The Economy: A Look Back and What’s Ahead
Last Week
Economic data last week was sparse, and what we did get largely missed expectations. But, the data wasn’t important enough, nor were the misses big enough, to materially alter the expected course of Fed policy. So, the net effect was that last week’s data further solidified that the Fed will announce QE tapering this month, but the amount of the taper will be very, very small (say $10 billion, give or take $5 billion).
Looking at last week’s data, the durable goods number was probably the “worst” of the week, showing a pullback in capital expenditures from businesses in July. But, while a disappointing number, there has been undeniable improvement in capex over the past several months. For now, this one bad report isn’t materially changing the economic outlook, although some firms noted their projections for 3Q GDP may be revised down because of the weak durables number.
While durable goods was the biggest miss last week, pending home sales was probably the most-important number. Pending home sales declined from a six-year high in May but generally met expectations. More importantly, pending home sales—which reflect contract signings in June—didn’t fall off a cliff like new home sales did.
So, while there is now a lot of proof to show that higher mortgage rates are slowing the housing recovery, the recovery itself has not stalled. The economy can continue to grow even with the housing recovery moving at a slower pace—the important thing is that housing hasn’t reversed course. Remember, don’t confuse a slowing of the pace with a turn in direction—the former the economy can live with; the latter, it can’t.
Other notable reports last week included the revised look at 2Q GDP, which beat expectations at 2.5% vs. the 1.7% reading from the first look. But, a lot of the positive revisions came from exports and inventories, not from an increase in Personal Consumption Expenditures or Non-Residential Fixed Investment, which would signal that the “real” economy is accelerating.
Jobless claims were flat last week, and continue to imply small but incremental improvement in the labor market. Meanwhile personal income and consumer spending both increased in July but missed expectations.
Importantly, the core PCE price index (the Fed’s preferred inflation measure) contained in Friday’s income and outlays report showed that year-over-year price increases remain well-below the Fed’s 2% target at 1.2%. That’s important because it means concern about “dis-inflation” will remain, which is another reason the Fed will keep the September taper very, very small.
This Week
This is a busy and potentially decisive week with regard to what will happen at the Sept. 18 Fed meeting. That’s because it’s “jobs” week for August. So, we get ADP Wednesday, Challenger job openings and weekly claims Thursday, and then the government report Friday.
Right now expectations are for a number similar to what we’ve seen over the last several months (in the high-100K job adds), but here is the key to the number this week: Unless the report is awful, and by awful I mean fewer than 100K jobs added, then tapering in September is definitively “on.”
Away from employment, we get the latest official manufacturing and composite Purchasing Managers’ Indexes from around the globe.
One of the biggest themes we’ve been talking about during the past several weeks is the stabilization of global economic growth—which, if it continues, is a major foundational positive for risk assets. I’ve said it before, but it’s been years since we’ve had the four largest economies in the world (EU, China, Japan, U.S.) all growing at the same time, and I think a lot of strategists and analysts are underestimating the positives of that environment, if it truly materializes.
We got official Chinese and European manufacturing PMIs already, and they were universally better than expected, but China’s composite PMI comes tonight, and European numbers are released Wednesday morning. Domestically, the manufacturing PMI comes this morning, and the services PMI comes Thursday.
Finally, there are multiple central banks with announcements this week: the Reserve Bank of Australia on Tuesday; the Bank of Japan Wednesday; and the European Central Bank, Bank of England and Bank of Canada Thursday.
No one is expecting any movement on the interest rate or policy front from any of them, and I’ll cover ECB/BOE expectations as we get closer. But here’s the overarching theme to look for: The Fed, via its intention to taper, is exporting higher interest rates to the rest of the world. Other central banks need to more-effectively counter that rise in rates, either through rhetoric (“forward guidance”) or, ultimately, via more accommodation. (That means more QE from the BOE, and more Long-Term Refinancing Operations from the ECB).
So, look for all these central banks to reiterate their commitment to very accommodative policy, which is an underlying positive for those respective economies (especially Europe) as the global economy turns for the better amidst a backdrop of still-historic monetary accommodation.