Little Change in Macroeconomic Background

The stock market may continue to churn in a range this week, as the macroeconomic background is expected to be little changed by key data.  The latest data show that growth looks solid, the labor market sluggish, and inflation sticky.

The shutdown-delayed Q425 Real GDP Growth finally will be released this week.  Although the market will likely view the Report as "history," it would underscore that the underlying pace of the economy is solid, as Fed Chair Powell says.  Consensus looks for Q425 Real GDP to rise 3.0% (q/q, saar), not much different from the latest Atlanta Fed Model estimate of 3.7%.  The Q4/Q4 pace would be 2.6-2.8%, stronger than the 2.4% in 2024 and the Fed's estimate of 1.8-2.0% for longer-run potential growth.

A GDP print in line with consensus or the Atlanta Fed Model estimate would point to another quarter with strong productivity growth -- a positive for the inflation outlook.  Total Hours Worked (THW) rose only 0.7% (q/q, saar) in Q425.  Strong productivity likely reflects companies' attempts to become more efficient, possibly in part by incorporating AI into their operations.  These attempts could explain the modest Payroll gain in January outside of health care.  Private Payrolls rose only 48k, as Health Care and Social Assistance jobs accounted for 124k of the 172k increase in Total.  The absence of a broad jobs gain in January is indicative of a sluggish labor market. 

The January Employment Report showed that companies may be relying on longer hours of work, besides increasing productivity, to produce goods and services.  The Nonfarm Workweek edged back up to 34.3 Hours from 34.2 Hours in December.  The longer workweek lifted THW, putting the January level 1.5% (annualized) above the Q425 average.  This raises the possibility that Q126 Real GDP Growth will be strong, as well.  While the extremely cold, snowy weather in much of the country during late January and early February may act as a drag on economic activity, the chances are that much of the weather-related shortfall will be made up late February and March.  Or, the weather-rebound could boost Q226 Real GDP.

The January CPI Report had encouraging news for the inflation outlook.  However, it was far from showing that inflation is no longer a problem.   The most important news may be that inflation was more benign in the first month of the year than is typical.  This is seen in the decline in the y/y change.  The return in Owners' Equivalent Rent to 0.2% m/m also was good news.  This large component of the CPI may need to maintain this pace or lower for the Fed to achieve its 2% inflation target.  The problem, however, is that the majority of CPI items in January had price increases of 0.3% m/m or more.  A more pervasive slowing is needed to convince the Fed that its goal has been met, which is conceivable as the economy moves past start-of-year price hikes and the impact of tariffs.  Last week's release of a lower-than-expected 0.7% q/q for the Q425 Employment Cost Index is a favorable indication that underlying inflation may be contained.