December Services Sector Activity, November Trade Deficit and Weekly Jobless Claims

KEY DATA:  ISM (NonManufacturing): -7.1 points; Orders: -8.2 points; -1.6 points/ Trade Deficit: $13 billion wider (19.4%); Exports: +0.2%; Imports: +4.6%/ Claims: +7,000

IN A NUTSHELL: “Growth is moderating, though it still looks as if the fourth quarter increase will be quite strong.”

WHAT IT MEANS:  The Fed is signaling that rate hikes are coming and there is good reason for that to be the case: The economy continues to grow solidly, even if the pace is moderating.  The Institute for Supply Management’s non-manufacturing index dropped sharply in December.  That followed a less dramatic decline in its manufacturing measure.  Yet neither dip points to major economic issues.  Why?  The level of activity remains quite high.  It’s just that we are coming off of huge increases that were not sustainable, especially with government stimulus funds slowing or running out. New orders remain solid, though not booming.  More workers are being hired and while backlogs are building less rapidly, they are still growing.  Essentially, growth is trending back toward a more sustainable pace, which is what was expected.  The major disappointing component in the report was costs of goods.  Prices paid for supplies and services grew at an even faster pace.  That is different than we saw in the manufacturing report, where input expense gains eased sharply.

The trade deficit, as expected, widened significantly in November, as exports increased minimally, but imports surged.  It would have been worse, but there was a huge increase in service exports due to the borders being opened to foreign travelers.  The goods deficit skyrocketed.  Price increases also hyped the size of the changes. On the export side, only the sale of food products rose over the month.  The remaining categories posted good-sized declines.  As for imports, we bought more of everything from the rest of the world.  The trade deficit for the first two months ran at the same pace as the third quarter.  But with some progress being made at the ports, I expect the widening of the deficit to continue in December, so for the quarter, trade will likely restrain growth.

Jobless claims rose last week, but the level is ridiculously low, especially when you adjust for the size of the labor force.  Firms are just not cutting workers loose out of fear they will be unable to replace them.  Indeed, Challenger, Gray and Christmas reported that layoff announcements in 2021 were the lowest since they started collecting data in 1993.

IMPLICATIONS:The equity markets never stop amazing me.  Yesterday, the Fed released the minutes from its December meeting and not surprisingly, it was indicated that the members were growing quite worried about inflation and that a rate hike could come as soon as the March meeting.  The markets tanked on that news.  Duh, has anyone been listening?  Central banker after central banker has been speaking about how inflation was now a concern and that rates would be going up.  The Fed’s forecast, released after the December meeting, pointed to as many as three increases.  Yet when the Fed put into print that it would be doing what it has been signaling it would be doing, investors suddenly got worried.  Does the Fed have to hit people over the head with a sledgehammer to get them to listen?  Barring a major shock, rates are going to be hiked at the March, May, or at worst June meeting.  Does a couple of months really matter?  No.  But I guess for the Rip Van Winkles it does.  The point is, even with the economy decelerating, inflation is not going to come down rapidly.  Growth is strong enough to support rates hikes.  Unfortunately, the Fed has trained households and businesses to believe that the once-called “emergency” low rates are normal rates.  When you keep rates near the bottom for a decade, that’s what should be expected.  Thus, any talk of rate increases worries people, even though it will take quite a few increases (and probably several years) before the level even approaches long-term normal.  The Fed needs to clean up the mess it created by keeping rates so low for so long and it is good that it will be starting to do that – the sooner the better.