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   Brian Wesbury
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  Executive Order and Presidential Memoranda Watch 2/24
Posted Under: Government
Presidential Executive Order on Enforcing the Regulatory Reform Agenda (2/24/17) – Government agency heads are to appoint a Regulatory Review Officer (RRO) within the next 60 days. The RRO will oversee regulation initiatives for compliance with existing law and policies including the January 30th Executive Order focused on reducing the number of - and costs of complying with – existing regulations.  
Posted on Friday, February 24, 2017 @ 3:17 PM • Post Link Share: 
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  New Single-Family Home Sales Increased 3.7% in January
Posted Under: Data Watch • Home Sales • Housing

 

Implications:  New home sales rose in January, although not quite as fast as the consensus expected.  Sales increased 3.7% in January and are now up 5.5% versus a year ago, illustrating the "fits and starts" recovery of the past several years.  Using the 12-month moving average to cut through the volatility shows the upward trend in sales remains intact.  Meanwhile, despite a 9,000 increase in unsold new homes, inventories remain low by historical standards (see chart to right) and are not a headwind to future construction.  Most of this gain in inventories in January was due to homes where construction has yet to start.  Going forward, we expect housing to remain a positive factor for the economy.  First, employment gains continue which should put upward pressure on wage growth.  Second, the mortgage market is starting to thaw.  Third, the homeownership rate remains depressed as a larger share of the population is renting, leaving plenty of potential buyers as economic conditions continue to improve.  Unlike single-family homes which are counted in the new home sales data, multi-family homes (think condos in cities) are not counted.  So a shift back toward single family units will also serve to push reported sales higher.  Look for overall gains in home sales in the year ahead as these factors combine to drive expansion, and any headwind created by an increase in mortgage rates is offset by expectations of faster future economic growth.  In other recent housing news, the FHFA Index, which measures prices for homes financed with conforming mortgages, increased 0.4% in December and was up 6.2% in 2016, the second fastest increase for any calendar year since 2005.  More broadly, new claims for unemployment insurance increased 6,000 last week to 244,000.  Continuing claims fell 17,000 to 2.06 million.  It's still early, but plugging these figures into our models suggests a nonfarm payroll gain of about 195,000 for February, which would boost the odds of a March rate hike.

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Posted on Friday, February 24, 2017 @ 10:58 AM • Post Link Share: 
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  Existing Home Sales Increased 3.3% in January
Posted Under: Data Watch • Home Sales • Housing

 

Implications:  Existing homes sales started off 2017 on a strong note, coming in at the fastest sales pace since 2007.  Sales of previously-owned homes rose 3.3% in January to a 5.69 million annual rate, beating the forecast of every economics group surveyed by Bloomberg, and are now up 3.8% from a year ago.  Home sales are volatile from month to month but we expect the general upward trend of the past several years to keep going.  That being said, tight supply and rising prices remain headwinds.  Remarkably, sales climbed to their fastest pace in nearly a decade even though inventories remain very low.  In fact, inventories have now fallen on a year-over-year basis for 20 consecutive months.  The months' supply of existing homes – how long it would take to sell the current inventory at the most recent sales pace – was only 3.6 months in January.  According to the NAR, anything less than 5.0 months is considered tight supply.  Meanwhile, growing demand for housing has driven up median prices, which are now up 7.1% from a year ago. While this may temporarily price some lower-end buyers out of the market, it should ultimately help alleviate some of the supply constraints as "on the fence" sellers take advantage of higher prices and trade-up or trade-down to a new home.  Despite the recent thaw in the lending market, a bigger problem for lower-end buyers may be gaining access to mortgages.  Sales of homes in the 0-$100K range, which represented 13.9% of total sales in January, are the only price bracket where sales are down from a year ago.  Although some analysts may be concerned about the impact of higher mortgage rates, it's important to recognize that rates are still low by historical standards, incomes are growing, and the appetite for homeownership is eventually going to move higher again.

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Posted on Wednesday, February 22, 2017 @ 11:41 AM • Post Link Share: 
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  Time for a Rate Hike
Posted Under: CPI • Employment • Government • Inflation • Markets • Monday Morning Outlook • Fed Reserve • Interest Rates • Bonds

According to the futures market, there is a 38% chance the Federal Reserve raises rates when it meets in mid-March.  If the Fed were to stand by what it has said the past several years, the odds should be much higher.  But the market is used to the Fed finding reasons to put off justified rate hikes.

The Fed has consistently said it wants to see the inflation measure for Personal Consumption Expenditures (also called the PCE deflator) at 2%. We won't get an official PCE number for January until the middle of next week, but based on January's 0.6% increase in the consumer price index (CPI), it looks like the PCE index will be up 0.4% in January and 1.9% compared to a year ago.  And if that's not close enough, all we need in February is a mere 0.1% monthly increase and the PCE will be over the 2% mark.

Meanwhile, the jobless rate is already 4.8%, exactly the level the consensus at the Fed thinks is the long-run average when the economy is neither "too hot" nor "too cold."

And yet the Fed's short-term interest rate target remains in a range between 0.5% and 0.75%.  That's simply too low.  Under normal conditions the Fed's target for short-term rates should be a little lower than the trend growth in nominal GDP – real GDP plus inflation.  But in the past year nominal GDP is up 3.5% and it's up at a 3.2% annual rate in the past two years.

A gap that large between the trend growth in nominal GDP and short-term rates means there is excess liquidity in the financial system and monetary policy is too loose.  No wonder inflation has been heading up and the jobless rate continues to trend down.

Moreover, the yield curve remains unusually steep, with about 180 basis points separating the yield on the 10-year Treasury Note from the Fed's short-term interest rate target, versus an average of 106 basis points since the mid-1950s.  The bond market has been holding the 10-year to 30-year spread tight, because it believes long-run inflation will be contained, but clearly the market is pricing in higher short-term interest rates.

The signposts for higher inflation are already in place.  In January, the M2 measure of money, which includes currency, checking deposits, savings deposits, small CDs, and retail money funds was up 6.7% from a year ago.  By contrast, it was up only 6.2% in the year ending in January 2016 and 6.0% in the year ending in 2015.  Wage growth has accelerated as well, with average hourly earnings up at a 2.5% annual rate in the past two years, the fastest since the recession ended. 
 
One argument for waiting past March is that the Fed needs a chance to see what kinds of budget proposals – taxes and spending – are likely later this year.  But we highly doubt anything President Trump and Congress come up with will be viewed by the Fed as "contractionary."  Instead, they're going to push proposals the Fed views through its Keynesian lenses as "stimulative." 

So why wait?  Raising rates in March doesn't pre-commit the Fed to raise rates more than three times this year.  If circumstances change, there's plenty of time for the Fed to change its mind and skip a rate hike in June, or September, or December.  
 
In addition, raising rates sooner rather than later, gets the Fed closer to dealing with the elephant in the room - its balance sheet.  Quantitative Easing has pushed assets on the Fed's books to more than $4.4 trillion, with over $350 billion in repos and nearly $2 trillion in excess reserves. 

So far, sluggish monetary velocity, including tight regulation of the banking system, has kept a relatively tight lid on the inflationary impact of those reserves.  But, now that the animal spirits are stirring and less burdensome financial regulations are on the way, those reserves pose an increasing inflationary risk.

Fed Chief Yellen's recent congressional testimony left the door open for a rate hike in March.  The economy and markets are ready for the Fed to cross the threshold.                    

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

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Posted on Tuesday, February 21, 2017 @ 10:25 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 Tuesday, February 21, 2017 @ 7:53 AM • Post Link Share: 
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  Housing Starts Declined 2.6% in January
Posted Under: Home Sales • Home Starts • Housing

 

Implications:  Housing starts took a breather in January, slipping 2.6%, after a surge in December.  However, we think the general upward trend is still intact.  Multi-family starts, which are very volatile from month to month, dropped 10.2% in January and accounted for all decline.  Meanwhile, single-family starts rose 1.9% in January and are now up 6.2% from a year ago.  Permits to build single-family homes, declined 2.7% in January but are up 11.1% from a year ago, supporting the case for a continued increase in the pace of home building.  Based on population growth and "scrappage," housing starts should eventually rise to about 1.5 million units per year, so much of the recovery in home building is still ahead of us.  In addition, the "mix" of construction has been generally shifting toward single-family building.  When the housing recovery started, multi-family construction led the way.  But the share of all housing starts that are multi-family appears to have peaked in 2015, when 35.7% of all starts were multi-family, the largest since the mid-1980s, when the last wave of Baby Boomers was growing up and moving to cities.  In 2016, the multi-family share of starts fell to 33.3%.  The shift in the mix of homes toward single-family is a positive sign because, on average, each single-family home contributes to GDP about twice the amount of a multi-family unit.  In other recent housing news, the NAHB index, which measures sentiment among home builders, dropped slightly to a still-high 65 in February.  More jobs, faster wage growth, and, for at least the time being, optimism about more market-friendly policies from a Trump Administration, are encouraging both prospective home buyers and builders.  More broadly, new claims for jobless benefits rose 5,000 last week to 239,000.  Continuing claims slipped 3,000 to 2.08 million.  It's still early, but it looks like nonfarm payrolls will be up close to 200,000 in February.  On the manufacturing front, the Philadelphia Fed index, which measures factory sentiment in that region, soared to 43.3 in February from 23.6 in January.  The reading for February was the highest since the early 1980s and signals optimism about a major positive shift in economic policies.

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Posted on Thursday, February 16, 2017 @ 10:24 AM • Post Link Share: 
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  Industrial Production Declined 0.3% in January
Posted Under: Data Watch • Industrial Production - Cap Utilization

 

Implications:  Industrial production took a breather in January after surging in December.  However, the key to understanding this month's report is in the details, which were much stronger than the headline decline of 0.3%.  Utilities and auto production, which are very volatile from month to month, were large drags on production.  January was unusually warm in the lower-48 states, resulting in lower demand for heat and causing the largest monthly drop in utility output since 2006.  Meanwhile manufacturing, which excludes mining and utilities, rose 0.3% in January despite a 2.9% drop in auto production.  We like to follow "core" industrial production, which is manufacturing excluding autos, and this measure increased 0.5% in January and has been accelerating lately.  Even though this measure is only up a tepid 0.3% in the past year, it's up at a 3.2% annual rate during the past three months.  We think the acceleration in core production is, in part, a lagged effect of the rebound in oil prices, which adds to the production of machinery used in the energy sector.  The rebound in energy prices is also having a direct effect on mining, which jumped 2.8% in January and posted its first positive year-over-year reading since April 2015.  Further, oil and gas-well drilling posted its eighth consecutive gain in January, jumping 8.5%, and is now up at a massive 144% annual rate in the past three months.  Based on other commodity prices, we think oil prices are in the "fair value" range, which should keep mining in recovery after the problems of the past two years.  Although weak overseas economies will continue to be a headwind for production, we expect solid growth in the year ahead.  In other news this morning, the Empire State index, a measure of manufacturing sentiment in New York, surged to +18.7 in February from +6.5 in January, signaling continued improvement in the factory sector.

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Posted on Wednesday, February 15, 2017 @ 11:07 AM • Post Link Share: 
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  Retail Sales Rose 0.4% in January
Posted Under: Data Watch • Retail Sales

 

Implications:  Could the Plow Horse economy be starting to trot?  Retail sales started off 2017 at a healthy pace, and we hope the Federal Reserve is paying attention.  Sales rose 0.4% on the back of an upwardly revised 1.0% gain in December, coming in much higher than the consensus expected.  Overall retail sales are now up 5.6% in the past year, the best reading since March 2012, and we expect that trend to stick.  Sales are up at a 6.3% annual rate in the past six months and a 6.0% rate in the past three months.  What was most impressive is the gain in January came even though auto sales declined 1.4%.  Excluding autos, retail sales rose 0.8% and are up 5.3% in the past year, also the best year-to-year reading since March 2012.  The gain in sales in January was broad-based with nine of thirteen major categories showing growth.  Although gas station sales rose the most due to higher fuel prices, "core" sales, which exclude autos, building materials, and gas, rose 0.6% in January, the sixth consecutive monthly gain and the 11th gain in the past 12 months.  Core sales are now up 4.3% from a year ago and we expect that trend to accelerate in the year ahead.  Job growth continues, nominal wages gains are accelerating, and consumer debt service obligations are very low by historical standards. 

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Posted on Wednesday, February 15, 2017 @ 10:39 AM • Post Link Share: 
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  The Consumer Price Index Increased 0.6% in January
Posted Under: CPI • Data Watch • Inflation

 

Implications:  Today's inflation report was a clear sign the Federal Reserve needs to move away from the loose stance of monetary policy or risk falling behind the curve.  Consumer prices jumped 0.6% in January, the largest single-month increase since 2013.  The leap in prices was led by the volatile energy sector, which rose 4% in January and is up 10.8% in the past twelve months.  However, "core" prices, which exclude both food and energy rose 0.3% in January, the largest gain for any month in more than a decade.  Overall, consumer prices are up 2.5% in the past year while core prices are up 2.3%.  Moreover, both the overall CPI and the core CPI have been rising faster in the past six months than in the past twelve months, and even faster in the past three months.  The Fed's favorite measure of inflation is the PCE index.  We have a model that uses the CPI to forecast the PCE and that suggests the PCE index was up 0.4% in January.  If so, it would also be up 1.9% from a year ago, just a hair below the Fed's 2% target and likely to move to that target or above by March.  The worst news in today's report was a 0.5% decline in real average hourly earnings.  Real hourly earnings rose a modest 0.8% in 2016, a slower pace than the 1.8% gain in 2015, but given continued employment gains and a tightening labor market, this should rebound soon.  With inflation heading to the Fed's 2% target and continued strength in the job market, we expect the Fed to raise rates at least three times in 2017, with four hikes a distinct possibility as well.  Fed Chair Janet Yellen told the Senate Banking Committee yesterday that every meeting is "live," and investors should believe her.  The odds of a rate hike in March have risen from a long-shot to over 40% and the data show action is warranted.

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Posted on Wednesday, February 15, 2017 @ 10:18 AM • Post Link Share: 
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  The Producer Price Index Rose 0.6% in January
Posted Under: Data Watch • Inflation • PPI

 

Implications:  Producer prices rose at the fastest monthly pace in more than four years to start 2017.  And this comes after healthy increases in November and December as well.  Some will point out that energy prices, which rose 4.7% in January and are up 14.0% in the past year, have been a key contributor to the rise in consumer prices in recent months. But even stripping out the volatile food and energy components shows "core" prices accelerating from a 1.2% increase in the past year to a 3.7% annual rate in the past three months.   Goods prices once again led the index higher in January, rising 1.0% on the back of energy prices.  Meanwhile, service prices have shown consistent, if moderate, inflation, rising 0.3% in January.  We expect this trend to continue in the coming months, which will push overall inflation toward, and eventually above, the Fed's 2% inflation target.  The Fed, to no surprise, held off on action at their meeting earlier this month. However, if data continue on the track of today's inflation reading and the consensus-beating January jobs report, the Fed could be pushed to move before the market projected June meeting.  Expect three, if not four, rate hikes in 2017.  In other recent inflation news, import prices rose 0.4% in January and are up 3.7% from a year ago.  Petroleum import prices jumped 5.2% in January following December's 6.8% rise.  While the long decline in energy prices that began in mid-2014 appears to be over, don't be surprised if we see fits and starts on the road higher.  Export prices also rose in January, up 0.1%, and have increased 2.3% in the past year.  The Fed has plenty to watch before they meet again in March, and all eyes will be on the wording of that statement to see if the Fed will risk falling behind the curve.  

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Posted on Tuesday, February 14, 2017 @ 9:36 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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