Risks in This Week's Key US Economic Data

The markets face key US economic data this week.  And, the risks to the consensus estimates are to the downside in some cases.  The stock market won't necessarily react negatively if this turns out to be the case.  Soft data would argue for steady Fed policy ahead.  And, last week's comments by important Fed officials suggest steady policy for the next several months is likely.  The September FOMC Meeting may be the earliest when tapering of bond buying is discussed, in part because there may be more clarity about further fiscal stimulus (or drag) at that time.

The consensus estimates for the May Employment Report risk being too strong.  Nonfarm Payrolls are seen climbing 650k m/m after the disappointing +266k in April.  The Claims data are not fully supportive of this estimate, however.  Initial Claims show a sharper drop in layoffs leading into the May Payroll Survey Week than into the April Week.  The 4-week average fell by 155k between the April and May Survey Weeks, compared to -89k between the March and April Weeks.  But, Continuing Claims have stalled since April, suggesting that either hiring fell or people refrained from getting a new job in response to the increased Unemployment Benefits -- thereby offsetting the decline in layoffs.  So, the risk is that the improvement seen in Initial Claims is overstating the implication for May Payroll strength.

Similarly, the consensus estimate of a decline in the Unemployment Rate to 5.9% in May from 6.1% in April is too optimistic.  The Insured Unemployment Rate, which is calculated on the basis of Continuing Claims, was steady between the April and May Survey Weeks.  

In contrast, the consensus estimate of a slowdown in Average Hourly Earnings to +0.2% m/m in May from +0.7% in April risks being too low, based on the anecdotal evidence of labor shortages and large companies hiking wages as a result.

Consensus looks for a steady 60.7 May Mfg ISM.  The evidence from other manufacturing surveys is mixed.  While Markit Mfg PMI rose in May, the Empire State Mfg Index fell.  None has a reliable relationship with the m/m direction of the Mfg ISM.  Both of these missed in April.  Shortages and other bottlenecks could hold down the latter.  But, demand remains strong.  So, even if it dips, the Index should be at a high level.

Peculiar Fiscal Policies and the Stock Market Outlook

The stock market should continue to be influenced by evidence supporting two countervailing ideas --  /1/ expectations of elevated corporate earnings emanating from strong Q221 GDP growth and /2/ slower growth over the quarter that could dampen corporate earnings in Q321.  The second idea is more interesting in regard to Fed policy, given that the Fed is tolerating strong growth as long as labor market slack remains.  A slowdown in economic growth could keep the Fed on the sidelines even if the very high inflation seen recently doesn't end soon.  But, a tolerant Fed will not necessarily be the case.  On balance, expected strong Q321 corporate earnings along with an accommodative Fed could be enough to lift stocks into early July.  The Fed could become more of a potential problem this summer.

The Fed views the very high inflation prints in March and April as temporary.  But, there are several reasons high inflation could be stubborn for awhile.   /1/ Input prices, as measured by Intermediate Materials Prices in the PPI, continued to climb sharply in April.  They risk being passed through to final demand prices over the next few months.  /2/ The chip shortage has hindered production of many goods, particularly motor vehicles.  Prices are being hiked instead.  The shortage is not expected to end soon.   /3/ Labor shortages could boost the overall wage inflation rate.   /4/ The dollar appears to have begun to weaken again.

The strength of demand and the insufficient response of labor can be attributed to a peculiar set of fiscal policies.  The stimulus payments were far in excess of the income shortfall caused by the shutdowns, as pointed out by Larry Summers.  They added to the "forced" saving that built up among households during the pandemic that is now available to be spent.  The new Child Tax Credit will begin adding to this fiscal thrust in mid-July, as well.  Meanwhile, the extra Unemployment Benefits made it profitable for lower-income people to stay unemployed rather than return to work.  This result showed up notably in the latest Unemployment Claims data.  Initial Claims fell, consistent with fewer layoffs stemming from strong growth.  But, Continuing Claims rose, showing people staying on the dole despite the strength of demand for labor.

The risk to the Fed's policy approach -- and thus to the markets -- is that the combination of strong growth and labor shortages leads to higher wage inflation.  This could broaden the extent of price hikes and raise concern of higher-than-desired inflation for a longer-than-desired time.  The Fed could be induced to tighten sooner than it expected.  But, this is why a slowdown in Q321would be important.  Would the Fed tighten if it looks like "stagflation" is back?  Note that if the slowdown is a result of shortages or bottlenecks, then a tightening would be warranted.  It would aim to bring demand down to the level of constrained supply.

This week's US economic data are expected to show strong but slowing demand as well as higher inflation.   Consensus expects April Core Durable Goods Orders to rise a decent 0.7% m/m, after climbing 1.6% in March.  April New Home Sales are projected to dip but stay at a high level.  The Core PCE Deflator is seen speeding up to 0.6% m/m in April from 0.4% in March.  The y/y would jump to 3.0% from 1.8%, due in part to base effects.  It also will be of interest to see if the University of Michigan Consumer Sentiment's 5-year Inflation Expectations stays near the high 3.1% seen in mid-month.  The prior range was 2.5-2.8%.

 

 

 

Economic Growth Strong and Slowing At the Same Time

The stock market is likely to continue to face evidence that, while economic growth is strong on a quarterly average basis in Q221, it is slowing over the quarter.  This scenario should support the market going into June in anticipation of strong Q221 corporate earnings season in July, but sets it up for a pullback this summer, particularly if the market overshoots on the upside.

This week's US economic data risk extending this message of a slowdown within a strong quarter.  Consensus looks for a dip in April Housing Starts to 1.71 Mn Units from 1.74 Mn in March, but the risk is for a larger decline.  The March level likely included Starts that had been postponed in February because of the bad weather.  This inclusion could unwind in April.  The February-March average is 1.60 Mn Units, close to the estimated long-run level of demand for homes.  Consensus also looks for a modest pullback in the May Phil Fed Mfg Index and Markit US Mfg PMI.  This would be catch-up to the decline seen in the April Mfg ISM.  Their levels still would be high.

Last week's volatile market can be explained in terms of the US economic data.  The sell-off early in the week could have reflected fear of strong real-side data, like Retail Sales, and high inflation -- PPI and CPI.   After the data printed, it was apparent that the unexpected dip in Retail Sales did not preclude a large q/q gain in Q221 Consumption, while much of the surge in the PPI and CPI could be attributed to temporary adjustments to the re-opening of the economy.  So, the view of strong Q221 growth but slowing over the quarter and the Fed's view that current inflation will overstate trend were sustained.

Even though the run-up in prices is viewed as temporary, it has a positive implication for stocks.  It means that companies are /1/ passing through higher costs and thus preserving profits or /2/ boosting profit margins or /3/ both.  So, as long as the run-up does not change Fed policy or spook the bond market, it should be viewed favorably by many stocks.  To be sure, the run-up in prices will cut into consumer purchasing power.

In some ways, the Unemployment Claims data were the most interesting.  They supported the idea that the supplemental benefits had induced many unemployed people not to return to work.  Initial were 100k below their prior 4-week average -- showing layoffs were falling, but Continuing Claims were unchanged relative to their 4-week average.  People are staying unemployed.  Continuing could begin to decline from trend now that 16 states have opted out of the Federal program and cut unemployment benefits (affecting 2 2 Mn people).

This week's April FOMC Meeting Minutes will probably be taken in stride.  It is too soon for the FOMC members to be talking about tapering the Fed's bond buying program, but that's what the market will probably be looking for.  The market would be helped this week if it looks like the Biden Administration will move toward a smaller "infrastructure" bill in its negotiations with Republican Senators.

 

 

Market Focus Back to US Economic Growth

The stock market's focus is back to the strength of the US economy, after the supposedly weak April Employment Report raised questions.  This focus should carry through June if not into July, the latter in the guise of earnings.  The focus could shift to Washington during the summer, as President Biden's two proposed bills move toward a Congressional vote.  The year should end with the focus on when the Fed will begin tapering its bond purchases.  While Biden's bills would seem to argue for a pullback in monetary policy easing, it would be ironic if the tax hikes in the bills hit the economy sooner than do the spending components.  So, the question of when the Fed begins tapering is an open one.

The April Employment Report was not all that weak.  Although the +266k m/m increase in Payrolls is more than fully accounted for by the 331k jump in Leisure and Hospitality jobs, the lack of job growth elsewhere on balance could be just a pause after the outsized gain in February.  It is also possible that seasonals exaggerated the strength in Q121 and then the weakness in April.  The consensus expectation of 1 Mn was the problem, as I discussed in last week's blog (it ran counter to the implication of the Claims data).  With the Workweek up in April, Total Hours Worked rose a solid 0.5% m/m and stand 4.8% (annualized) above the Q121 average -- a strong start to Q221 (THW rose 3.2% in Q121).  While the Unemployment Rate edged up to 6.1%, this resulted from the Labor Force climbing by more than Civilian Employment as the Labor Force Participation Rate rose.  This is a positive for the growth outlook.  Further increases in the Participation Rate would mitigate wage pressures emanating from economic growth. 

The Atlanta Fed model's early Real GDP Growth estimate is +11.0% (q/q, saar) for Q221, a speedup from +6.4% in Q121  But, it seems too high relative to THW.  And, there is not enough data released yet for a reliable current-quarter forecast.

This week's Unemployment Claims data will bear on the question whether the $300 supplemental benefit, enacted in March, is keeping unemployed people from returning to work.  Combined with the normal benefit, the supplemental brings the total to over $600 a week -- which is more than lower-paid people get working.  So, people may decide to stay unemployed rather than return to work.  Evidence supporting this idea will be if Continuing Claims do not fall commensurately with Initial Claims.  Both Initial and Continuing should be falling now, as increasing demand reduces layoffs and boosts the hiring of formerly laid off workers.

Another possible reason for the weak April Payroll gain is continuing fear of the virus and its variants.  People may be concerned of catching the virus if they go back to work.  The increase in the Labor Force Participation Rate, however, argues against this being a dominant reason.  It shows that a greater share of the population either have a job or, if not, want one.

Consensus looks for strong US economic data this week.  It expects +1.0% m/m increase in April Retail Sales, with Ex Auto up 0.9%.  A larger increase can't be ruled out, as the stimulus payments had just begun in March.  But, the question will be how quickly their boost tapers off in following months.  Consensus sees +1.1% m/m increase in April Industrial Production.  But, the Manufacturing portion should be about 0.0%, based on Total Hours Worked in that sector.  A decline can't be ruled out, if the chip shortage is pronounced.  Consensus expects a high 0.3% m/m April Core CPI, after the +0.4% in March.  A further pass-throughs of higher oil prices and weaker dollar could show up again, as they presumably did in the +0.4% March Core CPI.  But, there is typically enough variability among the components to make a lower print possible, as well.

The strength of the economy and the pace of inflation will be important factors in the Fed's decision whether to begin ending its bond purchase program.  But, the Fed's Financial Stability Report raised another issue.  It said the run-up in stocks and other assets makes them vulnerable to a sharp sell-off "should risk appetite fail," which could threaten the stability of the financial system.  So, Fed officials will likely be very cautious about beginning to taper.

 

Do Strong US Economic Data Matter?

This week's US economic data are expected to be exceptionally strong.  But, they may have little impact on the markets, as was the case last week.  Here are five possible explanations.  One, the markets already moved in anticipation of the strength and are just consolidating as the incoming data ratify these expectations.  Two, the markets don't expect the exceptional strength to last for long.  Three, some of the major indexes, like the S&P 500, are hesitating before breaking through psychological levels and to new highs.  Four, some concern over President Biden's tax proposals are beginning to seep in.  Five, month-end profit taking held back market gains last week.

Consensus expects this week's US economic data to continue to show exceptional strength.  It looks for the Mfg ISM to edge up to 65.0 in April from 64.7 in March.  The March level was the highest since 1987.  Most regional surveys improved in April, supporting the idea of a higher Mfg ISM.  It also looks for +2.0% m/m in March Construction Spending, a bounce-back from the bad February weather. 

As for the April Employment Report, there is reason to think the consensus estimates are too high, although the prints should still be strong.  Consensus looks for a speedup in Nonfarm Payrolls to +978k m/m from +916k in March, and some Street Economists look for 1.0+ Mn.  A problem with this forecast, however, is that the Claims data argue for a smaller jobs gain than March's.   Similarly, consensus expects the Unemployment Rate to fall to 5.7% from 6.0%.  But, the Claims data suggest only 5.9%.  Moreover, the latter does not take account of the possibility of a jump in the Labor Force Participation Rate, which cannot be ruled out given the favorable view of the labor market seen in the Conference Board's Consumer Confidence Survey.

Last week's data support the idea that economic growth will continue above trend although not by as much as in H121.  The 6.4% Real GDP Growth in Q121 was boosted by the stimulus-fed surge in consumption.  Almost all of the jump in March Personal Income resulted from one-off government transfer payments.  While a jump in Personal Savings should support consumption ahead, the boost from this stimulus should abate over time.  While other parts of Final Sales in GDP also posted large gains, they slowed for the 2nd quarter in a row.  In contrast, Nonfarm Inventory Investment fell, presumably in part reflecting the chip shortage.  So, it represents a potential catalyst for growth ahead, as businesses restock.  All told, above-trend growth should be seen in a further downtrend in the Claims data.

Last week's inflation data were on the high side.  And, the y/y for the PCE Deflator should rise further in the next few months if only because of base effects (see my April 11 blog).  While the Q121 Employment Cost Index was above trend, it was attributable to an increase in sales commissions (reflecting the jump in retail sales), which reflects higher productivity and thus is not inflationary.

 

This Week's Key US Economic Data Are in the Details

Most of this week's macroeconomic evidence should continue the positive backdrop to the stock market.  The advance report on Q121 Real GDP Growth is expected to be strong, the FOMC should maintain its easy policy stance, and corporate earnings are likely to continue beating expectations.   But, the markets are beginning to focus on the durability of the very strong growth and the potential for higher inflation.  To this point, the details of this week's data may be more important than the headlines.    

High Q121 Real GDP Growth, like the 6.5% (q/q, saar) consensus or 8.3% Atlanta Fed model estimate, will capture the headlines and probably elicit a knee-jerk bounce in stocks.  The important question for the markets, nonetheless, is what evidence the report provides regarding Q221 economic growth.  The internals of the report should confirm solid momentum in Final Sales, with consumption fueled by stimulus payments and the improving jobs market.  The Personal Income Report, released the following day, will show how far March  consumption stands above the Q121 average -- the take-off point for Q221.  But the markets may discount this evidence, believing the boost from the fiscal stimulus is temporary.  So, what may be more important is what the GDP report's internals show regarding the extent to which Nonfarm Inventory Investment has made up the $300 Bn (annualized) net drawdowns over 2020.  Unless it fully makes up for the decline, re-stocking will remain a catalyst for above-trend growth ahead. 

Last week's report showing a decline in Initial Unemployment Claims to 547k argues that economic growth remained strong going into Q221.  The 577k average of the first two weeks of April is well below the near-790k average of both Q420 and Q121.  Further declines would argue that economic growth has not peaked or at least remains above trend.

Although the Fed has downplayed any high inflation print for now, blaming them on temporary bottlenecks and base effects (see my April 11 blog), the markets are not as sanguine.  So, this week's data on the Q121 Employment Cost Index and March Core PCE Deflator are important.  The internals could be important here, as well.

Consensus looks for +0.7% (q/q) in the Q121 ECI.  This report is typically not a market mover, although it is now bears attention as the least affected by compositional shifts among the major measures of labor costs.  Consensus is slightly higher than the 0.6% 2020 average but the same as the 2019 average, not much to be of concern.  But, there is upside risk, given news reports of some large companies offering higher wages in response to labor shortages combined with the possibility of start-of-year hikes.  In addition, sales commissions could be boosted by the surge in retail sales.  These incentives reflect higher productivity and, as a result, are not inflationary.   The ECI excluding sales commissions could be more important than the headline regarding the inflation outlook.  This measure rose 2.5% (Q4/Q4) in 2020 and 2.7% in 2019.

In contrast, there is downside risk to the consensus estimate of a +0.3% m/m in the March Core PCE Deflator, based on the its different composition from the Core CPI (which printed +0.3% m/m).

 

Did Stocks Get Too Bullish on Economic Growth?

The latest decline in longer-term Treasury yields in the face of very strong US economic data suggests the markets have begun to question the sustainability of the economy's recent strength.  Stocks risk pulling back as a result, since they reacted noticeably to last week's strong prints.  A pullback should be modest and temporary, however,  as the stock market's rally should remain supported by above-consensus corporate earnings releases in the next few weeks. 

The extraordinarily strong March US economic data probably overstate the underlying strength of the recovery.  Temporary boosts from weather rebounds and the injection of stimulus funds likely accounted for some of the large gains.  Nevertheless, growth should remain above trend in coming months.

The boost from better weather was clearly seen in March Housing Starts/Permits data.  All the increase in Permits was in the South and Midwest, which had suffered badly from weather in February.  The Midwest and South saw most of the increase in Starts.  Northeast did also.  All three posted declines in February.  Starts in the West fell in March, after they had risen in the prior month.  The February-March average is 1.60 Mn Units.  It is somewhat less than the 1.656 Mn December-January average, so there may be some flattening in trend -- which is close to the level estimated to be the long-run level of demand for housing.

The Mid-April University of Michigan Consumer Sentiment Index also raised questions about the sustainability of the recent surge in economic activity.  The Expectations Component, at 79.7, is well below the 97.2 Current Conditions Component, suggesting people view the recent strength to be somewhat temporary.  

The Unemployment Claims and manufacturing survey data, like the Current Conditions Component, suggest growth is still well above trend in April.  But, the latest w/w drop in Initial Claims, -193k to 576k (a new low for the move down) could have been impacted by the Easter holiday.  So, the low level needs to be confirmed in this week's report.  If they are, it would be solid evidence that growth remains above trend this month.

The Philadelphia Fed and  NY Empire State Mfg Surveys both point to a very high Mfg ISM in April.  Even so, the chip shortage is restraining some manufacturing activity.  For example, while motor vehicle assemblies rose to 9.3 Mn units in March from 8.9 Mn in February, they remained below the 10.7 Mn in January.  But, all this means is that motor vehicle production will strengthen as chips become more available.