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   Brian Wesbury
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  Net Neutrality Repeal Won’t Lead to Internet Apocalypse
Posted Under: Government • Productivity

In a clear sign the pendulum is swinging the other way, this afternoon the FCC voted to reduce its regulatory power and put an end to net neutrality.  By repealing Obama era regulations governing Internet service providers (ISPs), government oversight will now return to a more "light touch" approach.  Anyone that has been online in the past few weeks has probably come across the dire predictions of advocates of these regulations.  When repealed, its argued, the internet will cease to be the open and free landscape that has fostered so much innovation.  The dystopian future would instead belong to monopolists who would shut down competition and nickel and dime customers for individual websites and essential services.  We believe this view to be both alarmist and completely unfounded.

Even though the repeal effort has been framed as a massive giveaway to large corporations, it's important to remember this is simply a return to pre-2015 regulations.  This means ISPs would no longer be subject to FCC oversight through "title II" rules under the Telecommunications Act of 1996.  Further, there was no evidence of widespread abuse by ISPs leading up to the new rules being adopted in 2015. The changes were instead made based on the theoretical chance that abuse could happen in the future, setting a dangerous regulatory precedent.  

Many argue that any step that we can take to protect against bad behavior is worth taking.  However, regulation always has unintended consequences. The forgone opportunities from shifting resources from productive uses to compliance harms innovation and regulatory capture means more market power for the very companies that you set out to check.  In many cases, government taxes and regulations effectively limit competition.  Large incumbents can afford the costs of compliance while their smaller competitors can't.  Lobbyists don't come cheap either, and are able to ensure that new laws and regulations favor established ISPs.

Finally, a major reason there is only one ISP in many localities, raising the specter of monopoly in the first place, is the result of prohibitive costs imposed by local governments.  Companies must pay exorbitant amounts for "rights of way", the ability to run cable under public and private streets or buildings.  On top of this, exclusive licensing agreements that include kickbacks like expanding service where it's not demanded or providing free broadband to government buildings are business as usual.  These practices either reduce incentives for competitors to challenge the incumbent or keep them out altogether.  If the main goal is to keep bad behavior from happening, competition is the best solution, which means these local government practices need to be reformed.  Further, centralized approval of pricing and service plans through the FCC will inevitably slow down the rollout of alternative forms of internet delivery.  High speed satellite internet, for example, stands to benefit small and rural localities with no options the most.

Many advocates of net neutrality cite the goal of keeping the internet as a virtual "wild west."  It's ironic then that they're also the ones calling for the arrival of a sheriff.  Considering the FCC's institutional history of censorship, giving it control over the biggest innovation in the distribution of free and open information should also give pause.  Before net neutrality rules were adopted in 2015, internet access and speed for the average person had done nothing but expand and accelerate, and there's no reason to believe that will change after a repeal.  Further, FCC Chairman Ajit Pai deserves applause for being a rare example of a regulator working to reduce his own power. Markets and competition, not government, are what have driven the incredible innovation we have seen through the internet, and a repeal of these rules means that innovation is here to stay. 

Bryce Gill – Economic Analyst      

Posted on Thursday, December 14, 2017 @ 12:16 PM • Post Link Share: 
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  Retail Sales Increased 0.8% in November
Posted Under: Data Watch • Retail Sales


Implications: Retail sales exploded to the upside in November and were revised up for prior months, a sign the economy continues to pick up steam.  Retail sales rose 0.8% in November, coming on the backs of a 0.5% gain in October and a 2.0% gain in September.  The growth in September and October was led by autos, which were unusually strong as people replaced vehicles destroyed in the hurricanes.  But auto sales were the only category that fell in November. Instead, the gains in November were broad-based with 12 of the 13 major categories showing gains.  Non-store retailers led the charge higher followed by gas station sales, as prices at the pump rose considerably.  Non-store retail sales grew by 2.5% in November, the largest gain this year and now make up around 11% of retail sales. Just think about Amazon.  Do you own an Amazon Prime membership?  Chances are you do and use it frequently. As of the third quarter of 2017, it's estimated there are 90 million Amazon Prime members in the United States.  More great news today was the considerable strength for "core" sales, which excludes autos, building materials, and gas.  Core sales grew 0.8% in November, and are up 4.3% from a year ago.  Although some retail outlets are getting beat up by on-line retailing, the sector looks good from the consumer's point of view.  Jobs and wages are moving up, consumers' financial obligations are an unusually small part of their incomes, and serious (90+ day) debt delinquencies are down substantially from post-recession highs.  In employment news this morning, new claims for jobless benefits fell 11,000 last week to 225,000.  Meanwhile, continuing claims declined 27,000 to 1.90 million.  Look for another solid month of job growth in December.  On the inflation front, import prices rose 0.7% in November while export prices rose 0.5%.  In the past year, import and export prices are both up 3.1%.  This marks a big shift in the past twelve months.  In the year ending in November 2016, import prices were up only 0.2% while export prices were down 0.2%.  In other news this morning, business inventories slipped 0.1% in October, as expected.  As a result of all of today's data, we now expect the government's estimate of Q3 real GDP growth to be revised up to a 3.4% annual rate from a previously reported 3.3%.  Meanwhile, our early tracking model for Q4 suggests a real GDP growth rate of 3.1%. 

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Posted on Thursday, December 14, 2017 @ 10:44 AM • Post Link Share: 
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  Fed Stays on Right Hiking Path
Posted Under: Government • Research Reports • Fed Reserve • Interest Rates


The Federal Reserve did what just about everyone expected earlier today and raised short-term interest rates by 0.25 percentage points.  The federal funds rate is now in a range from 1.25 - 1.50% and the Fed is now paying banks 1.50% on their reserve balances. 

Today's move was the third 25 basis point rate hike in 2017, matching the Fed's median projection for rate hikes that it made a year ago.  At present, the Fed's "dot plot," which it releases at the last meeting of every calendar quarter, projects another three rate hikes in 2018.  That would bring the funds rate to a range of 2.00% to 2.25% and the rate on reserves to 2.25%.  The Fed did not change its forecast for another two or three rate hikes in 2019, but suggested a chance of a slightly higher peak for the funds rate in 2020.  Regardless, the median Fed policymaker has the long-run funds rate at 2.75%.

Despite the lack of change in the projected path of interest rates, there were some noticeable changes to the outlook for the economy in the near term.  In particular, the Fed now expects 2.5% economic growth in 2018 (Q4/Q4) versus a prior estimate of 2.1% and expects growth to be slightly stronger than previously estimated in 2019-20 as well.

Meanwhile, the Fed projects a lower bottom for the unemployment rate in 2018-19: 3.9% versus 4.1%.  Oddly, the reason for the lower bottom is not the faster economic growth over the next few years but simply because, at 4.1%, the jobless rate is already lower than the 4.3% the Fed thought it would get to this year.  Another way to think about it is that the Fed is still forecasting a 0.2 percentage point drop in the jobless rate in 2018 and no change in 2019, the same as it was forecasting back in September.

The only way we can square faster growth with no change in the drop in unemployment is that the Fed anticipates faster productivity growth in the next few years.  We think that makes sense given that the tax cut now winding its way through Congress should enhance supply incentives and boost capital investment.

Where we differ with the Fed's forecast is that we expect growth to be around 3% per year in 2018-19 and the jobless rate to dip even further below the Fed's longer-run projection of 4.6%.  Look for the jobless rate to finish next year at 3.7%, the lowest since the late 1960s.  Look for it to finish 2019 at about 3.3%, which would be the lowest since the early 1950s. 

In turn, we think investors should see the Fed's current projected path of interest rates as a floor for rate hikes in the next few years.  That's a big difference from the current market consensus that foresees two rate hikes in 2018.  Note that at the press conference, Fed Chief Yellen said "most" Fed policymakers had included the probability of tax cuts into their forecasts.  This leaves some room for more upside as the tax cuts are likely to be enacted very soon.  

The Fed's statement itself didn't have any significant changes versus the statement from November.  However, it revealed that two Fed bank presidents dissented from raising rates today: Chicago's Charles Evans and Minneapolis's Neel Kashkari.  Look for similar dissents early next year, but we think those will disappear by late 2018 as the case for rate hikes gets clearer.                  

In the meantime, the Fed will keep reducing its balance sheet at a pace of up to $10 billion per month for the fourth quarter, increasing that to $20 billion monthly pace in the first quarter of 2018, $30 billion in Q2, $40 billion in Q3, and $50 billion in Q4.  After that, the Fed is projecting it would maintain that $50 billion monthly pace until it's satisfied with the size of the balance sheet.  (For the foreseeable future, the balance sheet cuts would be 60% in Treasury securities and 40% in mortgage-related securities.) 

The bottom line, in our view, is that monetary policy remains too loose and the economy can handle higher short-term rates.  Nominal GDP (real GDP growth plus inflation) is up 3.5% per year in the past two years, leaving plenty of room for more rate hikes in 2018-19.         

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

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Posted on Wednesday, December 13, 2017 @ 5:04 PM • Post Link Share: 
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  The Consumer Price Index Rose 0.4% in November
Posted Under: CPI • Data Watch • Inflation


Implications:  The Fed now has the final piece of data to make its decision on monetary policy this afternoon, and November's 0.4% increase in consumer prices – and 2.2% increase over the past twelve months - seals the deal on what already looked inevitable.  Barring a significant deviation from their "data dependent" policy approach, a 25 basis point increase in the Fed funds rate can be penciled in for later today, ending 2017 with a total of three hikes, and setting the stage for three more hikes (possibly four) in 2018. A look at consumer prices in November shows energy leading the way, with gasoline prices rising 7.3%.  Food prices were once again unchanged, while "core" prices – which exclude the typically volatile food and energy components – rose 0.1% in November.  "Core" prices are up 1.7% in the past year, but up at a 1.9% annual rate over the past three and six-month periods.  In other words, both headline and "core" inflation stand near or above the Fed's 2% inflation target, and both have been rising as of late.  Housing costs rose 0.2% in November and are up 2.8% in the past year, while prices for services also rose 0.2% in November and are up 2.5% over the past twelve months.  Both remain key components keeping "core" prices steadily rising and should maintain that role in the year ahead.  Add in yesterday's report on producer prices that showed rising inflation in the pipeline and we expect consumer prices will continue to average at or above the 2.0% year-to-year pace in the months ahead.  A look at today's survey of economic projections (the Fed "dot plots") released alongside the Fed statement will tell if the FOMC participants feel they are falling behind the curve with monetary policy, which is already too loose given the pace of economic growth.

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Posted on Wednesday, December 13, 2017 @ 9:51 AM • Post Link Share: 
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  The Producer Price Index Increased 0.4% in November
Posted Under: Data Watch • Inflation • PPI


Implications:  Producer prices continued their steady march higher in November and are up more than 3% in the past year, the largest twelve month increase since 2012.  It's fitting that today's report on rising inflation comes as the Fed starts their December meeting, where a rate hike announcement now looks all but set in stone.  Prices for goods led the way in November, rising 1.0% as gasoline prices surged 15.8%.  Food prices also moved higher in November, rising 0.3% on increased costs for meats, fruits, and vegetables.  But even stripping out the increases in the food and energy groupings shows "core" producer prices rose 0.3% in November and are up 2.4% in the past year.  No matter how you cut it, it's clear inflation is on the rise. In fact, nearly every category in today's report shows inflation pressures that are likely to flow through to consumer prices in the months ahead.  And a look further down the pipeline shows the trend higher should continue in the months to come.  Intermediate processed goods rose 0.5% in November and are up 5.3% from a year ago, while unprocessed goods increased 3.2% in November and are up 10.6% in the past year.  Given these figures, the real focus on tomorrow's Fed release will be on the survey of economic projections (the Fed "dot plots") to see if FOMC participants shift up their expectations for the number of rate hikes they expect in 2018. With employment growth remaining strong and inflation rising, we still expect three rate hikes in 2018, but believe the chance of a fourth rate hike is much higher than the likelihood we see just two as the markets are currently pricing in. 

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Posted on Tuesday, December 12, 2017 @ 10:37 AM • Post Link Share: 
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  The Fallacy of Weak Productivity
Posted Under: Government • Monday Morning Outlook • Productivity

Models of the economy are pretty useful tools.  And simple models are some of the most useful.  They help people envision how the world works.  They help organize thinking.

For example, the model that says potential U.S. economic growth is determined by "population (labor force) growth" plus "productivity" is an elegant model that shows how adding workers, or having them become more productive, leads to more economic growth.

But, even an elegant model can lead people astray when the inputs are misunderstood.  As they say: Garbage in, Garbage out!

Population growth is relatively straight-forward and doesn't change much.  It's growing at about 0.8% per year over the last decade.  Yes, immigration and the participation rate add some complexity, but labor force growth is the easiest part of the model to deal with.

Productivity growth, on the other hand varies, and is the true key to this model.  Non-farm productivity growth, as measured by the government, has averaged slightly above 1% per year lately.  That's slow by most historical standards.

Add these two up (Population, 0.8%) + (Productivity, 1.0%) = 1.8% growth; which is why many economists argue that the U.S. economy has a potential growth rate of just 2% per year, possibly less.  And they also say it can't be fixed.

But, can this really be true?  New technologies are boosting productivity everywhere.  As recently as 2009 it took over a month to drill and complete a new oil well; now it takes around a week.  Farmers have boosted the bushels of corn they get from every acre of farmland by 2.4% per year since the early 1990s – while new tech (drones, GPS, ground sensors) helps to save on inputs of hours, water, fuel, and fertilizer.

Smartphones, tablets, apps, the cloud, 3-D printing, drones, and many other new technologies are clearly boosting productivity.  And not just in tech industries.

So, why do so many people think productivity is weak?  Yes, government data sources say it's weak.  But anyone who goes outside instead of living in the data knows nearly everything is getting better, faster, and cheaper.
That suggests something is wrong with the government data.  One problem is that things that are free – like maps, step counters, language translators, radios, or calculator apps on your smartphone – are hard for the government to count.

But there's a bigger problem.  The government is a negative productivity machine.  For example, productivity in electric power generation and distribution fell 13% between 2006 and 2016.  And commercial banking productivity has risen less than 0.1% per year in the past seven years.  How could this be?  Why are these industries stagnating despite constant improvements in technology?

The answer:  Too much government.  The government has subsidized wind and solar electricity power generation, which are far more labor intensive and less productive.  And, excessive banking regulations shifted many jobs from profit generation to oversight and reporting in that industry.  The tax code itself absorbs millions of hours in non-productive labor.

In other words, while productivity in private activity hums along, big government is throwing a wet blanket over entire industries, and dragging down total market productivity.  It's simply not true that potential growth is as weak as the model says.  What is true is that shrinking government burdens will boost real (and reported) productivity, growth, wages, and living standards.

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

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Posted on Monday, December 11, 2017 @ 11:36 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, December 11, 2017 @ 10:31 AM • Post Link Share: 
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  Inversion in 2018? Not Likely!
Posted Under: Bullish • Government • Markets • Video • Fed Reserve • Interest Rates • Bonds • Stocks • Wesbury 101
Posted on Friday, December 8, 2017 @ 2:44 PM • Post Link Share: 
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  Nonfarm Payrolls Rose 228,000 in November
Posted Under: Data Watch • Employment


Implications:  The labor market picture keeps getting brighter for American workers.  Nonfarm payrolls increased 228,000 in November, beating consensus expectations.  In the past year, payrolls are up an average of 173,000 per month.  Although civilian employment, an alternative measure of jobs that includes small business start-ups, increased only 57,000 in November, that gauge is up 196,000 per month in the past year, so some convergence in the two measures of jobs should be expected.  The unemployment rate stayed at 4.1%, as expected, but we anticipate continued declines in 2018-19.  The lowest unemployment rate since the late 1960s was 3.8% in 2000 at the peak of that era's tech boom.  We expect to beat that by the end of 2018.  The lowest jobless rate in the 1960s was 3.4%; assuming we stay on track for a major cut in the corporate tax rate, we think that record will fall in 2019, eventually hitting the lowest levels since the early 1950s.  Although a relatively low participation rate makes it easier to have a lower unemployment rate, the participation rate is slightly higher than a year ago and the size of the labor force is up 1.6 million in the past year after a gain of 1.8 million in the year ending November 2016.  In other words, the jobless rate has been falling even though the labor force has been expanding.  Other good news in today's report includes a drop in the median duration of unemployment to 9.6 weeks, tying the low so far in this expansion.  As usual, we like to follow total earnings, which combines the total number of hours worked and average hourly earnings.  Total earnings are up a sturdy 4.8% from a year ago, signaling plenty of growth in consumer purchasing power.  This is not about the "rich getting richer;" a separate report on the earnings of full-time workers shows wages are rising faster in the lower income ranges than in the higher ones.  Put it all together, and we have a recipe that makes a rate hike at next Wednesday's Fed meeting almost certain.  The Fed will also likely say it foresees three rate hikes in 2018.  We think that's about right, but we also think the odds of four rate hikes next year are higher than the odds of only two rate hikes.  

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Posted on Friday, December 8, 2017 @ 10:31 AM • Post Link Share: 
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  The ISM Non-Manufacturing Index Declined to 57.4 in November
Posted Under: Data Watch • ISM Non-Manufacturing


Implications:  It shows how far the economy has come that a robust reading of 57.4 for the ISM Services index is a disappointing number.  Growth in the service sector slowed in November, coming off October's reading of the fastest expansion in more than a decade.  Sixteen of eighteen industries reported growth (one reported contraction), while all major measures of activity stand comfortably in expansion territory.  The most forward looking indices – new orders and business activity – both remain at very healthy levels, signaling that activity should remain healthy in the months ahead.  The prices paid index declined to a still high 60.7 in November, with labor shortages and rising fuel costs cited by respondents.  There may be some remnants of hurricane impacts in both the pricing data and supply chains, with supplier delivery backlogs improving but still above pre-storm levels.  But a look at the trend in the data shows that improvements were well underway before the hurricanes provided a temporary bump in business.  So while prices and supplier deliveries will moderate over the coming months, we expect service activity will remain strong heading into 2018.  On the jobs front, the employment index declined to 55.3 from 57.5 in October. Our forecasts may change with ADP and initial claims reports in the coming days, but we are currently forecasting nonfarm jobs growth of 207,000 for November.  Put it all together and the service sector, like the manufacturing sector, shows why the economy is picking up the pace.  In other recent news, automakers reported sales of cars and light trucks at a 17.5 million annual rate for November, down 3.1% from October and down 1% from a year ago.  It looks like the surge in auto sales after Hurricanes Harvey and Irma has just about run its course.  After hitting a calendar-year record high of 17.5 million in 2016, sales for all of 2017 should be 17.2 million.  Look for a further modest decline next year as US consumers shift their spending to other sectors.

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Posted on Tuesday, December 5, 2017 @ 10:54 AM • Post Link Share: 
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