Category Archives: Economic Indicators

September 19-20 2017 FOMC Meeting

In a Nutshell: “In October, the Committee will initiate the balance sheet normalization program.”

Decision: Fed funds rate maintained at 1.00% to 1.25%: Balance sheet normalization begun.

The great experiment of quantitative easing is over. The Fed calls the act of reducing its ownership of assets “balance sheet normalization” and it is to begin in October. This is important and we need to view the normalization of both the funds rate and the balance sheet as a dual process. The Fed considers quantitative easing to be a tool that ranks only just behind interest rate (fed funds rate) management.

The process of raising the funds rate to its normal level, which today’s report indicates to be roughly 2.75%, started in December 2015. Eleven of the sixteen members expect another hike in December and at least three more next year. The funds rate normalization process is proceeding at a reasonable rate and should continue to do so, barring a major economic problem.

The second tool, quantitative easing/tightening, had yet to begin before this meeting. Before the financial crisis, the Fed’s balance sheet was below $1 trillion. Now, it is about $4.5 trillion. When interest rates approached zero, the Fed turned to asset purchases to increase liquidity in the system and keep the whole range of interest rates low. This was supposed to add to growth.

The consensus is that the Fed needs to shed somewhere in the range of $2 trillion to get to a “normal” balance sheet. The process, as outlined in June, is for this reduction to begin slowly so the Fed will start rolling off only $10 billion per month starting in October. That will slowly ratchet up to at maximum of $50 billion per month by the end of next year. But the process has a long way to go and it needed to get under way. Balance sheet reduction is expected to continue unabated, barring an economic crisis.

So, why is the Fed normalizing the levels of its tools? Inflation is still below its target and while the economy is near full employment, there may be room to for the rate to decline further. The answer is simple. The Fed’s quiver is largely empty. If the economy falters, does anyone believe The Fed can really add another few trillion dollars to its balance sheet? As for the funds rate, would a reduction of only one percentage point provide much policy impact?

The Fed needs to positions itself so it can provide all the stimulus needed if the economy falters. That is their thinking now and it is why they have begun to reduce their balance sheet and raise rates. The members will move as quickly as reasonable, though the process could take over two years for the funds rate and as much as five or six years for the balance sheet.

(The next FOMC meeting is October 31-November 1, 2017.)

August Import and Export Prices and Housing Starts and Permits

 

KEY DATA: Imports: +0.6%; Nonfuel: +0.3%; Exports: +0.6%; Less Fuel and Food: +0.1%/ Starts: -0.8%; 1-Family: +1.6%; Permits: +5.7%; 1-Family: -1.5%

 

IN A NUTSHELL: “With the housing sector entering a period of hurricane-induced uncertainty and inflation pressures building only slowly, the Fed’s decision tomorrow will not be made easily.”

 

WHAT IT MEANS: The Fed has started its two-day meeting and the data they are looking at couldn’t be less clear. Take today’s numbers. Import prices jumped in August, led by a surge in petroleum and petroleum-related goods costs. It also looks like food expenses are picking up. But excluding those two volatile components, there really were not a lot of cost issues coming from the import side. Consumer goods, vehicles and capital goods prices increased a touch, but over the year every one of those three categories were up less than 0.5%. That is hardly anything for the Fed to fear.   In contrast, U.S. firms are beginning to push through somewhat higher price increases for the goods they sell overseas. A wide variety of non-food or fuel prices were up decently in August.

 

Meanwhile, the housing market continues to post strange numbers. In August, housing starts fell, but only for multi-family dwellings. Single-family construction improved. Did Harvey have a hand in the overall decline? Hard to say since single-family starts rose in the South, even as multi-family activity dropped sharply. The Northeast was the weakest link and I don’t remember us getting hit by any major storm. And then there were the permit requests. While they were up, it is the levels that are odd. Over the past three months, permit requests have run about 6% above starts, implying that that construction should surge in the months ahead. That is especially true for single-family units. But starts have outpaced permits by 33% for multi-family structures and that points to a major slowdown in that sector. And when you add in the uncertainty from the hurricanes, who knows what the housing data will look like in the months ahead?  

 

MARKETS AND FED POLICY IMPLICATIONS: The summary of the data going into the FOMC meeting was that growth in the third quarter looked like it was moving back toward trend before the storms hit. Now, it is likely to come in below 2%. But all those vehicles, homes, businesses and infrastructure have to be rebuilt, demolished, repaired or whatever, and that means an awful lot of spending will have to occur over the next six to twelve months – at a minimum. With labor shortages already an issue in the construction sector, much of the rebuilding will have to wait, possibly for years. If you can do anything in construction, there will be a job waiting, and at a very good salary. But that means inflation could pick up, especially for building supplies and used vehicles. I believe that Fed will indicate, in both the statement and during Chair Yellen’s press conference, that they will monitor the data, but will be moving forward with the interest rate and balance sheet normalization process. The only issue is timing. I expect a specific start-data for balance sheet reduction will be communicated, if not at tomorrow’s meeting, then after the October 31/November 1 meeting and a rate hike to occur before year’s end.

August Retail Sales and Industrial Production

KEY DATA: Sales: -0.2%; Less Vehicles: +0.2%/ IP: -0.9%; Manufacturing: -0.3%

IN A NUTSHELL: “The early returns from Harvey are trickling in and the news is not good.”

WHAT IT MEANS: It looks like Harvey was not invisible, not a buddy and clearly not a cuddly bunny (anybody remember the movie?). It was, however, an economy wrecker – at least initially. Retail sales fell in August, largely due to a sharp drop in vehicle sales. Large parts of Texas and segments of Louisiana shut down and demand dropped, which should surprise no one. Vehicle sales this month will probably be bad as well, since Florida is shut down and much of the insurance payments, when they do arrive, will likely go to used vehicles. But there should be a rebound in October. Excluding vehicles, sales weren’t anything special, especially when you consider that the biggest winners were gasoline dealers, which were charging a lot more. Households spent money on food, both in restaurants and at supermarkets, while furniture stores saw things pick up. Despite the hurricane, sales at home improvement stores fell. I have no idea why that happened.

Not only did consumer spending slow in August, but industrial production cratered as well. Of course, utilities going offline does have a tendency to depress output. But even manufacturing activity hit the skids. Yes, the expected suspects, chemical and energy firms, were down, but there were a variety of other sectors that posted production cut backs. Still, the hurricane impacted industries are already turning around, though the lack of utilities in Florida will make it anyone’s guess what the September industrial production report will look like. As a counterpoint, the Empire State Manufacturing Index, produced by the New York Fed, was up sharply in August and held onto most of the gain in September. That gives some insight into how much the hurricanes changed the direction of the data, at least in the short run.

MARKETS AND FED POLICY IMPLICATIONS: The economic data are being distorted by the hurricanes and the first signs of how much the monthly numbers may be affected were seen in the August data. It looks like it is a lot. All I can do is report the data and suggest how they will likely change in the months ahead. Judgments on whether the longer-term trend in growth has been altered cannot be made until we see how quickly the recovery takes hold, how much money is poured into the affected states and the timing of the spending.   What can be said is that most economists are likely marking down third quarter growth and marking up the fourth quarter. I would not be surprised if the third quarter comes in below 2%. As for investors, they seem to be looking past the economy. They want nothing to rain on their parade.

August Consumer Prices, Real Earnings and Weekly Jobless Claims

KEY DATA: CPI: +0.4%; Less Energy: +0.2%; Gasoline: +6.3%/ Real Earnings: -0.3%/ Claims: -14,000

IN A NUTSHELL: “The hurricane blew up the cost of energy, but otherwise, inflation is still reasonably well contained.”

WHAT IT MEANS: We knew that Harvey’s hitting Texas would affect the inflation indices and it did. Consumer prices jumped in August, led by a surge in gasoline costs. A loss of production, even for a short time, tends to do that. Are we are likely to see some spillover into September? Gasoline costs spiked during the early portion of the month, though they have started coming down. We still have half the month to go so it is not clear what will be the impact this month. Otherwise, prices rose moderately. Food and clothing costs increased minimally while clothing, medical goods and vehicle prices were either flat or even down. Restaurants continue to push through price increases even as supermarket prices fall. Whole Wallet is now only Half a Wallet. Inflation is picking up in the services side of the ledger. Housing, transportation and medical services costs were up sharply.

The large rise in overall consumer costs in August cut deeply in household spending power. While hourly wages rose, the increase was more than offset by the jump in prices. Thus, real earnings declined. Over the year, inflation-adjusted hourly earnings were up only 0.6%. As I keep saying, it is hard to grow quickly if purchasing power is rising modestly.

Weekly jobless claims fell sharply last week but the level is extremely high due to the Hurricanes. These numbers will be likely remain elevated as Irma’s impact is still to be seen in the labor data. It is impossible to know how high they will go and when they will come down, so just use the data to understand the impact on jobs, not the trend in the labor market.

MARKETS AND FED POLICY IMPLICATIONS: The gasoline situation will not mislead the Fed into thinking inflation is on the rise. It is accelerating, but only slowly. Excluding energy or even when both food and energy are removed from the index, the rate is still below the Fed’s 2% target. The Fed will look past the short-term impacts as Fed policy works with a lag anyway. The members are worried about next year not next month. They might want to temporize at next week’s FOMC meeting, as there is a lot of uncertainty about the impacts of the storms. Even if they do, expect announcements about balance sheet reductions and a rate hike to come in the November and/or December meetings. As for the markets, when it rallies on the belief that the insurance costs will by huge but not incredibly huge, then you have to wonder about the rationality of investors. It is hard to see that the storm didn’t cause massive damage. The real problem will come if insurance companies don’t pay or are slow to pay for repairs. Without those funds, much of the needed renovations will either not be made or it will take a really long time for homeowners and businesses to make them. Lower and slower insurance payments mean less growth. Regardless, the cost of the Hurricanes will likely be enormous and a lot of the infrastructure will have to be repaired. Government spending will rise sharply at the federal, state and local levels. The huge cost to utilities will likely lead to price increases down the road. We are looking at a change in a lot of the economic indicators and investors will need to understand what is trend and what is temporary. The answer, my friend, is not blowing in the wind. The problem was the wind.

August Producer Prices

KEY DATA: PPI: +0.2%; Less Food and Energy: +0.2%; Energy: +13.4%

IN A NUTSHELL: “The winds of change hit the energy sector in August, driving up prices sharply.”

WHAT IT MEANS: The Fed meets next week and good luck to the members as they try to figure out where we go from here. The best they can do is determine where things were BH (before hurricanes) and as we have seen, economic growth was running pretty much at a normal pace. As for their inflation concerns, wholesale costs rose in August, but most of that had to do with energy dislocations that drove up the prices of most products. Excluding energy, producer prices increased modestly. Food costs were down fairly sharply with a variety of products posting declines. The other sectors where prices jumped were transportation, warehousing and construction. Services costs, which had been leading the way toward higher inflation, rose again but not by much. Over the year, finished goods costs have surged 2.9%.   Though there is a wide variation across the categories, the increases were widespread enough to point to some increased producer costs. Looking into the future, the major source of pressure is the energy sector. Once the problems created by the hurricanes dissipate, those will likely fade as well.

MARKETS AND FED POLICY IMPLICATIONS: Another day, another number that tells us where we were but not where we are going. Inflation is picking up and had this been the case without the weather, everyone would be saying that the Fed was going to hike rates soon. While energy prices are already starting to come down, other costs will likely rise and some of them sharply. Somewhere between one-half and a million vehicles may have to be replaced and that will put pressure on new and especially used vehicle prices. Home reconstruction in both Texas and Florida will put major price pressures on building supplies while labor is likely to be in short supply. Good luck trying to repair a roof. In other words, over the next six months we should see a whole slew of prices rise, at both the consumer and producer level. That will likely give the Fed some cover to raise rates and reduce its balance sheet. So we are only dickering over timing. I still believe there will be one more rate hike and the start of balance sheet normalization by year’s end. The members will likely look past any short-term negative numbers and that includes the surge in energy costs. They know the economy is moving forward and that ultimately, there will have to be an awful lot of private and public spending on goods and services that would not have happened without the massive losses created by Harvey and Irma. Let’s hope this is it for the hurricane season.

August NonManufacturing Activity and July Trade Deficit

KEY DATA: ISM (NonMan.): +1.4 points; Orders: +2 points; Employment: +2.6 points/ Trade Deficit: up $0.1 billion

IN A NUTSHELL: “The economy was doing fine before Harvey hit and if Irma causes major damage, it could be many months before we know the actual trend growth rate.”

WHAT IT MEANS: Well, coming into the worst phase of the hurricane season, the economy was doing fine. How we will come out of it is anyone’s guess right now. In August, the Institute for Supply Management reported that non-manufacturing activity rebounded from the downdraft it hit in July. Orders increased, production rose and backlogs built, all pointing continued good growth in the months ahead. This report mirrored the manufacturing numbers that were released last Friday. About the only negative in the report was that the level of the index was below the average for the past twelve months. It is still solid, but we may not see any major acceleration in growth going forward.

The U.S. trade deficit widened a teensy bit in July as both imports and exports declined. That is not good news. We want to see both expand as it would indicate both the U.S. and world economies are growing faster. On the export side, we sold a lot more food and aircraft, but fewer cell phones and motor vehicles. We imported more food, cell phones and computer products, but our demand for foreign oil, steel, vehicles and pharmaceutical products dropped. The trade deficit with most countries and regions widened, which should not make the president happy. It hit an eleven-month high with China even though exports expanded.

MARKETS AND FED POLICY IMPLICATIONS: The climate may not be changing, but in the span of two weeks, a hurricane dropped the most amount of rain on the continental U.S. in recorded history and the strongest Atlantic storm on record is bearing down on Florida. These extreme climate events will have real impacts on the pattern and level of growth and will modify trends in the data. The great losses in Texas and potentially Florida would slow growth in the third quarter and into the fourth. But as rebuilding efforts kick into high gear, spending in a variety of sectors will expand at unusually high levels. Going forward, it will be important to dismiss the headline number and figure out what is real and what is fake news, I mean, temporary factors. That complicates the Fed’s decision-making process as it will be hard for the members to have a good handle on growth. And the uncertainty could last through the fall as some of the data are lagged a month. This will be especially true if Irma or any of the remaining storms hit the mainland and cause major damage. All we can say right now is going into September, the economy was moving ahead moderately. Investors should use data for the next few months only to understand where things are, not necessarily to forecast what will happen going forward.

 

Revised Second Quarter GDP Growth and August Private Sector Jobs and Help Wanted OnLine

KEY DATA: GDP: 3.0% (Up from 2.6%); After Tax Profits (Over-Quarter): +1.3%/ ADP: +237,000; Large: 115,000/ HWOL: down 125,900

IN A NUTSHELL: “Solid growth in the spring has led to better job gains this summer.”

WHAT IT MEANS: The economy grew a little faster this spring than initially thought. GDP hit the 3% pace, led by a major upward revision to consumer spending. Households really did spend money; the government just didn’t count all of it. Unfortunately, income gains were sluggish and the declining savings rate raises questions whether people can continue shopping at the solid pace we saw in the spring. There were also some decent improvements in most categories of business investment, but the government slowed things down more than thought. After tax corporate profits grew moderately over the quarter, but were up a strong 8.6% from second quarter 2016. Companies are doing just fine and an additional moderate gain in the third quarter could lead to record profit levels.

The solid economy has created better than expected job gains and that may have continued in August. ADP estimates that firms added employees at a robust pace as large corporations went on a hiring binge. The large-firm gain was one of the largest on record, so don’t get too carried away with the forecast. The increases were in just about every industry, so this was a strong report.

Looking forward, even if we get a strong August jobs report, the increases may not to be sustainable. The Conference Board reported that online job ads continued to drop sharply in August. The declines were across all regions and in most occupations. In other words, firms everywhere are turning away from advertising job openings. That may be due to slowing demand or firms giving up trying to fill all the openings they have because of the labor shortage. Either way, it is hard to see how the economy can keep adding more than 200,000 jobs each month that the ADP numbers indicate.

MARKETS AND FED POLICY IMPLICATIONS: The economy is in good shape and firms are making plenty of money, so what is the problem? It is slow wage growth. And that raises the question: Do we need tax cuts or tax reform? Clearly, we don’t need tax cuts, which does little or nothing to long-term growth. Reform is needed, but it has to be directed in ways that improves efficiency, not adds simply to corporate profits. Firms have the money to spend and credit is readily available for firms of all sizes, so we don’t need “reform” that hypes short-term investment, especially since there is no reason to think it will lead to faster wage gains. Instead, reform needs to be structured in a way to provide the firms with the incentive to plan for the long-term. These decisions must be based on economic not tax gain factors. Will that happen? I doubt it. Instead, tax cuts will likely be sold as tax reform and that is not good for the economy or the budget. Meanwhile, investors will be focused on shorter-term issues, such as Friday’s jobs number. I still don’t see how firms are actually hiring so many workers, so I think Friday’s payroll gain number will disappoint. We shall see.

August Consumer Confidence, Small Business Hiring and June Housing Prices

KEY DATA: Confidence: +2.9 points; Current Conditions: +5.8 points/ Jobs Index: -0.02%/ National Home Prices (Over-Year): +5.8%

IN A NUTSHELL: “Despite the chaos in Washington, consumers remain upbeat and that holds out hope that spending will be solid this quarter.”

WHAT IT MEANS: Washington is a mess and nothing is getting done on anything, while Houston is in the midst of a massive disaster that will require months if not years to overcome (given my experience with super storm Sandy), but consumers remain upbeat. The Conference Board’s Consumer Confidence Index rose in August as respondents’ perception of current conditions picked up sharply. The current conditions index is near its all-time high. Business conditions and the labor market are both seen as having gotten better. However, looking outward, impressions were more mixed as to the availability of jobs and the likelihood that economic activity will accelerate. The cut off point for the survey was August 16th, so any impact of Charlottesville and Houston may not have been fully factored into the numbers.

Friday we get the August jobs numbers and today Paychex released its index of small business employment. The measure declined for the sixth consecutive month, though the decline in August will modest. That raises questions about how many new jobs will be reported on Friday, as it is hard for the solid payroll gains we have seen to be sustained if the small business sector isn’t adding workers.

The housing data, including sales and construction, have been bouncing around, but one number has been on a fairly steady upward trend: Prices. That pattern was reinforced as the S&P CoreLogic Case-Shiller U.S. National Home Price Index rose solidly in June and over the year. Sixteen of twenty major metro areas reported prices increases over the month. Only Atlanta, Chicago, Cleveland and New York were down, on a seasonally adjusted basis. The national index is now 4.3% above the prior, housing bubble peak.

MARKETS AND FED POLICY IMPLICATIONS: All thoughts are with Houston, but as is the case with investors and economists, the catastrophe is being looked at in terms of the impact on the markets and growth. As is usually the case with natural disasters, the short-term impact is likely to be negative. But the rebuilding will create massive amounts of new activity. It is also likely that Congress will pass a major recovery bill. (It is doubtful the Texas Congressional delegation will require the increases in spending be met by spending cuts elsewhere, as many did with Sandy. Those of us who were flooded out and had to live through that debate have not forgotten those no votes.) So the fourth quarter should see a lot of activity that would not have happened without the storm. Thus, we could see a slight reduction in third quarter growth but a faster fourth quarter and a little better first half of 2018. Investors will parse that as to who will be the winners and losers, especially since there will likely be a lot of home and infrastructure-rebuilding occurring paid for by a lot of insurance claims and government assistance.

July Retail Sales, Import/Export Prices and August HomeBuilders Index

KEY DATA: Sales: +0.6%; Non-Vehicle: +0.5%/ Imports: +0.1%; Nonfuel: -0.1%; Exports: +0.4%; Nonfarm: +0.3%/ NAHB: 68 (Up 4 points)

IN A NUTSHELL: “The economy seems to be picking up steam, finally.”

WHAT IT MEANS: Economists have been saying, thinking and basically hoping that growth would improve during the second half of the year and that might be happening. Retail sales, which had been sluggish for much of the first half of 2017, rose solidly in July. Better vehicle sales were just one of the reasons. Online retailers as well as furniture, supermarkets, home improvement, sporting goods and health care stores reported strong gains. People even ate out more, though they didn’t stuff themselves. Amazingly, department stores showed a robust increase and these were supposed to be ghost towns. There was some weakness, as sales of gasoline and electronics and appliances were off. Still, the breadth of the increases was impressive. When you ad that to upward revisions to previous months, it is clear that households are emptying their wallets at an expanding pace.

On the inflation front, there still is very little. Import prices ticked up a touch in July, but largely because energy costs jumped. Excluding fuel, the cost of foreign products was off a little. Food prices are on a steady upward climb and that does not bode well for supermarket prices going forward. Vehicle prices were down again and nonvehicle consumer goods costs were flat. In other words, there is minimal price pressure coming from imports. On the export side, we did see a nice rise in not only farm sales but for many other products sold to the rest of the world.

The housing market looks like it is rebounding. The National Association of Home Builders’ index jumped in August. Sales are rising and that has improved builders’ confidence. That said, the index seemed to be artificially low in June and July and the gap up didn’t even get us back to the May level.

MARKETS AND FED POLICY IMPLICATIONS: The economy is on the rise. Even the New York Fed’s manufacturing index pointed to stronger summer growth, though one would hardly point to this region as a key player in the nation’s industrial revitalization (if there really is one). Also, as I have pointed out several times before, wage gains just aren’t keeping up with spending and that is forcing households to cut back on their savings. So how long the economy can grow at a faster pace without better income increases is unclear. Still, investors should really like the data. As for the Fed, that is a different story. Yes, import prices did rise, but not for most goods. The dollar has weakened and we could see some pick up in import costs, but it is unlikely to be enough, by themselves, to drive inflation much higher. The Fed members would love to see inflation above 2% for an extended period so they can go about their business of normalizing rates and the balance sheet. But for now, they will have to be content with saying that inflation will reach the target in the medium term, however long that may be.  

July Producer Prices and Weekly Jobless Claims

KEY DATA: PPI: -0.1%; Goods: -0.1%; Services: -0.2%/ Claims: +3,000

IN A NUTSHELL: “The Fed keeps saying inflation will rebound, but right now, there is little hard data to think that will happen soon.”

WHAT IT MEANS: The members of the Fed are convinced inflation will rebound in the months ahead. Even today, New York Fed President William Dudley repeated that refrain. And I agree that should happen. But it would be nice if there were some data to support that belief. Producer costs went nowhere in July. The weakness in goods costs continued. Yes, food and energy prices declined over the month, but excluding those volatile components, finished goods costs were up only modestly. The big surprise in the report was the drop in services prices. Transportation, warehousing, government, you name it, services costs were down. This decline was so widespread and so odd, given that services had been leading the inflation push, that I am just not certain what is going on. Looking outward, there is not a whole lot of pressure at the intermediate or crude goods levels.

Jobless claims edged up last week, but the level is still quite low, reflecting the tightness in the labor market. This is important because yesterday, the second quarter productivity and labor costs report was released. Labor costs rose only moderately in the second quarter after having surged in the first. Adjusting for inflation, hourly wages, while up in the second quarter, are still down compared to last year. While the Fed members think that some temporary factors will unwind that will start the upward trend in inflation, to sustain the higher rate, wages will have to rise faster. The latest data just don’t say that is happening.

MARKETS AND FED POLICY IMPLICATIONS: Inflation pressures are modest, whether they be producer costs or labor compensation. Job openings are soaring but that hasn’t forced businesses to either raise wages or even increase their recruiting intensity, which DHI reported. Firms are hiring, despite their complaints that they cannot find qualified workers, but they are not paying more for either their new employees or upping the wages of their current workers. That is showing up in the generally decent earnings numbers. But how long that can continue given productivity growth is modest is anyone’s guess. I have been wrong on the wage issue for so long, I no longer say that compensation is about to surge. (Of course, whenever I back off from a forecast, it usually comes true, so don’t be surprised if wages rise faster in the third quarter.) Regardless, inflation, consumer spending and Fed policy all are dependent on wage increases and if they stay low, the Fed will be pressured to go very slowly as it hikes rates and shrinks its balance sheet. As for investors, if earnings stay good, that is all that is needed to keep up the euphoria.