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   Brian Wesbury
Chief Economist
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   Bob Stein
Deputy Chief Economist
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  Retail Sales Rose 0.5% in May


Implications: Retail sales saw healthy growth in May, in addition to significant upward revisions to prior months.  Sales for April were originally reported down 0.2% but were revised to a gain of 0.3%.  When you pair the upward revision for April with the 0.5% rise in sales in May, retail sales are up a combined 1.1% from prior estimates.  Revisions like those are one reason we focus on the trend rather than monthly figures.  Remember last December when retails sales declined 1.2% (later revised even lower to -1.6%) and the recession calls rang from the rafters?  Then the trend in rising sales returned in the first quarter and has picked up pace in Q2.  In fact, since December, retail sales are up at a 7.6% annual rate versus the 3.2% gain in the past year. These numbers are nowhere close to recessionary.  For May itself, eleven of the thirteen major categories had higher sales, led by internet & mail order retailers and autos, which rose 1.4% and 0.7%, respectively.  Gasoline stations sales moved 0.3% higher as prices at the pump rose in May.  "Core" sales, which exclude autos, building materials, and gas stations (the most volatile sectors) were up 0.5% in May, are up at an 8.9% annual rate over the past three months, and are up 3.5% from a year ago.  Even if these sales are completely unchanged in June, they'll be up at a strong 6.0% annual rate in Q2 versus the Q1 average.  While the Q2 real (inflation adjusted) GDP reading is likely to come in near 2.0%, a deceleration from Q1, this is not reason for concern. Volatility is perfectly normal from quarter-to-quarter, and the trend in growth remains healthy.  Jobs and wages are moving up, companies and consumers continue to benefit from the tax cuts, consumer balance sheets look healthy, and serious (90+ day) debt delinquencies are down substantially from post-recession highs.  For these reasons, expect solid gains in retail sales over the coming months.  In recent employment news, initial jobless claims rose 3,000 last week to 222,000.  Continuing claims rose 2,000 to 1.695 million.  These readings suggest solid jobs growth in June after the lull in May.  On the inflation front, import prices fell 0.3% and export prices declined 0.2% in May. In the past year, import prices are down 1.5%, while export prices are down 0.7%.  Expect higher year-ago comparisons later in 2019 due to the rebound in energy prices.

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Posted on Friday, June 14, 2019 @ 11:21 AM • Post Link Share: 
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  Industrial Production Increased 0.4% in May


Implications:  Industrial production surprised to the upside in May, beating consensus expectations and posting the largest monthly increase so far in 2019.  That said, the details of today's report were not quite as strong as the headline suggested.  Nearly all the month's gain was due to utilities and auto manufacturing, which rose 2.1% and 2.4%, respectively.  However, these two series are very volatile from month to month.  Meanwhile, manufacturing outside the auto sector (which represents the majority of activity) remained unchanged. Putting the two series together shows overall manufacturing rose 0.2% in May and is now up 0.7% in the past year.  On the bright side, even though non-auto manufacturing is only up a tepid 0.3% in the past year, the various capital goods production indices continue to show healthy growth.  For example, over the past twelve months business equipment is up 3%, high-tech equipment is up 6.6%, and durable goods more generally are up 2.3%. By contrast non-durable goods production is down 0.6%, demonstrating that the ongoing weakness in non-auto manufacturing growth isn't signaling the death of business investment.  Year-over-year growth rates peaked for both manufacturing and headline industrial production in September 2018 and have since declined, as the above chart shows. Some will suggest that the Trump administration's tariffs on an additional $200 billion in Chinese goods are responsible, and this is something to think about, but other indicators like the ISM Manufacturing data continue to show a healthier picture. It's also important to keep in mind that manufacturing is only responsible for about 11% of GDP and is much more sensitive to global demand than other sectors of the economy.  Finally, mining activity posted a 0.1% increase in May, hitting a new record high.  In the past year mining is up 10%, showing the fastest year-over-year growth of any major category.

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Posted on Friday, June 14, 2019 @ 11:10 AM • Post Link Share: 
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  The Consumer Price Index Rose 0.1% in May
Posted Under: CPI • Data Watch • Inflation


Implications:  Consumer prices rose 0.1% in May and are up 1.8% in the past year, while "core" prices – a more reliable gauge of inflation that strips out the typically volatile food and energy components – rose 0.1% in May and are up 2.0% in the past twelve months. Given the Fed's 2% inflation target, that should be a signal that everything is looking A-OK. Not too fast, not too slow, just right. So when we see headlines that core inflation readings "[Bolster] the Case for Fed Rate Cuts", we can't help but wonder if we are looking at the same report.  A look at the details of today's report makes the fear of low inflation even more confusing.  Headline inflation is up 1.8% in the past year, but up at a 1.9% annualized rate over the past six months, and a 3.3% annualized rate in the past three months.  In other words, broad-based inflation is already near 2% and rising.  In addition, the Cleveland Fed's median CPI series, which adjusts for both upside and downside outliers, shows inflation up 2.7% in the past year. No matter how you cut it, inflation is in-line with Fed targets, and shows no signs of the economic paralysis that bond markets are pricing in.  Medical care and housing costs – up 0.3% and 0.1%, respectively, in May - continue to be key drivers pushing "core" prices higher, while higher prices for airfares, education, and new vehicles more than offset declining costs for used cars and trucks as well as car insurance.  We believe these data, as well as strength in trend inflation (which is far more important than single month readings) don't support the case for rate cuts.  Moreover, unemployment is 3.6%, initial claims are near historic lows and there are 1.6 million more job openings than unemployed people.  That's not to say some dovish Fed members won't alter down their forecasts for rates through 2019 and into 2020, but the data, if anything, suggests higher rates would be the more appropriate path based on economic fundamentals alone.  As the year progresses and worst-case scenarios aren't realized, possibly catalyzed by resolution of trade tensions, we expect a return of confidence to the financial markets and a shift back towards a more "risk on" environment, putting upward pressure on longer-term interest rates.  Among the best news in today's report was that real average hourly earnings rose 0.2% in May and are up 1.3% in the past year.  With the strength in the labor market noted above, we believe that the trend higher will continue in the months ahead.  Healthy consumer balance sheets, a strong job market, inflation in-line with Fed targets, and the continued tail winds from improved tax and regulatory policy, all reinforce our belief that the economy is on very solid ground. 

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Posted on Wednesday, June 12, 2019 @ 12:27 PM • Post Link Share: 
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  The Producer Price Index Increased 0.1% in May
Posted Under: Data Watch • Inflation • PPI


Implications:  Hold off on the details of the today's PPI report for a moment and let's talk about what today's report should mean to the Fed.   Producer prices are up 1.8% in the past year (very near the Fed's 2% inflation target) and are up at a faster 3.5% annualized rate in the past three months.  "Core" prices - which strip out the ever-volatile food and energy components and are a better measure of trend inflation - are up 2.3% in the past year, above the Fed's target.  And when you add in the 3.6% unemployment rate and average job gains of 196,000 a month over the past year, there is no reason for the Fed to cut rates.  That's not to say some dovish Fed members won't alter down their forecasts for rates through 2019 and into 2020, but the data, if anything, suggests higher rates would be the more appropriate path based on economic fundamentals alone.  Fed rant over, now to the details of today's PPI report.  Following a 0.6% surge in March and 0.2% increase in April, producer prices continued to rise in May, up 0.1%.   But unlike the prior two months, where higher energy costs led the way, May's rise came despite a 1.0% drop in energy prices.  Striping out food and energy shows core prices rose 0.2% in May, led by prices for services.  As noted above, core prices have been rising faster than the Fed's 2% inflation target, and we should note that core prices have now exceeded the 2% target for twenty-two consecutive months.  Within core prices, prices for services less trade, transportation, and warehousing (so think costs for things like health care, lodging, and banking) rose 0.5% in May, with guestroom rental prices in particular jumping 10.1% on the month.  It's also notable that private capital equipment prices are up 2.6% in the past year, the fastest year-over-year growth of any major category, signaling continued demand for business investment.  Given these readings, we think many investors are severely mistaken in their belief that the Fed's path should be lower in the months ahead. The actual data – for employment, wages, inflation, and GDP growth – are not flashing signals of tight monetary policy. 

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Posted on Tuesday, June 11, 2019 @ 11:28 AM • Post Link Share: 
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  No Need for Rate Cuts
Posted Under: Employment • Government • Markets • Monday Morning Outlook • Productivity • Trade • Fed Reserve • Stocks

At the Friday close the market consensus was that the Federal Reserve would cut short-term interest rates by 50 - 75 basis points in 2019, with another 25 basis point cut in 2020.  We think this is nuts.

The US economy doesn't need rate cuts.  At present, we are projecting that real GDP is growing at about a 1.5% pace in the second quarter.  That's slower than the recent trend but largely held down by a return to a more normal pace of inventory accumulation, which is a temporary phenomenon.  Excluding inventories, real GDP is growing at a 2.5 – 3.0% annual rate.     

Some analysts and investors are worried about the relatively slow pace of payroll growth in May, which came in at 75,000.  But there's nothing awful about this pace of job creation.  The bond market is convinced this means rate cuts are necessary to avert a recession; but the stock market has surged, suggesting it's not worried about growth.

Since the business-cycle peak in 2001, the labor force has grown 0.7% per year.  At that trend, we need about 90,000 jobs per month to keep the unemployment rate steady, not far from where we were in May.  So rather than seeing the May payroll gain as a reason to cry, we should instead have seen the prior trend as a reason to celebrate.  In fact, while low unemployment rates may lead to smaller monthly gains in jobs, we're not convinced it will anytime soon.   

Nor does potentially slower job growth mean the economy has to grow more slowly, as well.  Productivity growth has picked up in the past couple of years due to deregulation and lower taxes on corporate profits and investment.  As a result, the economy's growth potential has improved, and a smaller share of growth can come from increasing the number of hours worked.

This weekend brought good news: that the Trump Administration and Mexico reached a deal to avert higher tariffs.  As we explained in last week's MMO, a potential trade war with Mexico on immigration was a legitimate concern and we are very relieved the threat has passed.  We also hope the G20 meeting later this month leads to a trade deal with China.  If so, this news along with better economic data, should propel longer-term Treasury yields significantly higher.   Risk appetites in the financial sector should recover.

As a result, we expect the Fed to "punt" at the June meeting, leaving rates unchanged, although the new "dot plot" will likely show some policymakers projecting rate cuts later this year.  Our view is that better news will cut the rate reductions off at the pass, and the Fed will end up leaving rates unchanged this year.     

Does anyone seriously believe short-term rates at 2.375% are an obstacle to economic growth, that it is preventing some entrepreneur from embarking on some venture or a firm from putting some equipment into place? 

Instead, we think policymakers who are interested in promoting economic growth would be better served by turning the focus toward government spending.  In the background of all the recent news, the long-term fiscal problems embedded into Social Security, Medicare, and Medicaid keep getting worse.

The federal government spent 20.3% of GDP in the four quarters ending in March, far higher than the 17.7% it spent in 2000.  Finding ways to reduce spending now and in the future would boost our growth potential even higher.

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

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Posted on Monday, June 10, 2019 @ 11:22 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, June 10, 2019 @ 8:29 AM • Post Link Share: 
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  Nonfarm Payrolls Rose 75,000 in May
Posted Under: Data Watch • Employment


Implications:  The Fed has no business cutting rates based on today's report on the labor market.  Yes, nonfarm payrolls grew only 75,000 in May, well below consensus expectations.  But that's not far below the roughly 100,000 per month pace needed to keep the unemployment rate steady and is well within the range of normal monthly variation.  In the past year payrolls have risen an average of 196,000 per month despite months like February, when they only grew 56,000, or September, when they only grew 108,000.  Civilian employment, and alternative measure of jobs that includes small-business start-ups increased 113,000 in May.  A transition to a less rapid pace of job growth, consistent with low and steadier unemployment, need not mean a return to slower overall economic growth.  Productivity growth, the growth in output per hour, has accelerated, growing 2.4% in the past year.  Faster productivity growth is how businesses should sustain an expansion in a tight labor market.  It's important to recognize that the details of the employment report were generally stronger than the tepid headline growth in payrolls.  The unemployment remained at 3.6%, which is below where the Federal Reserve thought it would be at the end of 2019 (when they made their last public forecast in March).  The U-6 measure of unemployment, which includes discouraged workers and those working part-time who say they want full-time jobs, fell to 7.1%, the lowest since 2000.  Meanwhile, the median duration of unemployment fell to 9.1 weeks and the share of voluntary job leavers ("quitters") among the unemployed rose to 13.5%.  Both of these are signs of a tight labor market.  Average hourly earnings rose a moderate 0.2% in May, versus a consensus expected 0.3%.  However, it's important note that average hourly earnings are up 3.1% from a year ago, an acceleration from the 2.9% gain the twelve months ending in May 2018.  In addition, the total number of hours worked rose 0.1% in May and are up 1.5% in the past year.  As a result, total wages are up 4.6% in the past year, signaling growing purchasing power among workers.  We don't think the Fed should or will obsess about the miss on the headline payroll number for May and will not cut rates at the June meeting.  In turn, our base case is that a combination of continued economic growth and improvement in trade negotiations with China and others will let the Fed off the hook, without cutting rates later this year.

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Posted on Friday, June 7, 2019 @ 10:19 AM • Post Link Share: 
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  The Trade Deficit in Goods and Services Came in at $50.8 Billion in April
Posted Under: Data Watch • Trade


Implications: The Trump Administration may like the reduction in the trade deficit in April, but the details of today's report show that the reduction was all due to weakness in trade.  Exports posted the largest monthly decline in over four years, falling 2.2%, due largely to a decline in civilian aircraft shipments that probably has something to do with the issues surrounding Boeing's 737 Max 8.  Imports also declined 2.2% due to semiconductors and passenger cars.  As a result, the total volume of trade (imports plus exports), which signals how much businesses and consumers interact across the US border, had the largest monthly decline since 2015.  That said, total trade is only 2.6% below the record high set in October of 2018, a far cry from what you would see if a "trade war" was really ravaging the economy.  Look for total trade to hit new highs later this year as global growth starts to reaccelerate and trade deals eventually get made.  There is a lot of angst out there from the pouting pundits that the China trade battle is nowhere near done.  We believe the worst-case-scenarios much discussed by the financial press will prove excessively pessimistic, as they have before.  We still don't believe an all-out trade war will materialize, but instead that these short-term skirmishes will lead to longer-term gains for the countries involved.  All eyes will now be on Presidents Trump and Xi meeting later this month at the G20 summit for signs of progress in negotiations.  Turning to the southern border, the recent announcement of tariffs on Mexico are potentially more worrisome due to the uncertainty that using these tactics outside of trade policy would create, as we pointed out in this week's MMO.  We will continue to watch trade policy as it develops, but don't see any reason to sound alarm bells yet.  In other news this morning, productivity growth was revised down slightly in Q1 to a 3.4% annual rate from a previous reading of 3.6%.  Productivity (which measures output per hour) is up 2.4% in the past year, the fastest pace since 2010.  It looks like deregulation and the incentives for efficiency and capital investment built into the 2017 tax cuts are starting to take hold, boosting potential growth.   In employment news this morning, initial jobless claims rose 3,000 last week to 218,000.  Continuing claims rose 20,000 to 1.682 million.  These readings suggest another solid month of job creation in May.  We are forecasting a payroll gain of 155,000 for tomorrow's Labor Department report.

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Posted on Thursday, June 6, 2019 @ 11:20 AM • Post Link Share: 
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  The ISM Non-Manufacturing index rose to 56.9 in May
Posted Under: Data Watch • ISM Non-Manufacturing


Implications:  It feels like a tale of two economies. While the manufacturing sector report from the ISM saw a slowdown in the pace of growth in May, the service sector picked up pace.  Sixteen of eighteen sectors reported growth in May, while only one – agriculture, fishing & hunting - reported contraction.  And, if survey respondent comments are any indication, impacts from the China tariff tiff are minor, and primarily related to uncertainty as to what may happen, not impacts from what has/is happening.  Meanwhile a tight labor market remains a factor holding back even faster growth in output, but also means that there are more people working and bringing home paychecks that flow through to improved spending on areas like entertainment and recreation.  The two most forward-looking indices – new orders and business activity – both moved higher in May, and both stand at very healthy levels.  The new orders rose to 58.6 from 58.1 in April, while business activity moved to 61.2 from 59.5, and both indices are just two months away from marking ten consecutive years of expansion.  Add in companies running at or near capacity, and both measures should remain elevated in the coming months.  Companies are investing, but it takes time for new capacity to come online.  Shortages are impacting prices too, which continued to rise in May.  Paying up for qualified labor (most notably in construction) continues to be a dominant theme, while fuel and dairy costs also contributed to higher prices in May.  Despite the labor shortage, the employment index jumped to 58.1 in May from 53.7. Pairing this with other recent data on the jobs front, including the ADP employment report out this morning that showed private payroll gains of 27,000 in May, and we are currently forecasting that nonfarm payrolls rose by around 155,000 in May.  That's a slowdown from the 263,000 jobs added in April, but healthy growth nonetheless. In recent news on the auto sector, cars and light trucks sold at a 17.3 million annual rate in May, easily beating the consensus expected pace of 16.9 million.  Sales were up 5.9% from April and 0.7% from a year ago.  We expect auto sales to moderate in the years ahead as consumers shift their spending to other sectors.

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Posted on Wednesday, June 5, 2019 @ 12:25 PM • Post Link Share: 
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  The ISM Manufacturing Index Declined to 52.1 in May
Posted Under: Data Watch • ISM


Implications:  Today's ISM report, if taken at face value, shows that growth continues in the manufacturing sector, although at a slower rate.  Eleven of eighteen industries reported growth in May, while trade disputes with China and a tight labor market peppered comments from survey respondents.  Given the prominence of the trade dispute with China in recent weeks, we think negative sentiment helped push down the ISM reading, that being said, manufacturing has definitely slowed from the faster pace of growth seen 2018.  A look at the details of today's report shows that, while growth in production slowed in May, the pace of new orders rose, a positive signal for the months ahead.  Sure, we would prefer to see a rising pace of growth in both two categories, but the May slowdown isn't cause to sound alarm bells.  And remember, the ISM manufacturing index has now shown expansionary readings for 33 consecutive months – that's nearly three straight years of constant growth.  There will be ebbs and flows along the way, that is perfectly normal.   What matters most is that the economic fundamentals remain in place for growth into the future.  On the labor front, the employment index rose to 53.7 from 52.4 in April.  And growth would be faster, but companies continue to report difficulty in sourcing qualified labor as well as retaining existing employees.  Adding today's reading to the myriad of other data on the employment market, we are currently forecasting manufacturing job growth of around 4,000 in May (which would match the gain reported in April).  If this forecast holds true, that would put manufacturing employment growth at a healthy 187,000 jobs in the past year.  Finally, on the inflation front, the prices paid index rose to 53.2 in May, led by electronic components and dairy products.  The pouting pundits will almost certainly cling to today's report as a sign of the economic weakness they have been forecasting for months (and for many, years).  From our reading - pairing today's data with other readings on the economy - there is no sign of a "looming recession."  We expect the manufacturing sector (and the economy) to continue higher in the months ahead. In other news this morning, construction spending was flat in April, but up 1.2% including revisions to prior months.  A rise in government work on highways and streets was offset by declines in private projects for manufacturing and commercial buildings. 

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Posted on Monday, June 3, 2019 @ 12:28 PM • Post Link Share: 
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