings are at record highs and the number of positions available is about the same as the number of people unemployed. No matter what measure you use, even the really stupid unemployment rate, you know, the one that adjusts for people saying their frustrated or they want a full-time job but cannot find one (for whatever reason), it is clear that labor markets are tight.

MARKETS AND FED POLICY IMPLICATIONS: Today’s data raise questions that investors may not be asking. Specifically, how can companies that are linked to the consumer make money when incomes are rising minimally? The savings rate is extremely low and the recent rise seems to indicate that households are either saving the tax cuts or paying down debt. Thus, if we are to maintain a growth rate close to 3%, businesses will have to start investing the tax cuts they received. Will they do that? It makes sense to improve efficiencies by upgrading machinery and equipment, but many the large, publicly traded companies appear more intent on raising dividends, increasing stock buybacks and/or bidding for other companies. The merger and acquisition phase seems to be just getting started. So, yes, we could see 3% growth this year, but it will be hard to sustain. And if we get it, how will firms keep wages and prices down in that strong growth economy? That is the real question.

April Producer Price Index

KEY DATA: PPI (Final Demand): +0.1%; Ex-Food and Energy: +0.2%; Goods: 0%; Services: +0.1%

IN A NUTSHELL: “Despite the modest increase in wholesale costs, the inexorable rise in inflation remains inexorable.”

WHAT IT MEANS: Inflation pressures are building; there is little doubt about that. What is unclear is how much will price increases accelerate. Costs had been rising fairly sharply at the wholesale level, but that was not the case in April. A large decline in food prices coupled with a modest gain in energy helped limit the rise in producer prices to the smallest increase since December. There was minimal pricing pressure on both goods and services and even excluding the more volatile food and energy, costs rose only moderately. Over the year, the gains in both the headline and core indices decelerated, but remained in the 2.5% range, so we cannot say that inflation pressures have disappeared. Looking at the details, there were few outliers. Prices of vegetables and eggs fell sharply, a major factor in the large drop in food. Otherwise, most of the individual categories posted modest to moderate declines or increases, the majority being declines.

Looking into the future, the April report is not likely to become the norm. Intermediate level producer costs rose sharply for food, energy and core (non-food and energy) measures. That was the case at the crude product level, though food costs were down. Basically, there is building pressure in the pipeline.

MARKETS AND FED POLICY IMPLICATIONS: The inflation pressures we see in all the consumer indices are real. With oil prices above $70/barrel and the ending of the Iran agreement likely to keep prices up, it is hard to see how inflation will moderate anytime soon. The Fed looks at the headline number now, so energy matters. I have made the argument to anyone who will listen that over time, it is the entirety of retail price increases that matter to households. The headline increases in the Consumer Price Index (CPI) and Personal Consumption Expenditure deflator (PCE) have been persistently above the core increases and that is what consumers pay. The Fed has moved back toward the top line number, which makes sense. Thus, there is every good reason for the FOMC to continue to normalize both rates and the Fed’s balance sheet. Quantitative tightening will continue and is scheduled to accelerate. Rate hikes are not likely to stop unless there is a major crisis. Investors need to factor that into their thinking. Of course, with all the political issues swirling around Washington, lots of fundamental economic considerations are being pushed to the sidelines.

March Job Openings and April Small Business Optimism

KEY DATA: Openings: +472,000; Hires: -86,000; Quits: +136,000/ NFIB: +0.1 point

IN A NUTSHELL: “Businesses are optimistic and looking for workers, it’s just that they don’t seem to be available.”

WHAT IT MEANS: Another day, another set of good numbers. Let’s start with the labor market. The closely followed JOLTS report, which provides data on job openings, hiring, layoffs and quits, indicated that businesses are looking for workers in just about every nook and cranny of the economy. The total number of job openings hit the highest levels since the report was first released in December 2000. There was a decline in durable goods manufacturing unfilled positions, but that may have been due to the surge in hiring that has taken place this year. Openings were up in every region of the nation. My favorite number in this report is the quit rate, which provides some information on the willingness of workers to leave their jobs. For a long time after the end of the Great Recession, people were fearful and refused to leave positions. It looks like the fear is fading as the quit rate continues to rise. A rising churn in the labor market would likely force businesses to raise compensation faster either to retain workers or replace those that have left. We haven’t gotten to the point where the quit rate would signal surge in wages, but it is getting there.

We all like to talk about the importance of the small business sector in driving economic growth and if we are at all correct, then there is good news for the economy. The National Federation of Independent Business’ April survey showed that small business owner confidence remains extremely high. The index may have only edged up over the month, but it “has been higher only 20 times out of the last 433 surveys”. In other words, we are talking about exuberance. Earnings are at record levels, but the lack of qualified workers is also causing compensation costs to rise faster, which is driving up prices. That is, we have both wage and price inflation at the small business level, something that will surely catch the eyes of the Fed members. The best description of this report is the comment made by NFIB Chief Economist Bill Dunkelberg: “There is no question that small business is booming”.

MARKETS AND FED POLICY IMPLICATIONS: Today’s reports contain both good news and bad news for investors and the Fed. They clearly point to a strong economy that is generating profits for businesses of all sizes. But it is also putting greater pressure on wages and prices, which is why we are seeing the steady rise in inflation. For the monetary policymakers, that means the economy can withstand further rate hikes, which may be needed to moderate the building inflationary pressures.  And that is the worry for investors. Large, publicly traded companies are employing most of the tax reductions on stock buybacks, dividend increases and mergers and acquisitions. As of yet, they have not invested heavily in new capital. Unless capital spending picks up, productivity will remain in the doldrums and costs will rise, providing an additional reason for the Fed to continue normalizing rates. How high will interest rates go? It is unclear right now, but there is a very high likelihood they will max out well above what most investors expected as little as six months ago and higher than many still believe will be the top.

April Jobs Report

KEY DATA: Payrolls: +164,000; Private: +168,000; Revisions: +30,000; U-Rate: 3.9%; Wages: +0.1%; Over-Year: +2.6%

IN A NUTSHELL: “The labor market may be tight, but that isn’t doing much for workers, whose wages continue to rise sluggishly.”

WHAT IT MEANS: Has the basic law of supply and demand been repealed for the labor markets or are we using the wrong measures? Businesses added a solid number of new positions in April. While the total was below forecasts, when you add in the upward revisions to February and March, you come out right at consensus. Manufacturing and construction continue to lead the way with outsized increases. Together, they make up about 13% of total payrolls but added 25% of the new positions. It is doubtful that can be sustained for much longer. There were also solid increases in restaurants, warehousing, management firms and health care. Retail, not surprisingly, was weak and state governments cut workers.

 The real eye-opener in this report was the decline in the unemployment to 3.9%, the lowest since December 2000. Only once since January 1970, in April 2000, have we had a lower rate. You have to go back to the late ‘60s to find any extended period where the unemployment rate was lower. That was when the Viet Nam War was raging and many young adults, who have a higher than average unemployment rate, were in the military, not out looking for jobs. Even the so-called real unemployment rate, which adjusts for discouraged workers and those that cannot find full-time work, is below what we saw in the 2000s (when no one complained about its level) and is not that far from the late 1990s low. Thus, we are in uncharted territory here, unless you are willing to go back to the early 1950s, when society and the economy were different and the labor force participation rate was well below the current level.

Despite the appearance of a tight labor market, the average hourly wage ticked up modestly and over the year, it is barely keeping up with inflation. That means spending power is going largely nowhere and that raises questions whether households can sustain their spending. Yes, the tax cut is causing take home pay to rise, but given the distribution of the cuts, it is not going to power a lot of spending at the mid and lower income levels.

MARKETS AND FED POLICY IMPLICATIONS: Job growth in April was right on target. It is unrealistic to expect the large increases we saw early this year to be sustained. There just are not enough workers to fill those positions and the “softening” payroll increases is really not a softening. We are closer to sustainable levels and I expect that businesses will probably add between 150,000 to 175,000 new workers per month over the remainder of the year. That is enough to drop the unemployment rate further. But is it enough to force up wages? First, the hourly wage number may not tell us much. It came into existence in early 2007. We don’t know what is normal, high or low. It is also an average, which doesn’t tell us much since it depends upon the distribution of jobs. That said, we are still not seeing any major compensation increases in either the productivity or employment cost reports. If we really are in a tight labor market, wages should be rising faster. So, either our measures are missing the point or there really isn’t a labor shortage. Or, there is a labor shortage and businesses are willing to do without workers and are lengthening delivery times instead. According to the Institute for Supply Management, manufacturing deliveries have been slowing for 19 months while non-manufacturers have been lengthening their delivery times for 28 months. At what point do customers scream enough? I don’t know, but as long as firms can push out deliveries, the fewer workers they have to hire. Right now, that seems to be working. That doesn’t mean the Fed will not have to tighten. It will, especially if growth accelerates as expected during the second half of the year. The members still think the measures of unemployment mean something.

April Private Sector Jobs and Help Wanted OnLine

KEY DATA: ADP: +204,000; Construction: +27,000/ HWOL: -69,300

IN A NUTSHELL: “Businesses are hiring solidly and they are looking for even more workers.””

WHAT IT MEANS: The latest Fed meeting will end soon but before we get the statement, there are some data to discuss. Since they have to do with one of the Fed’s major concerns, the labor market, it is likely they will be a part of the discussion. Since this is the week of Employment Friday, Wednesday is when we get a snapshot of what private sector hiring may have been. According to ADP, firms were out adding workers at a very solid, if not strong pace in April. The gains were spread fairly evenly across the different sizes of firms, though companies with 50 to 499 workers were the most active. Looking at the specific industries, the need for construction workers remains robust, while health care employees are also in strong demand. The only sector where jobs declined was information services.

The number of want ads posted online faded in April. The Conference Board’s Help Wanted OnLine Index fell, but it has been bouncing around quite a bit lately. That said, the level of want ads is still high enough that we should see solid hiring going forward. There were declines in every region, though the greatest weakness was the Northeast, New York in particular. As for occupations, the demand for computer and mathematics experts continues to soar, while sales people are no longer needed as much. That makes sense since the Internet is not a person-to-person sales vehicle.

MARKETS AND FED POLICY IMPLICATIONS: While the labor market data are important, today is all about the FOMC meeting and the statement that is to be released. The best guess is that the Fed will leave rates alone. Actually, it would be a surprise if anything else were done. The continued strength in hiring has to provide support for the members’ belief that they can continue to raise interest rates without materially affecting the economy. So what we need to watch is the statement and how strong a signal it sends that the next tightening is coming. Most economists, including myself, expect a rate hike at the June 12-13 meeting. If Friday’s jobs report is solid and wage gains continue to accelerate, anything but a hike then would be a shock. In June, we also get the Fed members’ forecasts, which could point to four rather than three increases this year and I think an increase in what may be the terminal rate for this cycle. That would point to four increases, next year as well, which is where I stand.

March Personal Income, Spending and Pending Home Sales

KEY DATA: Disposable Income: +0.3%; Wages: +0.2%; Consumption: +0. 4%; Prices (Over-Year): +2.0%; Excluding Food and Energy (Over-Year): +1.9%/ Pending Sales: +0.4%

IN A NUTSHELL: “Inflation is at the Fed’s target level and it is likely the 2% rate will remain in the rear view mirror for quite some time.”

WHAT IT MEANS: With the battle between interest rates and earnings raging on, the crucial economic numbers are those that tell us about inflation pressures. Today, we saw that the Fed’s preferred measure of consumer costs, the Personal Consumption Expenditure price index may have been flat between February and March, but it rose by 2% over the year. Energy costs are up since March and the Chicago Purchasing Managers report that their prices paid neared a seven-year high in April. We could have a big increase in the April index. Even excluding food and energy, prices are also rising pretty much at the Fed’s target pace.

How much inflation accelerates depends upon the willingness and ability of consumers and businesses to spend. We have yet to see the capital investment boom, but that may come in the second half of the year. As for households, the key is income growth and the March report didn’t tell me that there was a huge increase in spending power. Personal income may have been up solidly, but wages and salaries rose more modestly. Income gains are being bolstered by large increases in dividends.   Most middle and lower income households who receive dividends tend to get them in their retirement accounts, so it doesn’t get spent. And there is only so much that upper-income households spend out of increased income. That is why consumption, which rose solidly in March, is not likely to soar this year.

The National Association of Realtors reported that pending home sales improved modestly in March. Weakness in the Northeast and to a lessor extent in the West offset decent gains in the South and Midwest. Over the year, contract signing activity is down, further indicating that the housing market is not accelerating. Indeed, with mortgage rates rising, don’t expect housing to lead the way going forward.

MARKETS AND FED POLICY IMPLICATIONS: Last year, former Fed Chair Yellen argued that the deceleration in inflation was due to temporary factors. Indeed, inflation had accelerated for two years, reaching 2.2% in February 2017 before easing back. Well, Dr. Yellen was correct in her analysis and we are nearing the high hit last year. Indeed, don’t be surprised if the overall index exceeds that peak when the April or May numbers are released. And don’t be shocked if the rate continues to slowly accelerate. So, if you are still holding onto the belief that the Fed will move only three times this year, you might want to reconsider that stance. That said, I don’t expect inflation to spike. In part, that is due to the continued limited gains in wages and salaries that will restrain consumption. And with mortgage rates likely to continue rising, housing is not likely to pick up much steam. Thus, growth is not likely to accelerate significantly, unless businesses actually start investing really heavily in capital goods. So, investors are now facing a conundrum. Interest rates are likely to continue to rise through the rest of this year and into next. Meanwhile, growth should be solid but probably not robust. Will non-tax-driven earnings be able to sustain strong increases? That is a good, and critical, question.

1st Quarter GDP and Employment Cost Index and April Consumer Sentiment

KEY DATA: GDP: 2.3%; Consumption: +1.1%; Consumer Prices (Quarterly): +2.7%; Over-Year: +1.8%/ ECI (Over-Year): +2.7%; Wages: +2.7%/ Sentiment: -2.6 points

IN A NUTSHELL: “The acceleration in growth from the tax cuts has yet to kick in, but it does look like inflation is rising.”

WHAT IT MEANS: Tax cuts and government spending increases should lead to better overall economic activity, but that was not the case in the first quarter of the year. The economy expanded at a moderate pace that was well below the 2.9% rate posted in the fourth quarter of last year or the 3.3% rate in the third quarter. Solid business investment and a narrowing trade deficit were offset somewhat by soft consumer and government spending. Additions to inventory added to growth and that may be a sign that firms expect conditions to improve going forward. But for me, the story in this report was not the economy: It was inflation. Consumer prices rose sharply in the first quarter and even if you take out food and energy, the increase was still very high. Even though the gain from a year ago has yet to hit the Fed’s target of 2%, another quarter of high price increases similar to that posted in the first quarter will get us there.

Adding to my concern about inflation was the report on first quarter employment costs. The increase over the year was the highest in nearly a decade for both the overall index and for wages and salaries. Of real concern is that the private sector costs are growing faster than the public sector, which means that firms are facing even greater accelerating labor cost pressures.

Consumers were a little less optimistic in April than they had been. The University of Michigan’s Consumer Sentiment Index faded, led by a sharp decline in the perceptions of current conditions. Expectations remained solid, though they have stopped rising. The report indicated that the level of the index was consistent with a 2.7% increase in consumption over the next year. Given the tax cuts, that would be disappointing.

MARKETS AND FED POLICY IMPLICATIONS: Growth decelerated for the second consecutive quarter, not usually a sign of an economy picking up steam. But it was unreasonable to expect the impacts of the tax cuts to show up immediately. Businesses will invest more, though it is not clear how much more, and household spending will improve. But the decelerating growth pattern and the softening in optimism creates doubts about the ability of the economy to post the large gains many used to defend the passage of such a large tax cut. That said, there are questions about the first quarter seasonal adjustments, as the growth rates tend to be the lowest of the year. This was just the initial estimate, which will likely change. So don’t give up hope just yet. If as expected, growth does accelerate from the first quarter moderation, it is likely that inflation will follow suit. By the end of the current quarter, consumer price gains, using almost any index, will likely hit or exceed the Fed’s 2% target. Accelerating inflation would support rate hikes for the rest of the year and sustain the upward trend in market interest rates. No good economy goes unpunished and higher wage and price inflation and increasing interest rates are likely to be with us for quite a while. The earnings vs. interest rate battle is on.