This week, the markets will be focusing on the July 30-31 FOMC Meeting and key US economic data -- July Mfg ISM and Employment Report. With almost everyone expecting a 25 BP Fed rate cut, the issue will be the extent to which officials keep open the door for additional easing. The strength or weakness in this week's key data will influence market expectations regarding future Fed moves.
FOMC Meeting
The Fed is almost certain to follow through with a 25 BP rate cut at this week's FOMC Meeting, given Powell's prior comments regarding downside risks. But, as Friday's Q219 GDP Report and other recent data show, there is no compelling reason for the Fed to do so. At 2.1%, Q219 Real GDP Growth was above the longer-run potential pace, despite hits from bad weather and Boeing production cutbacks. Nevertheless, the Statement will likely keep open the door for additional cuts by promising to "act appropriately to sustain the expansion."
From a market perspective, the issue will be whether the downside risks concerning the Fed will continue. In a recent speech, Fed Chair Powell enumerated the "downside risks" to the outlook. He mentioned trade developments, global growth, the US federal debt ceiling and Brexit. Some have either disappeared, such as the Federal debt ceiling, or pushed further ahead, such as trade developments. And, most US economic data have strengthened in June-July. But, weaker global economic growth remains, as seen in the further declines in Flash July European PMIs. While the stronger US economic data makes justification of a rate cut difficult, the Fed could still emphasize the weaker global growth as a downside risk to the outlook.
An academic idea that is popping up in Fedspeak is the desirability to move in anticipation of economic weakness when the funds rate is close to zero. By doing so, monetary policy could prevent the weakness from happening and thus the funds rate from moving to zero. This notion provides a motivation for the Fed to act on its perceived downside risks. A question arises whether the Fed will tighten quickly if economic growth turns out to be stronger than expected or if inflation accelerates to above 2.0%. If it does, Fed policy could appear fickle, based on faulty forecasts. This perception could damage its credibility and create uncertainty/volatility in the markets -- which could negatively influence economic activity.
Economic Data
This week's key US economic data risk adding to doubts about the likelihood of further rate cuts this year. In particular, Mfg ISM and July Payrolls could surprise to the upside.
Evidence is mixed with regard to the July Mfg ISM. Richmond Fed Mfg and Markit Mfg PMI fell this month, but the Phil Fed Mfg Index rose. None has a good tracking record with the Mfg ISM. Consensus is for an increase to 52.0 from 51.7 in June. I lean toward an increase, as well, as the June dip did not pick up the improvement seen in manufacturing-related data for that month. To be sure, the Mfg ISM would need to rebound to above the 52.2 Q219 average to hint that manufacturing malaise is ending. A rebound above the 55.3 Q119 average would say that the malaise is over.
July Nonfarm Payrolls risk printing above the +165k m/m consensus, based on the Claims data. It even could be stronger than June's +224k. The Q219 average is 171k, while the H119 average is 174k.
Average Hourly Earnings risk printing a low 0.1% m/m, thanks to calendar considerations. The y/y would be 3.0-3.1% (depending on rounding), versus 3.1% in June. Consensus is 0.2% m/m and 3.1% y/y.
Sunday, July 28, 2019
Sunday, July 21, 2019
Economic Growth to the Forefront
The markets' focus should be on US and global economic growth, as
well as corporate earnings, this week. The last US economic reports
before the advance report on Q219 Real GDP will be released. So, the
1.6% Atlanta Fed model's estimate and 1.8% consensus could change before
the GDP report is out on Friday. Note that the latter will contain
benchmark revisions, which makes these estimates even more uncertain.
Flash July European Markit PMIs are due Wednesday. They should be even
more important than US GDP -- they are more current than Q219 GDP and
also bear directly on the downside risks upon which Powell justifies a
Fed easing.
The Q219 Real GDP report is probably more backward looking than usual for a GDP report. This is because most of the weakness during the quarter occurred in April-May. June-July US economic data have begun to improve. Temporary factors, such as weather, were probably partly responsible for the earlier weakness (see my June 9th blog). With economic growth apparently already speeding up, a Q219 print in excess of the 1.9% consensus could undercut market expectations of more than one 25 BP Fed rate cut this year. Real GDP Growth greater than 2.0% is viewed to be above-trend by the Fed.
Improvement in the European Markit Mfg PMIs probably need to be substantial to change the Fed's concerns about downside global risks. Many of the PMIs are below 50 and some would have to move sharply higher to get back to expansion territory.
Market Mfg PMI (level)
Europe Germany France UK Italy Spain
May 47.7 44.3 50.6 49.4 49.7 50.1
June 47.6 45.0 51.9 48.0 48.4 47.9
I post comments after many US economic data releases on LinkedIn and Twitter
The Q219 Real GDP report is probably more backward looking than usual for a GDP report. This is because most of the weakness during the quarter occurred in April-May. June-July US economic data have begun to improve. Temporary factors, such as weather, were probably partly responsible for the earlier weakness (see my June 9th blog). With economic growth apparently already speeding up, a Q219 print in excess of the 1.9% consensus could undercut market expectations of more than one 25 BP Fed rate cut this year. Real GDP Growth greater than 2.0% is viewed to be above-trend by the Fed.
Improvement in the European Markit Mfg PMIs probably need to be substantial to change the Fed's concerns about downside global risks. Many of the PMIs are below 50 and some would have to move sharply higher to get back to expansion territory.
Market Mfg PMI (level)
Europe Germany France UK Italy Spain
May 47.7 44.3 50.6 49.4 49.7 50.1
June 47.6 45.0 51.9 48.0 48.4 47.9
I post comments after many US economic data releases on LinkedIn and Twitter
Monday, July 15, 2019
How Far Will the Fed Ease?
With Fed Chair Powell opening the door to a 25 BP July rate cut by more than expected, the latter is now a near certainty. However, with the US economic data beginning to strengthen in June, the need for additional rate cuts could become questionable in the markets. So, the risk is that the odds of another cut this year will come down.
The issue is whether GDP growth will be below 2.0% in H219, as some Street economists predict. Sub-2.0% growth would justify more than one easing. Above-2.0% growth would raise doubts on the correctness of such policy, unless inflation remains subdued.
The Fed staff, itself, has become more pessimistic about growth in the second half of the year. According to the June FOMC Minutes, the Fed staff forecast Real GDP Growth "to slow to a moderate pace in the second quarter and move down to a more modest pace in the second half of the year, primarily reflecting a more downbeat near-term outlook for business fixed investment." The Fed staff is not necessarily correct, so upcoming US economic data remain important for the markets to evaluate how GDP growth is evolving.
Another issue for the Fed and markets is whether inflation will speed up. Powell was quick to agree that the Phillips Curve -- the model that relates inflation to unemployment and inflation expectations -- no longer works. But, the announced "death" of the Phillips Curve may be premature. NY Fed President Williams pointed out a few months ago that the inverse relationship between inflation and unemployment could resurrect itself at very low levels of the unemployment rate, which the US is not far from. Also, some major components of inflation, such as rent, could move up independently of the unemployment rate. For example, news stories have recently discussed how Millenials prefer to rent a home rather than purchase one. A shift toward rentals could boost rents for awhile, until supply responds. Curiously, a Fed tightening in response to a rent-induced speedup in inflation could worsen the latter, as more people shift to renting from home buying as mortgage rates rise.
Powell cited downside risks from weaker foreign growth and business uncertainty stemming from US/China trade negotiations. So, upcoming non-US economic data and US business investment data are the most relevant regarding the Fed's concerns. Some of these data will be released later in the month, including the Markit Purchasing Manager Indexes and June Durable Goods Orders. Next week's consensus expectation for modest increases in June Retail Sales and Manufacturing Output should not shift market views of the Fed. But, stronger-than-consensus prints, along with evidence of stronger residential construction activity could spark talk that the Fed will pause after a June cut.
The issue is whether GDP growth will be below 2.0% in H219, as some Street economists predict. Sub-2.0% growth would justify more than one easing. Above-2.0% growth would raise doubts on the correctness of such policy, unless inflation remains subdued.
The Fed staff, itself, has become more pessimistic about growth in the second half of the year. According to the June FOMC Minutes, the Fed staff forecast Real GDP Growth "to slow to a moderate pace in the second quarter and move down to a more modest pace in the second half of the year, primarily reflecting a more downbeat near-term outlook for business fixed investment." The Fed staff is not necessarily correct, so upcoming US economic data remain important for the markets to evaluate how GDP growth is evolving.
Another issue for the Fed and markets is whether inflation will speed up. Powell was quick to agree that the Phillips Curve -- the model that relates inflation to unemployment and inflation expectations -- no longer works. But, the announced "death" of the Phillips Curve may be premature. NY Fed President Williams pointed out a few months ago that the inverse relationship between inflation and unemployment could resurrect itself at very low levels of the unemployment rate, which the US is not far from. Also, some major components of inflation, such as rent, could move up independently of the unemployment rate. For example, news stories have recently discussed how Millenials prefer to rent a home rather than purchase one. A shift toward rentals could boost rents for awhile, until supply responds. Curiously, a Fed tightening in response to a rent-induced speedup in inflation could worsen the latter, as more people shift to renting from home buying as mortgage rates rise.
Powell cited downside risks from weaker foreign growth and business uncertainty stemming from US/China trade negotiations. So, upcoming non-US economic data and US business investment data are the most relevant regarding the Fed's concerns. Some of these data will be released later in the month, including the Markit Purchasing Manager Indexes and June Durable Goods Orders. Next week's consensus expectation for modest increases in June Retail Sales and Manufacturing Output should not shift market views of the Fed. But, stronger-than-consensus prints, along with evidence of stronger residential construction activity could spark talk that the Fed will pause after a June cut.
Sunday, July 7, 2019
Powell Testimony, Fed Policy and Upcoming US Economic Data
The markets are not likely to be derailed by Fed Chair Powell's Semi-Annual Monetary Policy Report and testimony on Wednesday and Thursday. While he should not tilt the odds regarding a July rate cut, he should keep the possibility open. He should reiterate the main point of the June FOMC Statement -- the Fed "will act as appropriate to sustain the expansion." He also could cite the lowered expectations of the funds rate embodied in the latest "dot" chart. But, if he does, he will likely emphasize they are just best estimates and not a plan to be put necessarily into effect.
The large gain in June Payrolls may get passing mention, but Fed policy is not tied to any one economic report. Moreover, there were elements in the Employment Report arguing in favor of a rate cut (see my prior blog). Powell will probably highlight the increased uncertainties and downside risks in the outlook as well as "muted inflation pressures" that support the Fed's keeping its finger on the trigger. But, he also could reiterate the Fed's view that "sustained expansion of economic activity, strong labor market conditions, and inflation near the Committee's symmetric 2 percent objective as the the most likely outcomes." This optimistic outlook could be taken positively by the stock market.
Besides Powell's testimony, the markets also will pay attention to the June CPI (due Thursday). Consensus looks for +0.1% m/m Total and +0.2% Core. The y/y would rise to 1.8% from 1.5% for Total and be steady at 2.0% for Core. So, consensus-prints would be consistent with the Fed's targets. The risks are mixed. The tariffs on Chinese imports imposed in early May could begin to show up. But, owners' equivalent rent could slow, as did primary rent in May. In any case, the Fed is not likely to be deterred from easing by one high Core CPI print, particularly since it would follow a low print in May.
Whether the Fed eases at the July 30-31 FOMC meeting may very well have more to do with how the markets perform. If market yields remain low, the Fed will probably cut by 25 BPs. But, its Statement could emphasize that further cuts will be dependent on "incoming information for the economic outlook." This could be a disappointment for the markets, particularly if, as is likely, some key US economic data strengthen and further reduce the odds of more Fed easing. In this regard, early evidence points to increases in June Retail Sales and Industrial Production. Core Durable Goods Orders will be of particular interest, being a leading indicator of capital spending. The job gains in capital goods industries in June suggest an upward surprise in Orders.
The large gain in June Payrolls may get passing mention, but Fed policy is not tied to any one economic report. Moreover, there were elements in the Employment Report arguing in favor of a rate cut (see my prior blog). Powell will probably highlight the increased uncertainties and downside risks in the outlook as well as "muted inflation pressures" that support the Fed's keeping its finger on the trigger. But, he also could reiterate the Fed's view that "sustained expansion of economic activity, strong labor market conditions, and inflation near the Committee's symmetric 2 percent objective as the the most likely outcomes." This optimistic outlook could be taken positively by the stock market.
Besides Powell's testimony, the markets also will pay attention to the June CPI (due Thursday). Consensus looks for +0.1% m/m Total and +0.2% Core. The y/y would rise to 1.8% from 1.5% for Total and be steady at 2.0% for Core. So, consensus-prints would be consistent with the Fed's targets. The risks are mixed. The tariffs on Chinese imports imposed in early May could begin to show up. But, owners' equivalent rent could slow, as did primary rent in May. In any case, the Fed is not likely to be deterred from easing by one high Core CPI print, particularly since it would follow a low print in May.
Whether the Fed eases at the July 30-31 FOMC meeting may very well have more to do with how the markets perform. If market yields remain low, the Fed will probably cut by 25 BPs. But, its Statement could emphasize that further cuts will be dependent on "incoming information for the economic outlook." This could be a disappointment for the markets, particularly if, as is likely, some key US economic data strengthen and further reduce the odds of more Fed easing. In this regard, early evidence points to increases in June Retail Sales and Industrial Production. Core Durable Goods Orders will be of particular interest, being a leading indicator of capital spending. The job gains in capital goods industries in June suggest an upward surprise in Orders.
Friday, July 5, 2019
June Employment Report Does Not Close Door on Fed Rate Cut, But...
The June Employment Report does not close the door on a July Fed rate cut, but it should spark market talk that it could be the last of the year if it happens. While job growth was strong, it can be chalked up in part to volatility. And, with the Unemployment Rate up and Average Hourly Earnings subdued, easing policy to help economic growth move back up to 3.0% would be a reasonable move.
A speedup in economic growth already may be in process, based on the composition of the +224k m/m increase in Payrolls. Cyclical industries -- manufacturing and construction -- posted decent job gains. And, with their workweeks up, as well, further increases in jobs in these sectors are likely. Interestingly, jobs in residential building construction finally picked up. And, within manufacturing, jobs in capital goods industries -- machinery and computer/electronic products -- increased, suggesting the well-advertised drag on capital spending from the US/China trade dispute may be overstated. This may be important since the Fed has highlighted capital spending weakness in its description of the economy. Manufacturing Output (in Industrial Production) should be up at least 0.2-0.3% m/m in June.
Despite the strong job growth -- seen in Civilian Employment as well as Payrolls -- the Unemployment Rate rose. An uptick in the Participation Rate was responsible, as it lifted Civilian Labor Force. Street economists who have warned of labor shortages holding back growth may have to push back the timing of such a development. An increase in Labor Force Participation gives the economy more room to grow, thereby justifying aiming for 3.0% GDP Growth.
Another indication that labor market conditions are not overly tight is the moderate 0.2% m/m increase in Average Hourly Earnings. It was less than calendar considerations suggested. The y/y was steady at 3.1%.
Total Hours Worked raise the possibility of faster GDP Growth in Q319. They rose 0.2% m/m in June, putting them 0.6% (annualized) above the Q219 average. Similar gains over July-September would put the Q319 average 2+% above Q219, versus +0.6% in Q219.
A speedup in economic growth already may be in process, based on the composition of the +224k m/m increase in Payrolls. Cyclical industries -- manufacturing and construction -- posted decent job gains. And, with their workweeks up, as well, further increases in jobs in these sectors are likely. Interestingly, jobs in residential building construction finally picked up. And, within manufacturing, jobs in capital goods industries -- machinery and computer/electronic products -- increased, suggesting the well-advertised drag on capital spending from the US/China trade dispute may be overstated. This may be important since the Fed has highlighted capital spending weakness in its description of the economy. Manufacturing Output (in Industrial Production) should be up at least 0.2-0.3% m/m in June.
Despite the strong job growth -- seen in Civilian Employment as well as Payrolls -- the Unemployment Rate rose. An uptick in the Participation Rate was responsible, as it lifted Civilian Labor Force. Street economists who have warned of labor shortages holding back growth may have to push back the timing of such a development. An increase in Labor Force Participation gives the economy more room to grow, thereby justifying aiming for 3.0% GDP Growth.
Another indication that labor market conditions are not overly tight is the moderate 0.2% m/m increase in Average Hourly Earnings. It was less than calendar considerations suggested. The y/y was steady at 3.1%.
Total Hours Worked raise the possibility of faster GDP Growth in Q319. They rose 0.2% m/m in June, putting them 0.6% (annualized) above the Q219 average. Similar gains over July-September would put the Q319 average 2+% above Q219, versus +0.6% in Q219.
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