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   Brian Wesbury
Chief Economist
 
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   Bob Stein
Deputy Chief Economist
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  The ISM Manufacturing Index Declined to 50.8 in April
Posted Under: Data Watch • ISM

 

Implications: Don't fret the headline decline.  The manufacturing sector continued to grow in April, although at a slightly slower pace than in March, and the underlying details point to continued growth in the months ahead.  The two most forward looking measures, new orders and production, slowed in April, but remain comfortably above 50, signaling expansion.  And growth isn't limited to a few select industries. Fifteen of eighteen industries reported growth in new orders, while just one, textile mills, reported declines.  Production tells a similar tale, with fifteen of eighteen industries reporting growth while two, textile mills and petroleum & coal products, reported declines.  Unfortunately, recent growth in manufacturing hasn't been reflected in rising employment in that sector.  Manufacturing employment declined by 29,000 in March and we are forecasting an additional decline in April.  But manufacturing represents just a small portion of total employment and productivity is growing. Meanwhile, total employment continues to expand at a healthy 200,000+ jobs per month clip.  On the inflation front, the prices paid index jumped 7.5 points to 59.0 after a 13 point surge in March.  Rising energy and metal prices led twelve of eighteen industries to report higher input costs. As a whole, today's data show manufacturing activity moving in the right direction.  It isn't booming, but it should continue to plow forward at a modest pace.  In other news this morning, construction increased 0.3% in March, but declined 0.6% including revisions to prior months.  The gain in March itself was primarily due to home building, led by apartments and improvements to existing homes, which offset a drop in government projects, including passenger terminals, power plants, and sewage & waste facilities.

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Posted on Monday, May 02, 2016 @ 10:59 AM • Post Link Share: 
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  Apple vs The Fed
Posted Under: Europe • Government • Markets • Monday Morning Outlook • Video • Fed Reserve • Interest Rates • TV

Honest question: How much time does the Apple Inc. Board of Directors spend debating whether the Federal Reserve will hike rates once or twice more in 2016?  We don't really know the answer, but we would guess the best answer is zero.

Now, how much time does CNBC spend debating this question, along with potential actions of the Japanese and European Central Bank?  Answer: Way, way too much.

Business news should cover business, not government, but somehow, over the years, people have been led astray and many now think actions by the government are more important than actions of businesses and entrepreneurs.  Nothing could be further from the truth.

We get that Fed decisions can influence currency values and global companies care about that.  But, since the Fed lifted rates in December, while Europe and Japan moved to negative rates, the dollar has weakened, not strengthened.  This is the exact opposite reaction the conventional wisdom crowd expected.  And, it was totally predictable.

Negative interest rates force people into cash.  This slows money supply growth.  Higher rates in the US speed up money supply growth rates as banks lend more.  Moreover, the December rate hike was the first one in US history which did not actually squeeze bank reserves.  The US still has at least $2.25 trillion in excess bank reserves and, as long as there are excess bank reserves, hiking rates will not cause a tightening in monetary policy.

In fact, the longer the Fed leaves excess reserves in the banking system, the more likely inflationary pressures will accelerate.  At the same time, the longer other central banks attempt to manipulate their economies with negative interest rates, the more likely deflationary pressures will build.

Over the past three months, at annualized growth rates, the M2 measure of money in the US is up 6.6%, while commercial and industrial loans are up 19.3%.  These numbers, while not the perfect measure of Fed policy, show that monetary policy is far from tight.

So, while the TV debates between day traders rage on, it doesn't really matter whether the Fed lifts rates in June, or not.  The difference between a 0.5% and 0.75% federal funds rate matters little to corporate America and entrepreneurs.  In fact, higher rates will most likely make money more available, not less.  If the Fed really wanted to tighten policy, it would get rid of all excess reserves, but it won't.  So, we suspect a symbolic rate hike in June, no matter what the talking heads' endless debates about the matter suggest.

As investors we want to follow the lead of Boards of Directors, not the lead of what passes for business journalism these days.  No matter what they say, it is the entrepreneurial class that drives economic activity, not the government.
 
After all, Greenspan, Bernanke and Yellen have never pulled all-nighters drinking Red Bull and writing Apps for the iPhone.  That's what changes lives, not quarter point rate hikes.

Brian S. Wesbury - Chief Economist
Robert Stein, CFA – Deputy Chief Economist
          

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Posted on Monday, May 02, 2016 @ 10:12 AM • Post Link Share: 
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  M2 and C&I Loans
Posted Under: Government • Fed Reserve

 

Source: St. Louis Federal Reserve FRED Database

Posted on Monday, May 02, 2016 @ 8:59 AM • Post Link Share: 
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  Personal Income Increased 0.4% in March
Posted Under: Data Watch • PIC

 

Implications:  Incomes and spending continued to move higher in March, led by solid growth in wages and salaries.  Personal consumption only rose by 0.1%, but this doesn't mean trouble for consumers, who have lifted spending for fourteen consecutive months.  Adjusting for inflation, spending has not declined even once in the past 26 months, the longest streak on record!  No signs of a recession here, only more moderate but steady Plow Horse growth. Spending is up 3.5% from a year ago, but it is not due to an unsustainable credit binge.  Instead, it reflects higher purchasing power by American workers; private-sector wages and salaries rose 0.4% in March and are up 5.1% from a year ago.  Overall personal income rose 0.4% in March, beating consensus expectations, and is up 4.2% in the past year, growing faster than spending.  One part of the report we keep a close eye on is government redistribution.  While unemployment compensation is hovering around the lowest levels since 2007, overall government transfers to persons were up 0.3% in March and are up 3.6% in the past year, largely driven by the Obamacare-related expansion of Medicaid.  Before the Panic of 2008, government transfers – Medicare, Medicaid, Social Security, disability, welfare, food stamps, and unemployment comp – were roughly 14% of income.  In early 2010, they peaked at 18.5%.  Now they're around 17%, but not falling any further.  Redistribution hurts growth because it shifts resources away from productive ventures and, among those getting the transfers, weakens the incentive to produce.  On the inflation front, the PCE deflator, the Fed's favorite measure, increased 0.1% in March.  Although it's only up 0.8% from a year ago, it continues to be held down by falling energy prices.  The "core" PCE deflator, which excludes food and energy, is up 1.6% from a year ago.  That's also below the Fed's 2% inflation target, but the core PCE deflator is up at a 2.1% annual rate in the past three months and we expect some acceleration in the year-to-year change in the months ahead.  Together with continued employment gains, these data support the case for at least two rate hikes in 2016.  In other news this morning, the Chicago PMI, a measure of manufacturing activity in that region, slipped to 50.4 in April from 53.6 in March.  As a result, we are forecasting that the national ISM Manufacturing index slips slightly for April but remains above 50, signaling expansion.     

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Posted on Friday, April 29, 2016 @ 12:20 PM • Post Link Share: 
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  The First Estimate for Q1 Real GDP Growth is 0.5% at an Annual Rate
Posted Under: Data Watch • Employment • GDP

 

Implications:  Nothing in today's GDP report should change anyone's opinion about the Plow Horse Economy.  Although real GDP grew at only a 0.5% annual rate in the first quarter, it came in slightly above what we anticipated.  What we call the Q1 Curse struck again in 2016.  Real GDP grew at essentially the same rate in the first quarter of last year, and actually shrank in the first quarters of 2011 and 2014, without a recession or any change to the plow horse trend.  This time will be no different.  We expect a rebound in the growth rate later this year.  How can we be so confident about continued growth?  To check the underlying trend in real GDP growth, we like to take out inventories, international trade, and government spending, none of which can be relied on for long-term growth.  What's left are consumer spending, business investment, and home building, what we also call "core GDP."  That grew at a 1.2% annual rate in Q1, is up 2.6% from a year ago, and is up at a 3.1% annual rate in the past 2 years.  In particular, consumer spending grew at a moderate 1.9% rate in Q1 while home building boomed at a 14.9% rate.  This report suggests that the Federal Reserve should remain on course to raise rates in June.  Nominal GDP (real GDP growth plus inflation) grew at a 1.2% annual rate in Q1, is up 3.2% from a year ago, and is up at a 3.6% annual rate in the past two years.  All of these figures suggest the Fed can raise rates without hurting the economy.  In other news this morning, new claims for unemployment insurance rose 9,000 last week to 257,000.  However, the four week average fell to 256,000, the lowest since 1973.  Continuing claims declined 5,000 to 2.13 million, a new low for the current economic expansion.  There is still plenty of data to come that might change our forecast, but plugging today's figures into our models generates a payroll forecast of 240,000 in April, a very solid month.

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Posted on Thursday, April 28, 2016 @ 11:26 AM • Post Link Share: 
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  Fed Nudges Toward a June Rate Hike
Posted Under: Government • Research Reports • Fed Reserve • Interest Rates

 

As we said back in March, mark your calendars for a rate hike on June 15.  Today's statement from the Federal Reserve signals that it intends to raise rates by 25 basis points at the next meeting, consistent with the projections it made in March that it would raise rates twice in 2016. 

Here's why we think the Fed is headed toward a June rate hike.

First, the Fed re-ordered the list of economic indicators it discusses in the first paragraph of its statement, making the labor market first and noting its continued improvement.  That's important because many key decision-makers at the Fed have said a tighter labor market will eventually lead to higher inflation. 

Second, although the Fed mentioned more moderate growth in consumer spending, it also noted "solid" growth in household income and "high" consumer sentiment.  In other words, the Fed expects growth in consumer spending to accelerate. 

Third, the Fed completely removed the language about "risks" due to "global economic and financial developments." Remember that it was exactly these risks that stopped the Fed from raising rates earlier this year.  We interpret the removal of this language to mean the Fed sees the risks to its March economic outlook as balanced, which means it's also comfortable with its March projection of two rate hikes.

In addition, like in March, the one dissent came from Kansas City Fed Bank President Esther George, who voted in favor of hiking rates by 25 basis points at today's meeting.

In our view, George was right and everyone else wrong.  Economic fundamentals warrant a rate hike.  The economy can handle higher short-term rates. The unemployment rate is already very close to the Fed's long-term projection of 4.8% and nominal GDP growth – real GDP growth plus inflation – is up at a 3.5% annual rate in the past two years. 

Slightly higher short-term interest rates are not going to derail the US expansion, but will help avoid the misallocation of capital that's inevitable if short-term rates remain artificially low.   

Brian S. Wesbury, Chief Economist
Robert Stein, Dep. Chief Economist

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Posted on Wednesday, April 27, 2016 @ 2:34 PM • Post Link Share: 
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  New Orders for Durable Goods Rose 0.8% in March
Posted Under: Data Watch • Durable Goods • Housing

 

Implications: The volatility in durable goods orders continued in March, missing consensus expectations but rising 0.8% after February's 3.1% decline. Military aircraft led the headline higher, accounting for the full increase in March and more than offsetting declines in commercial aircraft and autos.  Excluding transportation equipment, durable goods orders fell 0.2%.  Orders for "core" capital goods - non-defense excluding aircraft – were unchanged in March, while core shipments rose 0.3%.  These shipments, which fell at a 9.6% annual rate in Q1 compared to the Q4 average, are what the government uses in its calculation of the business equipment investment component of GDP.  While R&D likely offset some of the decline in business equipment spending, a lack of overall business investment is likely to be a drag on growth in Thursday's GDP on the first quarter.  However, given the recent rebound in energy prices, business investment should start to revive soon.  The energy sector has been a major reason for weakness in equipment spending for the past year and a half.  In addition, consumer purchasing power is growing with more jobs and higher incomes, while debt ratios remain very low, leaving room for an upswing in big-ticket spending.  In other manufacturing news today, the Richmond Fed index, which measures mid-Atlantic factory sentiment, moved to a still very strong +14 in April from +22 in March, signaling continued expansion. Survey respondents noted increasing orders, rising employment, and moderate gains in wages, with a positive outlook on business conditions in the months to come.  In other news this morning, the national Case-Shiller home price index rose 0.4% in February and is up 5.3% from a year ago.  That's an acceleration from the 4.3% gain in the year ending in February 2015.  In the past twelve months, price gains have been led by Portland, Seattle, Denver, and San Francisco. 

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Posted on Tuesday, April 26, 2016 @ 11:10 AM • Post Link Share: 
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  OPEC and the Ash Heap of History
Posted Under: Monday Morning Outlook • Trade

Almost thirty-five years ago, President Reagan went to the British House of Commons and said "freedom and democracy will leave Marxism and Leninism on the ash heap of history."  Reagan chose his words carefully, using a phrase – the ash heap of history – very similar to the one used by the Russian Communist revolutionary Leon Trotsky against his political enemies.  Within a decade, the Berlin Wall was no more and neither was the Soviet Union.

Now it appears OPEC, another nemesis of the US from the prior century is heading for the ash heap of history as well, not because of geopolitics, but because of the hard work of engineers.

A combination of fracking, seismic imaging, and horizontal drilling has led to a huge reduction in the cost of drilling and an increase in the supply of oil and natural gas, not just in the US but around the world.

Case in point: in the past twelve months the US has run an $8.4 billion goods trade surplus with OPEC, including Algeria, Angola, Ecuador, Indonesia, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, United Arab Emirates, and Venezuela.  What a difference from less than a decade ago.  Back in 2007-08, the US ran a $190 billion goods trade deficit with OPEC.  The reason for the change in the trade balance is that the US is importing much less from OPEC, $64.8 billion in the past twelve months versus $253.4 billion at the peak in 2007-08.    

No wonder so many of these countries are in turmoil.  They're losing money and also losing the political leverage they used to have over the US.

Although the media and other analysts focused on a recent attempt by some OPEC countries to limit production so they could try to raise oil prices, that effort failed and oil prices still ended up rising a little, which shows you how meaningless those negotiations were in the first place.  The oil market is much bigger than OPEC today, with prices much more likely to be altered by other factors.

This doesn't mean it's straight to the poorhouse for the Middle East elite.  Even at around $45 per barrel, they can generate substantial revenue.  Yes, their governments will run budget deficits and will be forced to cut spending.  More importantly, more of their revenue will come from China and Japan. 

What remains to be seen is how this change affects defense commitments around the world. The US simply doesn't have as large a direct interest in policing the sea lanes critical to the oil trade, unlike, say, China, and Japan, for example.

However, the US is going to have to grapple with whether it can just back away and let China gradually take its place.  Maybe China would police those sea lanes in just as evenhanded a way as the US has for the past couple of generations. 

Or maybe not.  An empowered China might also enjoy throwing its military weight around, extracting various forms of "tribute" from other countries for the "privilege" of the security China provides.  A Japan that depends on China's military instead of ours may be less likely to continue to cultivate a strong relationship with the US.    

Think of it like the end of the Cold War.  Throwing the Soviet Union on the ash heap of history was a huge victory for the world.  But it didn't mean history was over, it eventually led to new challenges.  We should all celebrate our newfound independence from OPEC, another sign of the resilience and strength of free-market capitalism.  But, in part because of this victory, new challenges surely await us in the future.   

Brian S. Wesbury - Chief Economist
Robert Stein, CFA – Deputy Chief Economist
          

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Posted on Monday, April 25, 2016 @ 11:19 AM • Post Link Share: 
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  New Single-Family Home Sales Declined 1.5% in March
Posted Under: Data Watch • Home Sales • Housing

 

Implications:  New home sales dropped slightly in March, posting their third consecutive decline, and coming in below consensus expectations.  However, in spite of the 1.5% slip in March to a 511,000 annualized pace, sales are still up 5.4% versus last year and we expect the general upward trend to restart very soon.  Home sales data are very volatile from month to month, which is why it's important to look at the trend, which continues to be positive.  We think there are a couple broader reasons for this.  First, employment gains and the beginning of a thaw in mortgage financing are starting to have a positive effect.  Second, wage growth seems to be picking up, putting the prospect of buying a home in reach for more people.  Despite this, sales remain low relative to where they should be.  Why?  First, the homeownership rate remains depressed as a larger share of the population is renting.  Second, buyers have shifted slightly from single-family homes, which are counted in the new home sales data, to multi-family homes (think condos in cities), which are not counted in this report.  We think this will change gradually over the next few years and new home sales will continue on an upward trend.  Although the inventory of new homes rose 5,000 in March, it still remains very low by historical standards (see chart to right).  Moreover, the gain in inventories has been led by homes where construction is still in progress, or has yet to begin.  As a result, homebuilders still have plenty of room to increase both construction and inventories. Although the median price of a new home is down 1.8% from a year ago, that reflects a shift in the "mix" of homes sold toward lower priced regions or smaller homes, not an outright decline in home prices.  Most data show prices rising, including the FHFA index, which measures prices for homes financed with conforming mortgages, which is up 5.6% in the past year. The Case-Shiller index is up 5.4% in the past year as well.  Last week, new claims for unemployment insurance declined 6,000 to 247,000, the lowest since the 1973.  Continuing claims fell 39,000 to 2.137 million.  These figures suggest robust job growth in April.    

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Posted on Monday, April 25, 2016 @ 11:14 AM • Post Link Share: 
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  M2 and C&I Loan Growth
Posted Under: Government • Fed Reserve

 

Source: St. Louis Federal Reserve FRED database

Posted on Monday, April 25, 2016 @ 7:41 AM • Post Link Share: 
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These posts were prepared by First Trust Advisors L. P., and reflect the current opinion of the authors. They are based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.
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