The consensus view of the economic outlook is supportive of further gains in stocks and further upward pressure on Treasuries and the dollar through December. In particular, consensus looks for above-trend 2+% Real GDP Growth in Q416, with evidence to be seen this coming week from an uptick in the November Mfg ISM and a modest speedup in November Payrolls. While these expectations cannot be dismissed, there is some contrary evidence. Also, some possible offsets in next week's reports could mitigate the impact on Treasuries and the dollar while sustaining gains in stocks.
Mfg ISM (due Thursday, December 1)
1. Consensus is
for an uptick to 52.1 from 51.9. There is no obvious risk, but even a
consensus-like print would be consistent with only modest economic
growth.
2. The regional surveys are mixed, with none having a solid relationship with the Mfg ISM.
3. Seasonals favor an increase, but they did not provide the correct signal in October.
November Employment Report (due Friday, December 2)
1. Consensus is for a speedup in Payrolls to +174k m/m from +161k in October. But, the risk is for smaller increase, as hiring may have remained subdued ahead of the elections.
a. Continuing Claims point to a slowdown in November Payrolls. Their second difference between Payroll Survey Weeks correctly predicted speedups/slowdowns in Payrolls in 6 of 10 months this year -- all correct predictions but one since April. Weather effects could have interfered with the relationship in the first 3 months of the year.
2. Consensus is for a steady 4.9% Unemployment Rate. But, the risk is for an uptick, if an improved outlook draws in more people to the labor force. An uptick would support a gradual pace of Fed tightening, as the increased capacity of the labor market would allow the economy to grow faster than trend without spurring inflation.
a. An improvement in the November Conference Board Consumer Confidence Index (expected by consensus), due Tuesday, would support this risk. The Unemployment Rate moved in the same direction as the jobs component of this confidence survey in each of the past two months.
3. Consensus is for +0.3% m/m Average Hourly Earnings, staying high even after the +0.4% in October. The risk is for +0.1% m/m.
a. Calendar considerations suggest a 0.1% m/m print.
b. The last two times AHE rose 0.4% m/m, it was followed by 0.1% in the subsequent month.
Q4 Real GDP
1. There is not enough evidence yet to have a confident estimate of Q4 GDP Growth.
2. So far the evidence is mixed: Stronger: /1/ Motor Vehicle Output/Sales, /2/ Residential Construction, /3/ Business Equipment Spending. Weaker: /1/ Net Exports, /2/ Inventory Investment.
3. The latest model estimates from the Fed are: Atlanta: 3.6% (q/q, saar), NY: 2.5%. But, the Atlanta Fed model was last updated on Wednesday (November 23) -- before the release of preliminary data for the October Trade Deficit and Wholesale/Retail Inventories on Friday (November 25). These preliminary data were weak. It is not clear whether the NY Fed model took them into account.
Sunday, November 27, 2016
Wednesday, November 23, 2016
Treasury Market Sell-Off Overdone?
The sharp sell-off in the long end of the Treasury market since the election is attributed to fears of the inflationary implications of the expansionary fiscal policy and trade policies espoused by Trump. There are reasons to think that these fears have been overdone.
1. President-Elect Trump has been pulling back from extreme statements he made during the campaign. Perhaps a better sense of reality, constraints or responsibility are behind this pull-back. While most of these new positions so far have negligible direct, near-term implications for the economy or markets, the same factors behind them could restrain the more market-important size of tax cuts he is expected to propose. In particular, the Republican concern about the size of the Federal deficit -- underscored by Yellen in her latest Congressional testimony -- could put a lid on the amount of tax cuts.
a. Balancing tax rate reductions by eliminating some tax deductions could have distribution problems. The mortgage deduction, for example, is important to middle class taxpayers. This deduction already is largely phased out for upper income people.
2. It is difficult to see a significant pickup in inflation in the next 6 months or more as long as the dollar stays strong. While the consensus view is that Trump's desire to restrain imports will lead to higher inflation, this effect could be mitigated by the consequent narrowing in the trade deficit lifting the dollar further.
a. The October Core PCE Deflator, due November 30, is likely to print a modest 0.1% m/m, keeping it at 1.7% y/y.
b. This low inflation print probably will not stop the Fed from hiking by 25 BPs in December. The Fed's forward guidance will be the important new information. My guess is that it will retain the expectation of 2-3 hikes in 2017. But, Yellen could temper it by saying that the path will be very gradual in her post-meeting news conference -- which could mean the next hike would be in the Spring or Summer. This combination could temper longer-term inflation expectations in the Treasury market while leaving the stock market unscathed. It might be the event that triggers a rally in the Treasury market.
1. President-Elect Trump has been pulling back from extreme statements he made during the campaign. Perhaps a better sense of reality, constraints or responsibility are behind this pull-back. While most of these new positions so far have negligible direct, near-term implications for the economy or markets, the same factors behind them could restrain the more market-important size of tax cuts he is expected to propose. In particular, the Republican concern about the size of the Federal deficit -- underscored by Yellen in her latest Congressional testimony -- could put a lid on the amount of tax cuts.
a. Balancing tax rate reductions by eliminating some tax deductions could have distribution problems. The mortgage deduction, for example, is important to middle class taxpayers. This deduction already is largely phased out for upper income people.
2. It is difficult to see a significant pickup in inflation in the next 6 months or more as long as the dollar stays strong. While the consensus view is that Trump's desire to restrain imports will lead to higher inflation, this effect could be mitigated by the consequent narrowing in the trade deficit lifting the dollar further.
a. The October Core PCE Deflator, due November 30, is likely to print a modest 0.1% m/m, keeping it at 1.7% y/y.
b. This low inflation print probably will not stop the Fed from hiking by 25 BPs in December. The Fed's forward guidance will be the important new information. My guess is that it will retain the expectation of 2-3 hikes in 2017. But, Yellen could temper it by saying that the path will be very gradual in her post-meeting news conference -- which could mean the next hike would be in the Spring or Summer. This combination could temper longer-term inflation expectations in the Treasury market while leaving the stock market unscathed. It might be the event that triggers a rally in the Treasury market.
Sunday, November 13, 2016
Thinking About Trump, the Fed and the Markets
The markets are repricing as they absorb the implications of Trump's victory. For stocks and oil, the repricing is sectoral as well as macroeconomic in nature. For Treasuries, the backup in yields reflects a greater risk of aggressive fiscal policy and stronger economic growth/inflation ahead. There is unlikely to be any significant unwinding of these market moves before he takes office in January. Even weaker economic data should have limited impact, given prospects of large tax cuts and infrastructure outlays ahead.
But, once Trump gets into office and fleshes out his policies, the markets could act quite differently. In broad terms, the biggest threat to the economy would likely be a trade war resulting from his desire to protect US jobs. In contrast, the biggest boon to the economy could be the combination of large fiscal stimulus and a cautious Fed. Here are a couple of scenarios.
Negative for Stocks, Positive for Treasuries
1. Trump's approach to help sustain US jobs in a global economy -- one of his main campaign promises -- could lead to a trade war if he goes with pushing for large tariffs. A trade war would raise prospects of a global recession. Obviously, the US job situation would worsen in this case.
2. The risk of large tariffs cannot be dismissed.
a. Policy approaches short of large tariffs probably would not save US jobs. Even if companies are "persuaded" to keep factories running in the US, they would be undermined by competitive pressures from non-US companies operating in low-cost countries.
b. One idea -- although no one has mentioned it -- is to use tax policy to lower labor costs. For example, corporate taxes could be cut by at least doubling the deduction for labor costs. This would be an alternative to a cut in corporate tax rates. This would go only part way to preserving jobs, however, since the wage differential between the US and other countries is probably too large to be offset this way. Also, the tax subsidy could increase demand for labor and result in a bidding up of wages -- offsetting the tax subsidy And, the dollar could strengthen, making imports cheaper.
Positive for Stocks, Negative for Treasuries
1. With so much uncertainty about how the Trump administration will proceed to implement its policies, a cautious Fed monetary policy would be reasonable. And, at least one Fed official has said that the Fed will wait for awhile to hike again if it does so in December.
a. Recent US economic data have not been strong enough to hold back the Fed from a December hike, but this week's October CPI release could be important if it is soft.
b. If the Fed hikes, its forward guidance -- either as shown in the "dots" or in Yellen's post-meeting press conference -- will be more important.
2. A slow pace of Fed tightening along with fiscal stimulus would fit with Yellen's speculation about the desirability of "running a high-pressure" economy." Her idea is that this could spur higher productivity growth. The Fed could delay further tightening until H217 in this scenario.
3. The boost to economic growth could be less than expected, however, as a result of higher longer-term Treasury yields, a stronger dollar, and the spillover to imports.
But, once Trump gets into office and fleshes out his policies, the markets could act quite differently. In broad terms, the biggest threat to the economy would likely be a trade war resulting from his desire to protect US jobs. In contrast, the biggest boon to the economy could be the combination of large fiscal stimulus and a cautious Fed. Here are a couple of scenarios.
Negative for Stocks, Positive for Treasuries
1. Trump's approach to help sustain US jobs in a global economy -- one of his main campaign promises -- could lead to a trade war if he goes with pushing for large tariffs. A trade war would raise prospects of a global recession. Obviously, the US job situation would worsen in this case.
2. The risk of large tariffs cannot be dismissed.
a. Policy approaches short of large tariffs probably would not save US jobs. Even if companies are "persuaded" to keep factories running in the US, they would be undermined by competitive pressures from non-US companies operating in low-cost countries.
b. One idea -- although no one has mentioned it -- is to use tax policy to lower labor costs. For example, corporate taxes could be cut by at least doubling the deduction for labor costs. This would be an alternative to a cut in corporate tax rates. This would go only part way to preserving jobs, however, since the wage differential between the US and other countries is probably too large to be offset this way. Also, the tax subsidy could increase demand for labor and result in a bidding up of wages -- offsetting the tax subsidy And, the dollar could strengthen, making imports cheaper.
Positive for Stocks, Negative for Treasuries
1. With so much uncertainty about how the Trump administration will proceed to implement its policies, a cautious Fed monetary policy would be reasonable. And, at least one Fed official has said that the Fed will wait for awhile to hike again if it does so in December.
a. Recent US economic data have not been strong enough to hold back the Fed from a December hike, but this week's October CPI release could be important if it is soft.
b. If the Fed hikes, its forward guidance -- either as shown in the "dots" or in Yellen's post-meeting press conference -- will be more important.
2. A slow pace of Fed tightening along with fiscal stimulus would fit with Yellen's speculation about the desirability of "running a high-pressure" economy." Her idea is that this could spur higher productivity growth. The Fed could delay further tightening until H217 in this scenario.
3. The boost to economic growth could be less than expected, however, as a result of higher longer-term Treasury yields, a stronger dollar, and the spillover to imports.
Sunday, November 6, 2016
Return to the Fed
Once the dust settles in the markets after Tuesday's Presidential elections -- and there could be a lot of dust -- attention will likely turn more fully to the possibility of a Fed rate hike at the December 13-14 FOMC Meeting. It would seem that Fed rhetoric has painted officials into a corner, with failure to tighten then risking to further damage their credibility. As Atlanta Fed President Lockhardt said last week, the bar to not tighten is high. And, the market probability of a December Fed rate hike is high.
But, there is still no guarantee that the Fed will hike rates in December. Vice Chair Stan Fischer's speeches have become slightly less hawkish. He has recognized that some apparently strong data, such as the 2.9% Q316 Real GDP Growth, was less than meets the eye (about 1% pt of it came from a jump in soybean exports to China. The September Trade Balance showed that the jump was unwinding). And, he has pointed out that the Unemployment Rate has not fallen this year despite sold Payroll gains, acknowledging Fed Governor Brainard's point.
Looking ahead, the upshot is that weak US economic data could be more important than strong data with regard to shifting the odds of a December rate hike. In particular, I would pay attention to the weekly Initial Unemployment Claims and the November Core CPI.
1. A move-up in Initial Claims to 270k+ would signal the likelihood of slower growth in economic activity in Q416. Initial Claims were 265k in the latest week.
Initial Claims Real GDP Growth
(level, 000s, avg) (q/q % change, saar)
October 258
Q316 259 2.9
Q216 268 1.4
Q116 269 0.8
Q415 270 0.9
2. A Core CPI print of 0.1% m/m in November, as in October, would underscore that inflation is not a pressing matter for the Fed.
Core CPI
(m/m pct change, sa, avg)
October 0.1
Q316 0.2
Q216 0.2
Q116 0.2
While a 25 BP hike in December would likely be downplayed by many Street economists as being small, I believe it would be more significant than just itself. A hike would increase the odds that the Fed will carry through with its forward guidance of 3 more hikes in 2017. Markets thus could react to a larger degree than might be expected from just a 25 BP hike -- as was the case after the December 2015 Fed hike. To be sure, other factors could have been at play that hurt economic growth in H116, as well, such as President Obama's executive orders. How the new Administration's fiscal policy unfolds will be important next year.
a. Note that Fed officials have emphasized that forward guidance has been effective in countering the zero-bound restriction on lowering the funds rate. But, they have been relatively mute regarding the restrictive implications of forward guidance that involves tightening.
But, there is still no guarantee that the Fed will hike rates in December. Vice Chair Stan Fischer's speeches have become slightly less hawkish. He has recognized that some apparently strong data, such as the 2.9% Q316 Real GDP Growth, was less than meets the eye (about 1% pt of it came from a jump in soybean exports to China. The September Trade Balance showed that the jump was unwinding). And, he has pointed out that the Unemployment Rate has not fallen this year despite sold Payroll gains, acknowledging Fed Governor Brainard's point.
Looking ahead, the upshot is that weak US economic data could be more important than strong data with regard to shifting the odds of a December rate hike. In particular, I would pay attention to the weekly Initial Unemployment Claims and the November Core CPI.
1. A move-up in Initial Claims to 270k+ would signal the likelihood of slower growth in economic activity in Q416. Initial Claims were 265k in the latest week.
Initial Claims Real GDP Growth
(level, 000s, avg) (q/q % change, saar)
October 258
Q316 259 2.9
Q216 268 1.4
Q116 269 0.8
Q415 270 0.9
2. A Core CPI print of 0.1% m/m in November, as in October, would underscore that inflation is not a pressing matter for the Fed.
Core CPI
(m/m pct change, sa, avg)
October 0.1
Q316 0.2
Q216 0.2
Q116 0.2
While a 25 BP hike in December would likely be downplayed by many Street economists as being small, I believe it would be more significant than just itself. A hike would increase the odds that the Fed will carry through with its forward guidance of 3 more hikes in 2017. Markets thus could react to a larger degree than might be expected from just a 25 BP hike -- as was the case after the December 2015 Fed hike. To be sure, other factors could have been at play that hurt economic growth in H116, as well, such as President Obama's executive orders. How the new Administration's fiscal policy unfolds will be important next year.
a. Note that Fed officials have emphasized that forward guidance has been effective in countering the zero-bound restriction on lowering the funds rate. But, they have been relatively mute regarding the restrictive implications of forward guidance that involves tightening.
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