In a Nutshell:  The decline in core inflation is due to “transient” factors. – Fed Chair Jerome Powell

Decision: Fed funds rate target range remains at 2.25% to 2.50%.

With the president ramping up pressure on the Fed to lower rates, today’s FOMC statement and press conference took on even greater importance than usual.  Would the Fed signal that its next move would be down?  Or, would it stand its ground?  Well, the answer depends upon whether you looked at the statement issued after the meeting or listened to the Fed Chair’s comments at the press conference. 

The statement seemed to lean toward a possible rate cut.  Indeed, the members noted that “… overall inflation and inflation for items other than food and energy have declined and are running below 2 percent.”  That seemed to signal that the Fed was worried about inflation decelerating and the logical conclusion was that it was biased toward the next move being an easing.

But then there was the press conference.  Multiple times, Fed Chair Powell stated that the decline in inflation was likely due to transient or transitory factors.  That insistence on playing down the easing in inflationary pressures makes it clear that at least for now, the Fed is very comfortable with its wait and see data dependency approach.  Thus, there is little reason to believe the Fed will be cutting rates soon or even if the next move is down. 

The markets got whipsawed by the Fed’s poor communication of its view on inflation.  First they reacted as if rates were going down and then they backed it all out and even some more. 

The Fed is walking a difficult line given the president’s insistence on trying to politicize monetary policy.  Nothing less than the credibility of the Fed is at stake, and I am not overstating that.  Mr. Powell blew it when he caved to the markets in December.  The economy was never as bad as investors thought yet he behaved as if it was.  So, we know the markets can push him around.  If the president can also bully him, the concept of an independent Fed will be damaged. 

For now, Chair Powell has regained the high ground.  But he faces real risks. He make clear in an answer to a question that political issues are not part of the policy discussions, but every member knows what is going on. It could be difficult to cut rates without strong evidence that either the economy is faltering or inflation is collapsing. If the Fed waits too long to do so because it doesn’t want to appear to be appeasing the president, the economy would suffer. To the extent that is now a possibility, harm has already been done to the Fed.

(The next FOMC meeting is June 18-19, 2019.) 

KEY DATA: ISM (Manufacturing): -2.5 points; Orders: -5.7 points; Employment: -5.1 points/ ADP Jobs: +275,000/ Construction: -0.9%

IN A NUTSHELL:  “The slowing manufacturing sector needs to be watched carefully as income gains are not strong enough to support solid growth.”

WHAT IT MEANS:  Today we get a Fed decision on rates and a press conference, while on Friday, the April jobs report will be released.  So, should we be concerned with the days data dump?  Yes!  First, the Institute for Supply Management reported that manufacturing growth moderated in April.  The overall index was the lowest in over two years and there were sharp declines in the growth of new orders and in hiring.  The good number in the report was backlogs, which continued to expand.  The filling of order books should mean that production would remain solid.  Basically, this report says that while manufacturing continues to expand, the pace is slowing and that may a signal that so is the economy.

We normally look to the ADP estimate of job gains for some guidance on the government’s employment report.  However, this month, that is not the case.  The reason is that the chemist, I mean economist behind the estimate indicated there were several factors that may have led to an overstating of the gain.  Being an economic data chemist myself, I get it.  Sometimes, the models don’t work quite right and you either use judgment and adjust the data or go with the results.  He went with the results and that is fine since he did qualify the numbers.  That said, the report was huge, led by an enormous rise in construction payrolls.  Leisure and hospitality also hired like crazy as did firms in the education and health and professional and business sectors.  All sizes of business added workers solidly, but mid-sized firms went all out.  In any event, let’s just wait and see what comes out Friday.  My number is in the 165,000 range.

Construction hit a rough spot in March as activity fell.  There were almost no major sectors that posted gains as private and government, residential and nonresidential spending were all off from February levels.  Weather is always a wild card when it comes to construction, so again, let’s wait and see before getting too concerned.  Still, this is another sector that must be watched.    MARKETS AND FED POLICY IMPLICATIONS:The Fed is likely to continue to take a “wait and see, data will drive our decisions” stance when the statement is released.  Chair Powell will try to be as neutral as possible in his press conference and in reality, he has good reason to be so.  The strong first quarter growth number was largely puff as the two key sectors, household and business spending, were soft.  Inflation has faded and is running below target.So, there is no reason to threaten to hike rates anytime soon.  At the same time, it is hard to argue that the economy needs a boost, so cutting rates makes absolutely no sense.  Therefore, don’t expect the Fed to move the markets in any direction.  That may not make the president happy, but it is not the job of the Fed to do the president’s bidding.  As for investors, they should like what the Fed says, but they will also watch the earnings numbers carefully.  It looks like profits have been good, while the economy is remains solid, so that there is no reason to think we are in for a major period of market volatility.  Of course, if the trade talks with China fall apart, all bets are off.  Don’t rule that out as improving Chinese economic data mean they have less reason to cave to U.S. demands. 

KEY DATA: ECI (Over-Year): +2.8%; Wages: +2.9%/ Confidence: +5 points/ Pending Sales: +3.8%/ Home Prices (Over-Year): +4%

IN A NUTSHELL:  “Confidence is strong, labor costs are relatively restrained and the housing market is stabilizing, so what is the Fed worried about?”

WHAT IT MEANS:  Is the economic lull now null?  I think that is a fair thing to say.  First quarter growth was okay, even given the softness in consumer and business spending.  With job gains also decent and labor market tight, there is every reason to expect that worker compensation costs would accelerate.  We are even seeing firms announce future increases in wages to maybe even as much as $20 per hour in the future.  But happy days for workers is not here yet.  The Employment Cost Index, which includes both wages and benefits, rose at a moderate pace in the first quarter and the gain over the year actually decelerated.  That was true for both wages and benefits and for most industries and occupations. There were some exceptions in those industries that are suffering from extreme labor problems, such as transportation, warehousing and hospitality, but there were not many others.  Basically, there may be labor shortages, but firms are not trying to attract workers by raising compensation significantly.

The lack of sharp increases in wages is not depressing households.  The Conference Board’s Consumer Confidence Index rose solidly in April and the details were even better.  Jobs were more plentiful, the current economy was better and the outlook for growth and income improved.  The index is below its peak, but it is still at a high level, indicating the slowdown in spending we saw early in the year should dissipate.

As for the housing market, things there may be improving – at least a little.  Pending home sales jumped in April.  Demand in the West surged, was up solidly in the South and Midwest but eased in the Northeast.  Still, the index is off from the levels posted in the first half of 2018, so we may not see a huge rebound in sales. 

One aspect of the housing market that doesn’t appear to be changing is the slowdown in price gains.  The Case Shiller index posted a moderate increase from February 2018, but the year-over-year rise continued to decelerate.  We are even starting to see some weakness in San Francisco – yikes.  In the past year, the increase in the Bay Area was the second slowest of the twenty large areas in the index.  Only San Diego posted a smaller gain.  The sharp rise in prices in so many areas has priced people out of the market and coupled with the lack of inventory, helped create the softening in sales.  Thus, an easing back in housing price gains can only be good for the market. 

MARKETS AND FED POLICY IMPLICATIONS:  Friday we get the April jobs report and it should be good, though maybe not great.  Regardless, with growth decent, the labor market tight and housing at least stabilizing, the Fed members, who are starting their two day meeting today, should have little to complain about.  Yet there is a concern.  Inflation is actually decelerating and is back below the target.  As long as that is the case, the Fed can hide behind the lack of inflation to support their do nothing policy.  I suspect that will be the argument when the statement is released early tomorrow afternoon and Chair Powell holds his press conference afterward.  As for the markets, earnings are driving decisions and they have tended to be good, with the usual random misses.  The economic data are not arguing investors should be greatly worried.

KEY DATA: GDP: +3.2%; Consumption: 1.2%; Investment: +2.7%; State and Local Government: +3.9%; Consumer Prices: +0.6%/ Confidence: 97.2 (Down 1.2 points)

IN A NUTSHELL:  “The headline GDP number looks great but the details are a lot less positive.”

WHAT IT MEANS:  The economy did a lot better than expected during the first quarter as growth exceeded 3%.  But let me repeat what I frequently state: The devil – and the real information – is in the details.  There, the numbers look a lot less positive.  Take consumption, please! (Drum roll here.)  We knew that vehicle sales were soft, which brought down durable goods spending.  But demand for nondurables and services was mediocre and with gasoline prices rising, there is little reason to expect households to shop ‘till they drop this spring.  As for businesses, they bought lots of software but little hardware and spent even less on structures.  That doesn’t point to any major investment surge.  And, as expected, housing restrained growth.  So, where did things go right?  Where I warned there could be some strange results.  Take trade, please!  (Okay, enough Henny Youngman.)  Exports rose while imports fell, meaning the trade deficit narrowed much more sharply than expected.  That added one full percentage point to growth and explains most of why growth exceeded forecasts. I had suggested that the tariff issues could have led to strange patterns in trade and that is likely what happened in the first quarter.  There is very little reason to think that a strong economy would lead to lowered imports, so don’t expect the trade deficit to keep narrowing.  The second place I thought we could have something strange was in inventories. Warehouses filled sharply, adding two-thirds of a percentage point to growth. It is not clear those additions were intended, so don’t be surprised if inventories are drawn down, slowing growth this quarter.  Finally, state and local governments spent like drunken sailors.  This sector added four-tenths of a percent to growth.  Really, does anyone believe state and local governments will spent so crazily going forward?  Meanwhile, inflation went absolutely nowhere.  In summary, the headline was great but the details were not so good. 

As for consumer confidence, it faded a touch in April.  The University of Michigan’s Consumer Sentiment Index dropped modestly as both the current conditions and expectations components declined.  The index remains at a high level as respondents are nearly ebullient about their financial prospects. MARKETS AND FED POLICY IMPLICATIONS: I have been saying for months that the economic fundamentals were solid and the Fed, make that Chair Powell, panicked in December.  So, I should be happy with this number as it supports my argument.  But the reality is that growth is not strong, at the least when you consider the performance of the two key segments, households and businesses.  Consumption was weak and business investment was mediocre.  Worse, I don’t see any reason why that would change anytime soon.  So, what I and probably most other economists are doing is making down second quarter growth.  The trade deficit should widen and inventories become a drag.  While investors may be happy with this report, and Mr. Powell will have a lot of explaining to do, it really doesn’t change much when it comes to growth: It is decent but not great.  Now if we back this up with another near-3% growth rate, I will have to re-evaluate my thinking, but so would the Fed.  Indeed, if spring growth were strong, the Fed would be foolhardy not to consider hiking again, even if inflation remains tame.  In other words, no good economic news goes unpunished!

KEY DATA: New Home Sales: +4.5%/ Existing Home Sales: -4.9%/ Phila. Fed (NonMan.): -0.7 point; New Orders: +0.9 point

IN A NUTSHELL:  “The housing market is wandering aimlessly and that is hardly a sign of a strong economy.”

WHAT IT MEANS:  We get our initial look at first quarter growth on Friday, but regardless of what it comes out as there is little reason to think the economy is booming along.  This week’s so-so numbers leading up to the GDP release were the housing sales data.  Today we got the new home sales numbers and they were really good, at least when you consider where they had been.  Demand jumped in March to a level not seen since November 2017.  It looks like sales bottomed in October of last year and there has been a fairly steady improvement since then. As for the details, a strong rise in the Midwest offset a sharp drop in the East.  There were solid gains in the South and West.  Sales prices firmed as inventories remained low.

Yesterday, the National Association of Realtors indicated that existing home demand faded in March. The softening in sales was in every region. But the fall off in sales came after a sharp rise in February, so it is not clear what is going on with the existing home market.  The average sales pace for the first three months of the year was well below the pace posted in 2018, so it really cannot be said that demand is improving.

Maybe the clearest indication that the economy is in good shape but growth is not re-accelerating could be seen in the Philadelphia Fed’s nonmanufacturing index.  It was largely flat in April, but level was still quite solid.  Optimism remains high.  Indeed, a greater proportion of the respondents indicated they thought that their firm’s business conditions would improve than said it would remain the same.  Few expected they would see their own business suffer a reduction in activity.  MARKETS AND FED POLICY IMPLICATIONS:  First quarter growth looks like it came in near the same 2.2% pace that we saw in the fourth quarter.  The unknowns and likely drivers of improved growth are inventories and trade.  Unintended inventories increases appear to have occurred and those will have to be worked off.  The uncertainty over tariffs – and the hopes that might be lifted – may have led to strange patterns in imports.  Regardless, whether the number is better than worse than forecast, the underlying pattern of growth remains near the 2% or so trend rate.  That is consistent with a housing market that is basically going nowhere.  As for investors, the focus seems to have returned to earnings, not politics or economics and so far, the profits reports have been decent.  Meanwhile, back at the Fed, I suspect the members would be smart to keep their heads down, especially if growth comes in above consensus.  With labor costs high, productivity low and energy prices rising, inflation is not going to decelerate.  Which raises the question: Why did Chair Powell rush to hoist the white flag in December?

KEY DATA: PPI: +0.6%; Energy: +5.6%; Personal Consumption Ex-Food and Energy: +0.4%/ Claims: -8,000

IN A NUTSHELL:  “Producer costs are rising a little faster, but not enough to cause inflation to accelerate significantly.”

WHAT IT MEANS:  With the administration screaming for a rate cut, inflation pressures have become even critical to the discussion and the Fed.  Producer prices surged in March, but most of that came from a jump in energy costs.   Food prices rebounded, but that was after much larger declines in the previous two months.  Indeed, over the year, finished consumer food costs are up less than one percent.  Transportation and warehousing costs were off sharply despite the rise in energy prices.  That could change.  Services prices were also up moderately, meaning that there was some pressure on wholesale costs.  The measure I like to watch is the index for personal consumption excluding food and energy.  It rose fairly solidly in March and was up 2.4% from March 2018.  While the pathway from wholesale to retail prices is hardly straight and often a dead end, if wholesale prices of core consumer goods keep rising moderately, some of that is likely to bleed in retail prices.  That would point to a slow acceleration in consumer inflation.

New claims for unemployment insurance broke below the magical 200,000 number last week to hit the lowest level since October 1969. That was near the peak in the Viet Nam War when not having a job often meant winding up in the military.  And to really put that number in perspective, the labor force was one-half the size that it is currently.   In other words, the labor market remains incredibly tight.  MARKETS AND FED POLICY IMPLICATIONS:The recent consumer and producer price data don’t point to any major acceleration or deceleration in inflation.  Therefore, the Fed will feel no economic pressure to do anything.  While that may be good news for Chair Powell’s rate policy, it further exposes the Fed to the slings and arrows of outrageous politicians.  Apparently, applying political pressure on the Fed has become an acceptable form of behavior.  That includes not just speaking out about what Fed policy should be but also potentially nominating people who are perceived to be being willing to impose political beliefs on the Fed.  Keep in mind; if those currently politicizing Fed policy get away with it now, it opens the door for all future politicians to politicize the Fed.  And if they are successful, the markets will not be able to determine the true purpose of Fed policy, reducing its credibility and effectiveness.  So I ask you, do you really want politicians running both monetary and fiscal policy?  We have seen how well Washington does with budgets and fiscal policy; do we really want that same approach to determine interest rates and liquidity?  I understand that investors and politicians all want the lowest rates and the fastest growth, regardless of the longer-term implications.  But that is not why we have a Fed.  Its purpose is not to create the maximum growth rate for the current group of politicians to run on but to look out over the future and minimize the ups and downs so longer-run growth can be maximized.  If that means raising rates and reducing balance sheets, so be it.

KEY DATA: CPI: +0.4%; Ex-Food and Energy: 0.1%; Gasoline: +6.5%; Food: +0.3%/ Real Earnings (Monthly): -0.3%; Over-Year: +1.3%

IN A NUTSHELL:  “For the most part, inflation remains tame.”

WHAT IT MEANS:  About the only thing that could get the Fed to raise rates would be a jump in inflation and it doesn’t look that is happening.  Over the year, consumer price increases are running pretty much at the Fed’s target of 2%, no matter which measure you use.  Yes, consumer prices popped in March, led by sharp rises in energy, food and rental costs.  However, excluding the more volatile food and energy components, inflation only inched upward.  Looking forward, with growth moderating, it is not likely we will see continued large rises in energy.  However, the food and shelter components could come in a little higher than the average.  And there was some really bad news on the food front: Cake, cupcakes and cookie prices surged.  Back to the diet time.  Offsetting, to some extent, the pop in gasoline prices was a cratering in apparel expenses.  Clothing costs seem to be making a move to be added to the volatile list, so don’t expect this components moderating impact on prices to continue. Thus, while inflation is not likely to surge anytime soon, it could slowly accelerate. 

One of the big surprises in the employment report was the minimal gain in hourly wages. With overall inflation rising sharply, that led to a large drop in real, or inflation-adjusted wages.  Over the year, real wage growth, which reflects household spending power, decelerated.  That said, this was the first time since July 2018 that we haven’t seen real wage gains accelerate, so I am not that worried.  Still, with purchasing power growing at a dismal 1.3% pace, it is hard to generate lots of additional household demand. We need to get back to the nearly 2% rise we had in February if household spending is to expand at a decent rate. 

MARKETS AND FED POLICY IMPLICATIONS:  The Fed effectively went on vacation and is likely to stay there for quite a few more months.  Yes, the members will gather, have some good meals, chat back and forth about what is going on what are the risks, but otherwise, don’t expect them to decide to do anything.  Which raises the question: Is the next move up or down?  The answer, of course, is it depends.  If you are an optimist about a pick up in growth over the second half of the year, then up seems possible, especially if inflation rises a touch.  By pointing to a rate hike in 2020, the members signaled that they really think the funds rate is still below neutral and they would like to get back there.  Of course, they could just revise downward their estimates of neutral, as they have done, and declare victory, but I am not sure that is going to happen.  Regardless, if we get back to 2.5% growth, that might be enough for the Fed to get some guts and move the funds rate up a notch.  On the dreaded other hand, many see the current slowdown as just a prelude to an even greater deceleration. That would mean inflation would not increase and the Fed could be pressured to lower rates.  I still think the Fed is looking for any excuse to get in one more rate hike, so I lean toward that happening.  As for the markets, with inflation not an issue, the view that the Fed is on hold for the rest of the year will likely continue to be the prevailing sentiment.  And as far as investors are concerned, no Fed is a good Fed.     

KEY DATA: Payrolls: +196,000; Private: +182,000; Manufacturing: -6,000; wages: +0.1%; Unemployment Rate: 3.8% (unchanged)

IN A NUTSHELL:  “Job gains are back on track, but the trend is still down.””

WHAT IT MEANS:  After the initial report that only 20,000 new positions were added, angst about the state of the economy took hold, at least with those who actually think that a single month’s number means something.  Today, those same worrywarts are probably smiling.  Job gains came in above expectations in March and there were some minor, but positive revisions to the January and February numbers.  But the details don’t tell me that this was a great report.  As I have mentioned frequently, concentrate on the three-month moving average.  That number decelerated again and will likely continue to do so as the January number disappears when we get the April report.  Private sector job gains were solid but not great over the past three months, averaging 168,000.  As for March, there were really only two strong sectors, health care and restaurants, while manufacturing and retail were down.  A bounce in state and local government hiring, which I don’t expect to continue, helped push up the overall gain.

But the real disappointment was in the household portion of the survey.  First, wages rose minimally and the increase over the year decelerated.  That was a real surprise given all the stories of firms raising wages.  That may just be a one-month wonder, but it is something to watch.  We need stronger, not weaker wage gains if the economy is to growth faster.  Second, the labor force participation rate declined and looking over the course of the year, it has wandered around in a relatively tight range.  In March, it was only up 0.1 percentage point over the March 2018 number.  While the downward trend that we had seen since spring 2000 has been arrested, there has been no sudden surge despite the labor shortages.  That does not bode well for the future when job gains are softer.  The unemployment did remain at 3.8%, which is well below what most economists believe is the long-term trend.

MARKETS AND FED POLICY IMPLICATIONS:  Don’t get me wrong, this was a very good report.  But given the wild swings in job gains – 312,000 in January, 33,000 in February, 196,000 in March – it does not tell me the labor market is continuing to be a lean mean jobs machine.  Private sector hiring is decelerating and wage gains might be moderating as well.  The outsized increases in health care, restaurants and state and local government are likely to unwind in April.  Investors will probably enjoy this report, but its impact should wear off pretty quickly:  It’s just not as strong as the headline number implies.  This is the last jobs report before the Fed meets at the end of the month, so the members will be able to say that job gains have stabilized.  That gives them the cover to keep doing what they have been doing, which is nothing. 

KEY DATA: Layoff Announcements: 60,587; Claims: -10,000

IN A NUTSHELL:  “Are layoffs up or down?  The answer seems to be yes.”

WHAT IT MEANS:  Tomorrow’s jobs numbers are important given that we had a huge rise in January and barely eked on out in February, so it is not clear where the job market stands.  Consequently, we are looking for other hints at what might be happening.  Unfortunately, the data have been all over the place and today’s numbers only add to the confusion.  First there is the Challenger, Gray and Christmas monthly layoff announcement report, which indicated that cut backs are continuing at a high pace.  In previous months, the large number of job cut notices were driven by activity one industry, such as retail, energy or industrial goods.  In March, though, the announcements were spread across a wide variety of industries. First quarter announcements were the highest since the third quarter of 2015. Restructuring, not bankruptcy is the major reason that has been given for this year’s layoff announcements, which to me points to softer economic growth.  The details in this report seem to be pointing to growing weakness in the labor market.  Keep in mind that these are announcements, not actual layoffs.

While layoff notices may be rising, actual layoffs or job losses don’t appear to be on the rise.  Weekly jobless claims fell to the lowest level since December 1969.  To put things in perspective, the labor force in December 1969 was half the size of where it is now.  That means the current level is at a historic low, when adjusted for the size of the market.MARKETS AND FED POLICY IMPLICATIONS:Well, we have surging layoff announcements and record low unemployment claims.  The two don’t seem like they should go together, but here they are.  This inconsistency is seen in many of the numbers and my explanation is that we are at a point of inflection where the overall economic trend is changing.  That would account for at least some of the volatility and contradictory nature of the data.It would also point to a slowdown not a crash.  Will tomorrow’s numbers provide some clarity?  I doubt it.  First, what is a weak number?  I am at 168,000 new jobs.  To me, that is strong, given the lack of readily available, qualified workers.  It is also large enough to keep the unemployment rate slowly trending downward, though I don’t think that happened in March.   Others, though, will be disappointed if my estimate is anywhere near what the Bureau of Labor Statistics reports, especially given that we had monthly gains in excess of 200,000 last year.  The warning, then, is that any one number really means little, as it must be viewed in context.  For payrolls, start with a three-month moving average and then compare it to what is needed to reduce the unemployment rate.  For me, that means anything in the 125,000 to 175,000 range is good.  I doubt the markets would agree with me.  That range, though, would be enough for the Fed to do nothing.