KEY DATA: PPI: +0.2%; Goods: +0.3%; Services: +0.1%/ Deficit: up $0.7 billion; Exports: +1%; Imports: +1.1%/ Claims: -2,000
IN A NUTSHELL: “It looks like the big bump the economy received from a narrowing trade deficit in the first quarter will disappear in the spring.”
WHAT IT MEANS: The events swirling around the economy continue to create chaos but economists still have to make sense of the economic data. Wish me luck. Let’s start with inflation, since that is the key to Fed behavior. As long as inflation remains near the target, there is not likely to be any change in rates. Well, that is likely to be the case. Wholesale prices rose moderately in April, led by another sharp increase in energy prices. Offsetting that, though, was a decline in food costs. As a result, producer goods prices, excluding food and energy, were largely flat. Since April 2018, business costs are up between 2% and 2.5%, depending upon which special index you look at. As for the pipeline, there appears to be some pressure building in the cost of food. Those higher prices tend to be passed through. Still, given that the path from wholesale to retail prices is not straight and is often a dead end, it is hard to make the case that inflation will accelerate significantly due to rising costs of production. That is especially true given that the trend in services inflation, which had been leading the way, is down.
Meanwhile, all is not quiet on the trade front, even before the president made his threat to impose higher tariffs on Chinese imports. The trade deficit widened somewhat modestly in March, in line with what would have been expected given the data in the GDP report. But while I don’t expect a major revision to the trade numbers for the first quarter, it looks like the narrowing we saw has largely disappeared. At least in March, the numbers were actually heartening, despite the widening. Both exports and imports rose, which is what should happen when the economy is strong and the rest of the world is growing. On the export side, the soybean farmers were back in the market, as sales surged. But that could change quickly if the tariffs are imposed. Energy exports were also up. On the other hand, aircraft exports cratered. As for imports, higher prices and growing demand led to a rise in demand petroleum-related products. Indeed, imports of just about everything else rose, the major exceptions being cell phones and televisions.
Jobless claims remained slightly elevated, but there are few signs the labor market is weakening. MARKETS AND FED POLICY IMPLICATIONS:The latest research makes it clear that consumers are paying the cost of the tariffs. But the volume of goods being taxed is small given the size of the economy, so there is little pressure on prices. That is likely to be the case if the tariffs in Chinese products are raised. But the threats, their imposition, their relaxation, new threats and on and on just makes it impossible to determine where the trade deficit is going. Clearly, given sufficient lead-time, firms will expand imports in the months before the tariffs are imposed and lower them afterward. Just the threats change patterns. With companies now making decisions on what to order for the holiday shopping season, the uncertainty over when and how much to order is heightened. If new tariffs do come on, as is likely to be the case, then firms could hesitate importing goods, hoping that the tariffs will be rescinded. On the export side, the Chinese will be true to their word and respond in kind. I suspect the farmers are not a very happy bunch. Since trade flows have been modified by politics, it is necessary to look at growth excluding this crucial sector.Trade added one full percentage point to growth and could add nothing or even subtract from growth this quarter. That could help create an artificially low growth rate in the second quarter, just as it created an artificially high number in the second quarter. As for inflation, there is no reason to think it will accelerate or decelerate, which is good news for the Fed. Finally, while today’s data are important, the trade threats matter and until some of the fog of trade war lifts, uncertainty will likely drive investment decisions. And that is rarely good for the markets.