Focus on US/China, But Macroeconomic Backdrop OK, Should April CPI Be a Concern?

While market focus is back to US/China trade negotiations, the macroeconomic backdrop and upcoming data should not be problematic for either stocks or Treasuries. 
 
The macroeconomic backdrop shows continuing economic growth with little inflation.  There are some early, tentative signs of slower economic growth in Q219 than in Q119, but it is too soon to say for sure.  The signs include an uptick in Initial Claims, a pullback in Mfg ISM and other manufacturing surveys, the decline in April Average Workweek and Total Hours Worked, and a dip in the ECRI Leading Index in the latest two weeks.  But, all the pullbacks are modest and leave open the possibility that any slowdown from the 3.2% Q119 Real GDP pace will be slight.  The Atlanta Fed model's projection already has moved up to 1.7% from the initial 1.3%.  There is still not enough data to make the projection reliable.

The next important economic hurdle for the markets is next Friday's April CPI report.  A consensus-like print of 0.2% m/m with an uptick in the y/y to 2.1% from 2.0% should be handled in stride by the markets.

But, whatever prints should not be taken necessarily at face value -- so beware knee-jerk reactions to a non-consensus print.  There was a technical issue in the March CPI that could impact the April figure.  Specifically, the 1.9% m/m drop in March Apparel Prices reflected the inclusion of a new source of survey data from a presumably major retailer.  There was a major difference about prices from this new source than what had been estimated before.  In effect, the drop could be considered a "series break."  It is not clear how this new source will impact the Apparel Price Component in April.   One possible problem is that seasonal factors are not aligned properly with it.  If Apparel Prices move sharply, the best way to analyze the CPI is to calculate the Core excluding Apparel Prices.  For example, the 0.1% m/m increase in the March Core CPI would be +0.2% excluding apparel.

This technical issue --which also raises question about the accuracy of past CPI prints, since the retailer's data were presumably estimated -- highlights a problem faced by the Fed in its approach to specifying its policy targets.  The targets could be impacted by special factors that distort their meaning.  Fed Chair Powell mentioned another example -- last year's phone company price war -- that deflected the inflation measure from the true underlying pace.  A better approach to deciding whether inflation is on the desired track or not is to rely on a variety of measures.   Powell mentioned the Trimmed-Mean Core Inflation as an example.

Various measures of labor costs also should be examined carefully.  At this point, 2 of the 3 broad measures of labor costs -- Employment Cost Index and Average Hourly Earnings -- say labor costs have stabilized around 3.0%.  The broadest measure -- Compensation/Hour -- says labor costs have decelerated to about 2.5%.   All these measures say that labor costs are not now a catalyst for a speedup in inflation.