KEY DATA: NFIB Index: -2.6 points/ Job Openings: -46,000; Hires: -104,000; Quits: -13,000

IN A NUTSHELL: “Despite a modest decline in optimism, small business owners remain exuberant and that should lead to greater job growth, if they can find the workers.”

WHAT IT MEANS: Small is good, at least when it comes to job creation, so near record levels of small businesses optimism is something to celebrate. Yes, the National Federation of Independent Businesses Small Business Optimism index did recede in December, but it remained near record highs. That was reached right after the Reagan tax cuts were passed, so you can probably say that small business owners are big on tax cuts. They would like to hire more workers, but they continue to be constrained by the lack of qualified workers, especially in construction and manufacturing. What is interesting in the report was the difference between actual conditions and optimism. Earnings growth is slowing, sales are moderating and costs, especially wages and compensation, are rising. Yet there is optimism about future sales. Owners are making plans to hire more workers, yet 54% of the respondents said they could find few or no qualified applicants. As for capital spending, there has yet to be a surge in plans to invest.

The lack of workers that small businesses are finding is a universal issue. While the number of job openings eased in November, it remained extremely high. It is likely the slowdown in hiring is due to the lack of labor turnover. Despite what appears to be an employee market, workers are just not quitting their jobs and making themselves available to the highest bidder. On top of that, the rate of layoffs and discharges is almost at an historic low. There is just no churn in the market and that is restricting the ability of companies to find “qualified” workers.

MARKETS AND FED POLICY IMPLICATIONS: Over the next few months, workers will start seeing their paychecks boosted by the tax changes. For some it will be minimal but for many it may be enough to generate stronger spending. Meanwhile, businesses will be making plans for the surge in after-tax earnings that will be staying in their bank accounts. We are seeing a variety of announced plans, ranging from workers bonuses to massive stock buybacks. What is likely coming is a flood of mergers and acquisitions. In a perverse way, that may be good for the labor market as lots of workers will lose their jobs, adding to supply. It is going to take a long time for the effects and consequences, intended or not, of the tax changes to become clear. Until then, the exuberant investor will likely remain that way. As for the Fed, it looks like it still is all about inflation or expected inflation. I suspect it will take an extended period of above target price increases to get the Fed to tighten as many as three to four times this year. But that is not out of the question. My forecast of at least three moves last year won me lunch and I am betting another lunch on four moves this year.

KEY DATA: Payrolls: +148,000; Private: +146,000; Revisions: -9,000; U-Rate: 4.1% (Unchanged); Wages: +0.3%/ Trade Deficit: $1.6 billion wider

IN A NUTSHELL: “While the headline job gain number may have disappointed, the average over the last three months was still very strong.”

WHAT IT MEANS: We are starting to get the final 2017 data with the first big one being the jobs numbers. To many, the 148,000 jobs created was a disappointment. But this is a classic example of why you need to understand the pattern of the data, not just look at headline number. Yes, there were fewer positions added than many had forecast, but the jobs numbers are volatile. Over the last three months, an average of 204,000 new positions were created. That is very strong job growth that is likely not sustainable. In December, the job gains were led not just by health care, but also by robust increases in construction and manufacturing. These sectors are helping carry the load and show that the fundamental economy is in good shape. They also offset a large decline in the faltering retail sector.

A second reason to be confident about the economy is the unemployment rate, which remained at an extremely low 4.1%. As a result, wage increases are picking up. The 2.5% increase over the year may not be as high as most workers would like, but it is getting there. The stable participation rate is also a good sign. It is likely that a growing number of people are entering the workforce as to offset the rising boomer retirement rate. Still, with the labor force expanding at a modest 0.5% pace over the year, it will be hard to maintain strong job and economic growth for a sustained period.

While the trade deficit widened again in November, it did so for all the right reasons. The world economy is finally in synch and that means we have growing markets across the world. Exports expanded solidly with every major category posting gains. The rise was not simply due to increasing petroleum prices. But the strong U.S. economy is also sucking in goods from the far corners of the world and as is usually the case, doing so faster than we can sell to foreigners. The only category of imports that was down was food.

MARKETS AND FED POLICY IMPLICATIONS: Supposedly, there is a vast army of potential workers sitting around who have skills, who can pass drug and background checks and who want to work. If you believe that, I am selling even more shares in my next Broadway show. The idea that the “animal spirits” will cause job growth to soar would make sense if there weren’t a shortage of workers already. Unless companies are making up the story that their biggest problem is finding qualified workers, we are not likely to see the hoped-for 200,000 or more job gains per month. Firms are already laying few people off so they may have to find ways to keep people from retiring or quitting. That can only be done by making it worth the workers’ while to stay on. In other words, by paying up. To the extent bonuses are used and that doesn’t show up in average hourly wages, we may be looking at bad wage data. So, watch the quarterly Employment Cost Index, which next comes out on January 31st. That does a little better job at getting at total compensation. This is important because it is clear from the latest Fed minutes that there is a schism at the Fed over how much to raise rates this year. Accelerating labor compensation costs would worry even the doves at the Fed. So, don’t assume the less than expected headline job growth number will be a moderating factor in Fed rate hike thinking.

KEY DATA: ADP: +250,000/ Layoffs: 32,423/ Claims: +3,000

IN A NUTSHELL: “If this is not a tight labor market, I don’t know what is.”

WHAT IT MEANS: Tomorrow is employment Friday and it will provide us with another reading not just on job gains but also on wages. But first we need to see if demand for workers is holding up and it looks like that is the case. ADP’s reading on private sector job gains for December came in well above expectations. The increases were robust in both small and mid-sized business, while larger firms added jobs solidly. Looking across industries, only the information services sector posted a decline. Construction, manufacturing, professional and business services, trade and health care all added lots of new workers. In other words, the labor market is in great shape.

A clear indicator of how tight the labor markets are is the Challenger, Gray and Christmas job cut report. December layoff notices were modest and the total for the year was down by over 20% from the 2016 pace to the lowest level since 1990. Helping out was the rise in energy prices and the energy sector’s stability accounted for almost 90% of the difference in layoff notices over the year.

Jobless claims edged up last week and the level is a touch elevated. That is odd given the lack of job cuts and the high demand for workers. Still, when adjusted for the size of the labor force, the level remains quite low. Firms are simply not cutting their workforces.

MARKETS AND FED POLICY IMPLICATIONS: The Fed members have been puzzling over whether the labor market is at or near full employment. The extent of slack, if there is any, is critical because more rapidly rising wages would put pressure on prices, forcing the FOMC to hike interest rate faster and greater than the markets expect. Well, the data seem to indicate the labor market is really tight. Layoff notices are near record lows, as are unemployment claims. The need to hold on to their workers is also helping the job growth numbers. Keep in mind, monthly employment changes are the difference between payroll increases and decreases and those can occur for any reason, including hiring, firing, business births or business deaths. When the job cut numbers are low, it allows for the job increases to be higher as it reduces the number of people looking for jobs as well as job openings. Think of what the job openings would be if firms were more aggressive in their firings. I would be surprised if tomorrow’s report shows anything near what ADP says were the job gains, but it should be a good report nonetheless. But I will be watching the unemployment rate and hourly wage data. If the rate declines and wages rise faster, which is likely, the Fed is going to start worrying about wage inflation. Jerome Powell may not be taking over with the same level problems that either Ben Bernanke of Janet Yellen faced when they assumed the Fed’s reins, but he still could be in for a very difficult time. The markets are not expecting more than a couple of rate hikes this year but more and more economists, including myself, think that there will be at least three and possibly even four. Investors have been looking past interest rate moves. They didn’t expect the three we got last year but passed them off as irrelevant. If we get another three or four this year, will they continue to be so bullish?

KEY DATA: ISM (Manufacturing): +1.5 points; Orders: +5.4 points/ HWOL: +229,700/ Construction: +0.8%

IN A NUTSHELL: “The economy carried a lot of momentum into 2018 and that growth will be boosted by the tax cuts.”

WHAT IT MEANS: It is shaping up to be a very good year. The data for the December are starting to come in and they look really good. The Institute for Supply Management’s manufacturing index rose nicely, driven by a strong gain in new orders. Both export and import demand were up solidly. With orders rising, production expanded at an accelerated pace. The only negative, if it really is one, was a deceleration in the pace of job gains. Still, manufacturing firms are hiring at a solid pace and the growing order books should lead to even better payroll increases going forward.

The Conference Board’s measure of online job ads rose in December. There had been a nearly two year decline in want ads, but that started turning around in the spring. It looks like the pattern is clearly up again. Geographically, the increases were in almost every state and all metro areas reported. Eight of the ten occupations also showed increases in online advertisements. With unemployment falling and advertising rising, the pressure on firms to find qualified workers is high and worsening.

Construction activity continues to soar as well. The value of new construction jumped in November with private activity leading the way. Both residential and nonresidential building rose solidly. The increase in office and commercial building points to growing confidence in the staying power of the expansion.

MARKETS AND FED POLICY IMPLICATIONS: The economy is in really good shape. It is hard to find a sector that is weak. Even vehicle sales, which were expected to slow in December, appear to have come in at a very strong pace, possibly the second highest of the year. That implies fourth quarter growth should be in the 3% range and could exceed it. And once the tax cuts start hitting worker paychecks, we could see some acceleration in demand. Meanwhile, companies will have to figure out what to do with their large increases in profits that were created by the tax reductions. How they spend that largesse will determine the extent to which the economy grows this year. Will they be put to good use by funding capital spending or will they be squandered on stock buybacks and dividend increases, which increase stock prices but not productive capacity or efficiency? How much goes to workers versus executives or owners of capital will also determine the extent to which consumer demand rises. However that works out, growth should be in the 3% range this year and maybe greater. But as I like to say, no good deed goes unpunished. That pace of growth would drive the unemployment rate down below 4% and by year’s end, the 50-year low of 3.4% could be in sight. If that doesn’t raise wages, nothing will. And if that happens, the Fed will be raising rates more than expected. But for now, let’s enjoy the strong economic numbers, which should help keep investors quite happy.

KEY DATA: GDP: 3.2% (down 0.1 percentage point)/ Phila. Fed: +3.5 points/ LEI: +0.4%/ Home Prices (Over-Year): +6.6%/ Claims: +20,000

IN A NUTSHELL: “There seems to be no end to the strong data.”

WHAT IT MEANS: Another day of numbers, another round of strong data. The second revision to third quarter GDP showed basically the same growth rate that had been seen in the previous two iterations. That is really a surprise. There is normally a great set of changes as a broader sample of data come in. The changes were relatively modest, though there was a somewhat larger downward change to the gross domestic income measure. That seems to indicate that income growth is not quite as solid as the goods and services measure. Regardless, this was the second consecutive above-3% growth pace and it is consistent with the other data that are showing the economy is accelerating.

Will this strong growth continue? Even without the tax bill, there was every reason to think growth could hold up, at least for a while. The Philadelphia Fed’s early December reading of Mid-Atlantic manufacturing improved quite solidly. Importantly, confidence rose, most likely driven by a pick up in new orders. This area doesn’t have a lot of manufacturing, but the index does give us some insight into national trends and it is fair to say the sector is accelerating.

A second sign of strong future growth comes from the Conference Board’s Leading Economic Index, which rose again in November. The solid increase came on top of a huge, hurricane recovery increase posted in October. It is telling us that growth could accelerate over the next six months.

And then there is housing. The Federal Housing Finance Agency’s Home Price Index popped in October, mirroring the other home prices measures we have seen. The beleaguered Middle Atlantic region has finally joined the party, but the West Coast is where prices are simply soaring out of sight. In that area, we are probably in bubble mode.

Finally, there was a surge in unemployment claims last week. But that was on top of one of the lowest readings we have seen, so there is nothing to made of the jump. The labor market is tight.

MARKETS AND FED POLICY IMPLICATIONS: The year is ending on a high note. Growth is strong almost across the board. The impacts of the tax bill will not likely be seen before mid-year 2018 as the lower taxes show up in weekly paychecks, not all at once. Yes, some companies are giving out bonuses, but those only temporarily increase spending power. They look big, but for companies making billions, it is not a lot. Unless the bonuses are more widespread, they are not likely to do much for personal income. But raising the minimum wage does add to costs and income growth on a continuing basis. We need a lot more companies announcing that they are raising their minimum wage before we can conclude that spending will rise more solidly than it has been. Forecasts of 2018 growth are coming in and they range from about 2.5% to 3.5%. Oddly, I am pretty much in the middle, at 2.9%. I don’t usually wind up at consensus but that is where I am. In other words, next year is shaping up to be a really good one and it may even exceed the 2015 growth rate of 2.9%.

In a Nutshell: “The Committee decided to raise the target range for the federal funds rate to 1-1/4 to 1‑1/2 percent.”

 Decision: Fed funds rate maintained increased to 1.25% to 1.50%.

Not surprisingly, Federal Reserve Chair Janet Yellen went out with a bank, or a rather a rate hike. The FOMC announced that it was raising the target range for the federal funds to 1.25% to 1.50%. This constitutes the third rate hike this year, pretty much what most of us expected going into the year.

What was interesting in today’s releases was the sharp upward revision to the Fed’s expectations on economic growth next year. Instead of increasing at a 2.1% pace, which was the median forecast in September, the members now put it at 2.5%. That upward revision is in line with the projections of most economists when you factor in a tax bill. While the Committee didn’t specifically mention fiscal policy in its statement, Chair Yellen did say she thought a tax cut could be modestly positive next year. She didn’t think it would change the growth path afterward, which is also consistent with both the members’ forecasts and that of most private sector economists. There could be some greater growth, but echoing her view, it would be limited.

What was interesting is that the Fed believes that its rate policy will not only allow inflation to rise to its target of 2% in the medium term, nothing new there, but continue “supporting strong labor market conditions”. As one reporter pointed out, that could mean the Fed already thinks the labor market is strong enough and could become concerned if the unemployment rate goes lower. Strangely, despite the upping of growth and the lowering of their expected 2018 unemployment rate, the members have not altered their inflation forecast. One of the questions asked at her last press conference was whether Chair Yellen thought the unchanged inflation rate was inconsistent with lower unemployment rates and faster growth. Her answer was essentially that the Fed was unclear why the inflation rate had not accelerated lately, which to me means that a sudden spurt could create real concern. Finally, the so-called dot-plot called for about three rate hikes next year. That would be consistent with the forecast of decent (2.5%) growth but no major acceleration in inflation. Any deviation from either would likely mean more hikes.

Lastly, I think Janet Yellen did a wonderful job as Fed Chair. There were more than a few times I disagreed with her positions, but her leadership was outstanding and she leaves the Fed with an economy that is growing solidly and a financial system that is much more stable than when she started. It is hard to quarrel with her results, especially given that fiscal policy was in a state of gridlock during her term and economic policy was squarely on the back of the Fed. Well Done!

(The next FOMC meeting is January 30-31, 2018.)