KEY DATA: Sales: -3.4%; 1-Family: -3.7%; Condos: -1.6%; Prices (Year-over-Year): +5.8%; Inventories: -2.3%

IN A NUTSHELL: “Home sales have been bouncing around and one of the reasons may be the lack of homes on the market.”

WHAT IT MEANS: The existing housing market is a key segment of the economy in no small part because a purchase usually triggers additional purchases of a variety of residence-related goods. To get back to strong economic growth, housing demand needs to be solid. Existing home sales have been rising this year, but in fits and starts. After hitting the highest pace in eight years in July, the level has flattened out. Still, we are looking at a 2015 sales pace that should be the highest since 2006. The National Association of Realtors reported that demand declined in October. There was a sharp reduction in sales in the West, a more modest one in the South and very little or none in the Midwest and Northeast. Purchases of single-family units fell more rapidly than condos. As for prices, they continue to rise solidly in most regions except for the Northeast. The price data are not seasonally adjusted so you have to compare to the same month in previous years. Doing that, the October price level was the second highest October on record, exceeded only in October 2005, the peak in housing prices during the bubble. That pretty much indicates that at least on the price side, conditions are normalizing. One issue, though, continues to overhang the market. The supply of homes on the market is relatively low. That lack of choice may be keeping sales down

MARKETS AND FED POLICY IMPLICATIONS: The housing market is in decent shape but could be a lot better is people decided they were ready to move and listed their homes. But the real issue for housing is what will happen when rates start to rise. It looks like December is when the Fed will start increasing rates and variable mortgage rates should follow. Assuming the markets believe the FOMC that inflation will trend back to 2% in the medium term, longer-term rates could rise as well. As I have argued previously, I think that at least initially, sales should rise. Buyers will have to start factoring into their purchase calculus the simple fact that mortgage costs could be increasing. That should cause some to make decisions that they were able to put off when rates were stable. Realtors have reported that there are lots of “lookers” and fewer “buyers”. That should change when mortgage rates start rising. But one of the long-term costs of the extended low rate environment is that many homeowners have refinanced into very low mortgage rates. Are they going to be willing to move and trade those low rate mortgages for higher rate mortgages? To the extent that low inventories are a problem for the market and that the churn needs to return before sales reach trend levels, the extensive amount of refinancing into historically low mortgage rates may slow the market’s return to normal.

KEY DATA: Starts: -11%; 1-Family: -2.4%; Multi-Family: -25.1%/ Permits: +4.1%; 1-Family: +2.4%; Multi-Family: +6.8%

IN A NUTSHELL: “Home construction has been up, down and all over the place this year, but the trend is still upward, at least slowly.”

WHAT IT MEANS: The curse of this expansion is that the moderate pace has meant the economic data bounce around like crazy. That has been the case with the construction data and we saw that once again with the latest housing starts numbers. And once again, the headline number hid what was happening. On the surface, it appears that builders slowed their pace of construction in October, but let’s go to the details. Single-family construction eased only modestly. The big decline was in multi-family activity and if there is one thing we know, that component is the epitome of volatility. Indeed, the huge October drop came after a robust 18% rise in October. Over the past year, multi-family starts have ranged from a low of 300,000 units annualized in February to a high of 524,000 units in June – and these are seasonally adjusted numbers! So, let’s not take too much from the October decline in starts. Will construction pick up? The October permit requests were about 8.5% above the starts number and for the past three months, permits have been running a little ahead of the building pace, so don’t be surprised if housing activity rebounds solidly in November. And if the strong rise in the Mortgage Bankers Association’s mortgage applications numbers are any indicator of demand, that should happen. Purchase mortgage applications are running about 15% above last year’s levels. Builders should see their fair share of that new demand.

MARKETS AND FED POLICY IMPLICATIONS: Housing is a key sector in the economy and housing sales and starts are still improving. They may not be where most of us would like to see them, but there are factors at work that may be constraining home demand. Housing formation is a major factor in sales and that has been lagging. Younger workers are burdened by high school loan payments. Boomers are bailing out of their homes and may not be looking for new product. Simply imposing past trends on current patterns without making adjustments for changing conditions may not shed a whole lot of light on the state of the housing market. While housing sales and starts may be below desired levels, they may not be that bad if the demographic trends are factored in. That is similar to the situation with the labor force participation rate. Failing to recognize that changing demographics are affecting the labor supply allows people to complain about the decline in the participation rate. But it could be that given the demographic trends and the changing structure of the job market, the decline may not be far from what would have been expected. And that goes for economic growth as well. We would all love to see 4% or even 5% growth. However, trend growth has fallen to less than 2.5%, so those robust growth rates are not likely to be seen. The Fed members understand this and that is why they are likely to believe the economy is currently strong enough to absorb a rate hike fairly easily.

KEY DATA: CPI: +0.2%; Excluding Food and Energy: +0.2%/ Real Earnings: +0.2%/ IP: -0.2%; Manufacturing: +0.4%/ NAHB: -3 points

IN A NUTSHELL: “With consumer prices stabilizing and manufacturing rebounding, the barriers to a Fed tightening continue to come down.”

WHAT IT MEANS: Inflation is coming back, at least a little. The Consumer Price Index rose moderately in October and that was the case in almost any way you sliced and diced the data. For the first time in a while, there were significantly more categories posting gains than declines. Even gasoline prices were up, which was a surprise since the Energy Information Agency had costs declining. Food costs edged upward, but the real gains were found in shelter and medical care. People buying vehicles got a break on prices. Look for more vacation car trips as airfares soared. The strong dollar probably helped drive down apparel costs, but it doesn’t look as if the falling import prices are being passed on greatly to consumers. Importantly, services prices continue to rise at a moderate pace and as I have mentioned so many times before, this is over 60% of costs. Over-the-year, services prices are up 2.4% and excluding energy services, the rise in now at 2.8%. So much for no inflation.

Inflation-adjusted wages rose moderately in October. Importantly, average hourly wage gains are accelerating, a sign that the tight labor market is starting to force firms to raise wages.  

Manufacturing has been weak lately but that seems to be changing. Cut backs in energy production and a warm October that limited utility output may have caused overall industrial to decline, but there was a solid rise in manufacturing production, especially durable goods. Output of consumer goods, business equipment and industrial supplies all improved.

The National Association of Home Builders/Wells Fargo builder sentiment index declined, though it remains at a level consistent with moderate activity. Builders seem worried that potentially higher mortgage rates will slow sales, though the opposite could happen.

MARKETS AND FED POLICY IMPLICATIONS: Tomorrow, the “minutes” from the October FOMC meeting are released. Low inflation and what was perceived to be at the time slowing job gains were likely key factors in the decision to do nothing. Well, the recent data are now on the side of a Fed rate hike in December. Inflation is not decelerating and there could be a real shocker come early next year as the huge declines in energy prices disappear: It is possible that the year increase could be above 1.5% in January, not the 0.2% rise in October. With the core at 1.9%, the Fed’s inflation target is really not that far away. In addition, we have seen that job gains are back on track, wage gains are accelerating and manufacturing is starting to recover. In other words, everything seems to be coming together for those at the Fed who want to start normalizing rates. Investors really need to come to grips with the likelihood that interest rates are going up and the first rise could come in four weeks.

KEY DATA: CPI: -0.2%; Excluding Energy: +0.2%; Gasoline: -9%; Real Earnings: +0.1%/ Claims: 255,000 (down 7,000)

IN A NUTSHELL: “Outside of energy, inflation is already at more normal levels.”

WHAT IT MEANS: Since inflation has generally been the Fed’s major worry, the September Consumer Price Index should provide some clues to the direction of consumer prices. Household costs fell in September, led by another sharp decline in gasoline prices. Excluding energy, price rose moderately. Indeed, over the year, consumer prices are up 1.9% when just energy is excluded from the index. That is not to say gasoline and fuel oil don’t count: They most definitely do. But it is not very likely that energy commodity prices will fall over the next year by the 30% they dropped in the past year. As for the details of the report, they were mixed. Food prices are bouncing back. Critically, cake and cupcake prices jumped. I was devastated. After solid increases in August, apparel and medical care expenses declined. We are still seeing a drop in used car costs, the result of so many vehicles being traded in for new ones. And finally, the services segment of consumer costs continues to accelerate. Few may focus on this grouping, but it does constitute over 60% of the index. Over the year, non-energy related services costs are up 2.7%, which is hardly tame. Shelter is leading the way, which shouldn’t surprise anyone trying to rent an apartment.

The declining consumer prices helped keep household spending power from falling in September. Real hourly earnings rose slowly as the modest decline in wages – which was odd -was more than offset by the drop in prices.

Unemployment claims fell to the lowest level since November 1973. Adjusting for the labor force size, we are at historic lows. Clearly, the labor market is continuing to tighten.

MARKETS AND FED POLICY IMPLICATIONS: One of my favorite phrases is: “The answer to all economic questions is: It Depends!” That is so true when it comes to the question: Is inflation too low? It depends upon which index you use. If you use the top line CPI number, it appears that consumer costs are going nowhere. But the huge fall in energy costs, which is the prime factor in the low inflation rate, is not likely to be repeated. Excluding that wildly volatile commodity, low inflation is not an issue, unless you expect similar massive declines in oil prices going forward. If, over the next year, energy prices are flat and we get the exact same changes in all other categories, next September’s inflation rate would be 1.9%. That is why many are saying that the Fed’s inflation target could be reached next year.   Indeed, the tight labor markets are already driving up wages. Over the year, real hourly wages rose by 2.2% in September. In September 2014, the yearly gain was only 0.4%. With the unemployment rate likely to fall below 5% soon, wages will be rising a lot faster next year. Will rising wages trigger higher inflation? That is really the issue the Fed is struggling with and how the members answer that question will determine when they start to increase rates.

KEY DATA: Sales: 0.1%; Excluding Vehicles: -0.3%/ PPI; -0.5%; Goods: -1.2%; Energy: -5.9%; Excluding Food and Energy: 0%; Services: -0.4%

IN A NUTSHELL: “Consumers have become more cautious, though lower prices are helping keep their total spending down.”

WHAT IT MEANS: Is the economy growing strongly or softly? The answer, if you believe the data, is yes. On the surface, the September retail sales report looks pretty disappointing. But the details don’t necessarily indicate that. Households bought lots of big-ticket items such as vehicles and furniture, but didn’t hit the appliance or electronics store at all. Sales of clothing and sporting goods surged but spending at gas stations, supermarkets and home stores was off. We didn’t buy online but boy do we like to eat out. So what do we make of this? First, it is good to see that there is enough confidence so buy expensive products. Also, these data are not adjusted for prices, so the fall in gasoline sales and at supermarkets may be more a function of declining costs rather than unit sales. Indeed, the average price of gasoline fell nearly 10% in September but sales of gasoline were down only 3.2%. It looks like we were enjoying driving again and at a lower cost! I suspect the inflation-adjusted numbers will look much better than the unadjusted ones.

On the inflation front, the ability to buy more but still pay less for some products looks like it is not going away soon. Wholesale prices fell sharply, helped by another huge decline in energy costs. For the eighth time in eleven months, food prices declined. If you drive and eat, you are doing pretty well. In addition, services costs, which had been rising moderately, took a turn downward. And if you look at the special indices, which break out wholesale prices by just about every combination possible, it was almost impossible to find one that had a positive sign. Even my beloved bakery product prices are going nowhere. There are also no price pressures in the pipeline, as intermediate and crude costs were down. About the only place there is any inflation is in finished consumer goods less food and energy. This index rose moderately in September and over the year, it was up 2.6%.

MARKETS AND FED POLICY IMPLICATIONS: The economy is still in good shape but it is hard to make the case that it is booming. Can it absorb some rate hikes? Undoubtedly. Retail sales are still solid enough that consumer spending will be strong in the third quarter. But it is inflation that is the real issue. The “sturm und drang” at the Fed over China notwithstanding, it is the uncertain course of inflation that could keep the FOMC from hiking rates this year. Unfortunately, the gang that cannot communicate straight is still sending out as many unclear signals as possible, so we will simply have to wait until the statement is released on December 16^th to really know if rates are going up. It is highly unlikely anything will be done at the October 27-28 FOMC meeting. As for the markets, today’s numbers will likely be viewed as showing economic weakness, though I don’t’ think that is entirely accurate. Is that good or bad for equity prices? Got me, though the recent theory is that what is good for the economy is bad for stocks. Crazy, I know. But the soft inflation data should keep interest rates down.

KEY DATA: Imports: -0.1%; Nonfuel: -0.3%; Exports: -0.7%; Farm: -1.1%

IN A NUTSHELL: “The disinflationary impacts from falling import prices is easing, but it has not gone away.”

WHAT IT MEANS: The Fed can live with the current state of the domestic economy, even if it continues to be worried about international activity. But what is causing some members to want to wait before raising rates is low inflation. Declining energy and commodity costs, coupled with falling nonfuel import prices, have combined to keep inflation well below the Fed’s 2% target. Today’s import price numbers don’t provide a whole lot of support for the belief that inflation will pick up anytime soon. Import costs fell only modestly In September as energy prices actually rose. That was a change. But excluding petroleum, there are still some decent downward pressures. Indeed, we saw food, nonfuel industrial supplies and capital good prices ease in September. Vehicle costs were flat and the rise in consumer goods prices was minimal. Previous declines in energy costs are still working their way through the system, so price declines are likely for a while, even if energy prices keep rising. On the export side, the problems facing the agricultural sector continue as the prices for farm products overseas just keeps going down. Food export prices have fallen by over 14% during the past year and that has to be eating into the farm belt’s income.

MARKETS AND FED POLICY IMPLICATIONS: It was nice that the import price declines are moderating, but they haven’t turned positive just yet. The strong dollar is making sure that import prices and thus U.S. inflation remain low. Thus, there is little reason to expect that inflation, at least as measured on a year-over-year basis will move up to 2% soon. But stable or even slowly rising energy prices will allow monthly changes to become positive and that could provide some basis for the argument that inflation will reach the Fed’s target in due course. Basically, we don’t know what the Fed will do and when they will do it. Heck, we don’t even know what ‘it’ is. Minneapolis Fed Bank President Kocherlakota said we should be cutting rates, not raising them. I didn’t realize that the current level of rates was restricting borrowing and therefore economic activity. You learn something new each day. Anyway, the Fed will likely do nothing at the October 27-28 meeting so the focus of attention is on the October and November jobs reports that come out before the December 15-16 meeting. They have to be strong if the Fed is to raise rates before the end of the year, as many keep saying is a possibility.

KEY DATA: Payrolls: +142,000; Revisions: -59,000; Manufacturing: -9,000; Government: +24,000; Unemployment Rate: 5.1% (unchanged); Participation Rate: -0.2 percentage point; Hourly Earnings: -$0.01

IN A NUTSHELL: “Is the jobs machine running out of gas?”

WHAT IT MEANS: Most economists thought the September jobs report would be pretty decent. Boy, were we wrong. Instead, it was ugly. Not only were the job gains well below expectations, but the previously reported July and August increases were revised downward. In the third quarter, hiring averaged only 167,000 per month. That is the weakest three-month average in 2½ years. And the details were just as disappointing. The problems in the oil patch and slowing exports led to layoffs in the manufacturing and mining sectors. In September, that reduced payrolls by 21,000 after a 40,000 decline in August. Still, the rest of the economy didn’t hire at a breakneck pace. There were decent increases in health care, retail, entertainment, residential construction and restaurants, which are all consumer-related sectors. Professional and business services also were up solidly. But finance, wholesale trade, transportation were weak. That was odd since you would think these sectors would be supporting what looks like solid consumer activity. Public sector payrolls were up sharply and we shouldn’t count on that happening too often. A drop in the workweek, a slowdown in overtime hours and a slight decline in the average wage all added to the impression that September was not a good month for the labor market.

It was nice that the unemployment rate remained at 5.1, but the details were not what you would like to see. The labor force fell sharply and that is hardly a sign of a robust labor market. These numbers are extremely volatile but this drop was large nonetheless. With the labor force down, it was not surprising that the participation rate also fell.

MARKETS AND FED POLICY IMPLICATIONS: Why have businesses reduced hiring activity? This report was a downer even if you add back the job losses caused by the weakness in the oil-patch and exports. But manufacturing and exports don’t make up a huge portion of payrolls. Meanwhile, domestic demand seems to be strong. September vehicle sales will exceed the 18 million units annualized mark for the first time in over a decade. Housing seems solid and the summer tourism season looks to have been strong. Consumers are spending, yet business confidence is sinking. So we have a dichotomy: The U.S. consumer is carrying the load but firms are being cautious in their hiring. Or at least that seems to be the case. Another explanation is that companies are trying to hire but they are not finding workers with the desired skills who are willing to take the pay being offered. In other words, it is not an issue of demand but of supply. Or, maybe, the numbers are just strange. If you believe the oil-patch/export theory, it would be large firms who are doing the cutting. But ADP had large firms doing most of the hiring in September. Also, the National Federal of Independent Businesses survey indicated that small firms are hiring near the pace we saw last year. The Bureau of Labor Statistics may not be doing a good job capturing these hires. I just don’t know, but the strong consumer and soft hiring divergence is a conundrum. And when you get conflicting indicators, the best policy is to simply wait and see, which is what the Fed will likely do. So any chance of a hike in October is gone and unless the next two employment reports released before the December meeting reverse the impression created by the last two, we might not even get a hike in December, regardless of what the Fed Chair has been saying.

KEY DATA: Home Sales: +5.7%; Prices: +0.3%/ Orders: -2%; Excluding Transportation: 0%/ Claims: +3,000

IN A NUTSHELL: “A revitalized housing sector, coupled with soaring vehicle sales, should help turnaround the soft manufacturing sector.”

WHAT IT MEANS: The more data we get, the more we see that the U.S. economy is solid enough to withstand a rate hike. Maybe most encouraging is the housing market. The real question in this sector had been the new housing component. The biggest bang for the buck comes from home construction and you don’t get new homes built unless people are buying them. Well, they are doing that. New home demand rose solidly in August after a surge in July. So far this quarter, sales are up by over 8% from the second quarter average. Housing starts should continue climbing. Three of the four regions posted gains, with only the Midwest down. There was a huge rise in the Northeast, which was good to see since it has been lagging. The one thing that could slow sales going forward is the dearth of product. The inventory of homes for sale remains pretty low. As for prices, they have largely flat lined.  

The manufacturing sector has been wandering in the desert lately and it is not clear if it has found its way out yet. Durable goods orders fell in August, driven partly by a slowdown in both civilian aircraft and vehicle sector demand. Boeing sales always bounce around. What was surprising, and likely to change, was the drop in the vehicle component. This year’s sales could be the second highest sales on record and the August pace was one of the highest ever. The orders decline was not a reflection of any weakness in the sector. Still, this report was nothing to brag about. Declines in orders were posted in computers, communications equipment, fabricated metals and electrical equipment. Business capital spending, excluding aircraft and defense, was also off slightly.

On the labor front, the tightening continues. Unemployment claims are at rock bottom. Firms need to find a way to get people to apply and then take their offers, as the openings are there.

MARKETS AND FED POLICY IMPLICATIONS: Janet Yellen speaks at 5:00 PM today and I am not sure if that is good or bad. The Fed Chair has a chance to explain in detail what the FOMC members were thinking when they decided to punt. They might only want to make sure no Chinese or emerging market collapse was in the works but we just don’t know. She needs to do an awful lot better at communicating what are the key factors that will drive the Fed’s rate hike decision. As for economic conditions, at least in the U.S. they are fine. European manufacturing growth is still decent, though the Euro Zone’s Purchasing Managers’ Index eased a touch. What the VW scandal means for Europe is anyone’s guess, but the Fed cannot change the course of events. So, it comes down to China, I think. If the Fed Chair doesn’t roll back the impression that it is all about China, the market roller coaster ride will continue, possible for quite some time.

KEY DATA: CPI: -0.1%; Excluding Food and Energy: +0.1%; Gasoline: -4.1%/ Real Hourly Earnings: +0.5%/ NAHB: 62 (up 1 point)

IN A NUTSHELL: “Modest inflation is inflating spending power, which is good for households even if it is worrisome for the Fed.”

WHAT IT MEANS: One more day, thankfully. But until tomorrow afternoon, when Janet Yellen and her dysfunctional band of not very merry central bankers let us know what they decided to do or not do, the inflation and economic growth data remain front and center. Inflation is still not too hot, not too cold and not just right. Consumer prices fell in August as gasoline costs plummeted. With prices falling faster so far this month, expect September consumer prices to be down again. The one area where costs are rising at a solid pace is shelter. Rents and home prices are jumping. We are also paying more for our sustenance, both at home and at restaurants. There is growing price pressure on the three major food groups: Cakes, cupcakes and cookies. With the dollar strong and import prices falling, it is not clear why clothing costs are increasing, but they are. Medical care has cooled a touch, at least when it comes to services, though not for medical commodities. The surging vehicle sector is suffering from trade-in overload and used vehicle prices are falling, not surprisingly. And finally, airline fares are crashing like, well let’s skip that analogy.

While the Fed members may be paralyzed by the horror of low inflation, households are probably dancing the jig. An acceleration in wage growth, coupled with declining inflation, led to a surge in real wages in August. With hours worked also increasing, weekly income, adjusted for inflation, rose a solid 2.5% over the year.

On the housing front, conditions remain strong. Homebuilder confidence improved again in September as the National Association of Home Builders’ index hit its highest level in nearly a decade. Sales and traffic are increasing but expectations of future sales were off. Every region posted a gain except the West, which was flat.

MARKETS AND FED POLICY IMPLICATIONS: There are two issues that could keep the Fed from raising rates tomorrow: Low inflation and market volatility. Excluding food and energy, consumer costs are up 1.8% over the year. That is below the Fed’s target but not so much so that it should worry a whole lot of members. The CPI tends to run a touch hotter than the Fed’s preferred measure, the Personal Consumption Expenditure (PCE) price index, but not by very much. So, while inflation is not accelerating, it is not so far from the target that the Fed couldn’t fudge things. As for market volatility, my stance is clear: The Fed has no business protecting investors who don’t believe the Fed is going to do what it has said it wants to do, which is raise rates. Indeed, the uncertain over rate hikes is probably the major cause of the volatility. So, the Fed should raise rates tomorrow, even if the members have not synched their messages with that action very well. Whether they will or not is still anyone’s guess.

KEY DATA: Sales: +0.2%; Vehicles: +0.8%/ Industrial Production: -0.4%; Vehicles: -6.4%

IN A NUTSHELL: “Given the strength of vehicle sales, I think we can safely discount the decline in industrial production that was the result of a cut back in vehicle assemblies.”

WHAT IT MEANS: In two days we will know whether the Fed has begun moving rates back toward normal or is waiting for a better time to do that. Today’s data really don’t change any thinking. Retail sales rose modestly, but that came after a sharp increase in July. Also, there was a large cut in gasoline sales, which was likely do to price not demand factors. People ate at home and in restaurants, bought clothes and electronics, but stayed away from furniture and home building stores. Essentially, after a very strong July, people continued to spend in August.

Industrial production was surprisingly weak in August. But that was likely nothing more than vehicle makers changing over models more randomly than they used to, making seasonal adjustments difficult. In July, vehicle production soared 10.6% but was down 6.4% in August. Huh? Sales are booming and vehicle makers are just doing what they now do, which is to offer new vehicles when the time comes. There was also a decline in airplane output and we know the contractors have massive backlogs. So, don’t worry about the output decline. It was probably technical, not fundamental.

MARKETS AND FED POLICY IMPLICATIONS: In1999, former St. Louis Fed President Bill Poole presented a paper to the Philadelphia Council of Business Economists that argued the Fed should “synch” the markets, not “sink” the markets. Basically, Fed moves should not be a major surprise to investors. But that requires relatively clear communications. The current Fed members have not done that very well at all. Thus, as we await Thursday’s decision, there remains uncertainty. It may just be that high level of uncertainty is what prevents a rate hike. If so, a move in October, which would come with better messaging and a clear indication that something is up (like rates?) by scheduling a conference call with the press become much more likely. This Fed needs to do communicate much better.

Let me end this commentary with some of Dr. Poole’s concluding comments made 16 years ago:

“I believe that a policy agenda designed to heighten the degree to which the Fed and the markets are in synch is an ambitious and worthy objective. We in the Fed need to work on two fronts, in my opinion. One is the policy front itself, making sure that policy actions are as appropriately timed and scaled as possible. The second is on the disclosure front making sure that knowledge inside and outside the Fed converges to the maximum possible extent.

… The conclusion I have been discussing—that, with full convergence of information, Fed policy actions will not affect market prices because the market has already predicted them—initially surprised me. But the more I think about the matter, the more compelling the conclusion is.”

To that I say, Amen!