February Non-Manufacturing Activity

KEY DATA: ISM (Non-Manufacturing): +1.1 points; Activity: +3.3 points; Orders: +2.6 points

IN A NUTSHELL: “With all components of the economy on the rise, the question for the Fed is this: What are you waiting for?”

WHAT IT MEANS: We’re hitting on just about all cylinders. Wednesday, the Institute for Supply Management reported that manufacturing activity accelerated in February and today it was announced that the rest of the economy picked up steam as well. Business activity improved, led by rising demand for not only for domestic firms but for those involved in both importing and exporting. The improving world economic situation is helping drive additional sales to other countries. It’s funny how economics works that way. Employment growth was a little faster and is likely to increase more as backlogs are building. About the only negative in the report was a large increase in the percentage that think inventories are too high. Stocks are building and demand will have to remain strong or firms will look to ease up on additional production.

Yesterday, a report was released that should have really opened eyes at the Fed. The weekly unemployment claims number came in at 223,000, the lowest since April 1973. Let me put that in perspective. The labor force back then was 89 million compared to about 160 million today. Adjusting for the size of the labor force, the number of claims would have to currently be 400,000 in order for the two to be comparable. Simply put, this labor market is really tight.

MARKETS AND FED POLICY IMPLICATIONS: Due to calendar oddities and when the labor market data are collected, the employment report was delayed a week. That is actually too bad. There will only be four days between when we get the numbers and when the FOMC starts its two-day meeting. The Fed will not be able to react to the report. It is clear the economy is moving forward and may be picking up steam. Consumer confidence is very high, spending is decent, just about all sectors, including energy, are growing and the Fed’s dual mandate has essentially being met. There is every reason for the FOMC to announce its first rate hike of the year on March 15th. But what happens if the jobs report is weak? The January job gains were outsized and these data can be pretty volatile, especially in winter months. The Fed should look past one report and probably will, but this has been a group of decision makers who panicked at any sign of economic trouble in the past. That said, the messages being sent by Fed members have all been similar: A rate hike is coming and a half-decent employment report, which is the consensus right now, should be enough. Going into this year, few were predicting a March increase. I had the following meeting, in May. But the general belief was that it wouldn’t happen until June. A March increase creates the possibility that we could have more than the Fed’s implied three rate hikes, especially if the Republicans stop acting like disorganized Democrats and start actually passing something that has to do with the economy – or at least proposing something. As I keep saying, highly stimulative fiscal policy, especially in a labor shortage economy, is likely to cause the Fed to be more aggressive than most people think. Investors seem totally clueless or unconcerned by that possibility.