Big GDP and PCE data in week ahead:

We will get the first estimate of the GDP for the first quarter.

Growth could come in ~ 2.5%, with many bracing for an upside surprise given the @AtlantaFed GDP nowcast running at 2.9%:

-Consumers remained defiant, posting solid if not spectacular gains after accelerating in the second half of 2023.
-Business investment likely picked up, aided by investment in chip plants, new tech and intellectual property.
-Residential investment picked up after a soft fourth quarter, aided by temporary drop in mortgage rates. Single family home builders continue to move downscale to tap pent up millennial demand. Higher rates could crimp second quarter gains. Multifamily construction hit hardest.
-Inventories were rebuilt after drawdown in fourth quarter.
-Federal gov’t spending was constrained by the continuing resolution. State & local (lion’s share) held up better.
-BIGGEST NEGATIVE => Trade deficit widened as U.S. outperformed major trading partners. The PCE inflation index by our estimate is expected to rise less than the overall consensus due to weight for food.

Action is in the core and super core services.

-Core up 0.3% in Mar, same as Feb. That translates to a slight tick down on Y/Y to 2.7% but the 3M annualized accelerates a bit 6M cools slightly but still too hot.
-Super core 0.2% in Mar, same as Feb. That translates to 3.2% Y/Y from 3.3% last month. 3M annualized cools slightly along w/6M but both still too hot for Fed.

One of the difficult aspects of inflation has been the game of wack a mole.

Prices have generally trended down until recently.

Much of the improvement we have seen has been aided but not due entirely to a healing of supply chains that got scrambled in the wake… …of reopening. The Federal Reserve welcomed those shifts as they helped to take the steam off inflation in a fairly dramatic way in 2023.

Overall inflation measures slipped below the pace of wage increase and some started to regain purchasing power lost to inflation.

After reading a lot of “hot takes” on inflation, I realized a few things are worth underscoring.

A Top 10 List

1) The Fed made no commitment to cut rates at today’s meeting; they just didn’t change expectations that rate cuts are likely this year.

2) The median forecast is for three cuts BUT the number of people expecting to cut two or less rose. 3) The Fed is managing risks. It is balancing the risk of cutting rates prematurely and
triggering a more persistent bout of inflation against the risk of holding rates too high for too long and causing an unnecessary recession. Policy shifts take time to play out, and can be nonlinear in their impact.

4) @federalreserve Chair Powell said every meeting is live. Nothing is set in stone in terms of the course of policy.

Inflation, uncertainty and the Federal Reserve. I spend a lot of time looking at inflation both with my team, a diverse set of economists and anyone & everyone I talk to professionally & personally in every walk of life.

The data on the economy are but a flashlight on a path in what is becoming an increasingly dense forest. The pandemic shifted and accelerated cyclical and structural in nature. Those triggered a massive collision between demand and supply, which proved combustible.

One of the most interesting areas of inflation that illustrates the complexity of the forces at work, is the massive run-up in insurance costs.

Payroll employment came in at 275,000 jobs in February, after a downwardly revised 229,000 in January. The three-month and six-month moving averages moved up in recent months, after slowing during work stoppages due to strikes over the summer and into the early Fall of 2023. (E.g., The downward revisions to January did not shift the narrative that payroll employment looks like it is picking up again.) Gains were dominated by the big 3 - healthcare and social services, leisure & hospitality and state and local government hires, outside of education. All three have room to run. Healthcare and social services are chasing a moving target due to aging demographics and the drop in quit rates; more workers are utilizing their benefits than when churn was skyrocketing.

Big week for data: CPI and retail sales come out, while we get more Fed speakers talking about the outlook and the patience surrounding rate cuts.

The CPI is expected to further cool on the heels of lower prices at the gas pump and a moderation in food inflation. Dairy products actually dropped from a year ago last month. Milk prices are second to prices at the gas pump when it comes to shaping people’s inflation expectations. Overall inflation as measured by the CPI is expected to slip below 3% in January, its lowest annual pace since March 2021, which marked the onset of the pandemic-induced inflation, although the pace of inflation was still close to 2% than 3% back then.

Have two straight weeks of meetings with economist and policy experts across countries. Taking a breather after my first week of meetings. Here is some issues that bubbled to the top.

1) Is the US economy really as good as it appears - what can and can’t be trusted in our economic models?

Households debt: consumer’s demised has been greatly exaggerated. Be careful with extrapolating household debt & delinquency data. Record delinquencies every month for subprime vehicle borrowers last year did not equate to defaults or a vicious cycle for lenders and borrowers. Why? Most who went delinquent kept their jobs and were able to service debt and avoid a default, while access to credit for lowest credit score borrowers dried up.

Wealth effects in stock market are more disperse, with record 58% of households owning stock according to Federal Reserve in 2022 vs 53% in 2019.

However, much more housing market wealth has gone to baby boomers who are aging in place. That is a big issue for younger millennials who are now need help of parents to achieve home ownership more than previous generations.

Moral of story: We are not like to see the consumer collapse short of a jump in unemployment. 2) How well are margins in private companies holding up relative to public companies? How big of a paywall or cliff will we hit in private sector debt as it resets at higher rates than earlier in the cycle. Not a lot of transparency here. Public corporate debt has longer maturities and not facing as many hurdles.

Today’s PCE data confirmed the good news we saw in yesterday’s GDP report on consumer spending and inflation.

Core PCE (excluding food and energy) and is the best predictor of inflation rose 0.2% but dipped to 2.9% from a year ago in December. That is below the threshold that the Fed said they needed to see consistently to cut rates. The three and six-month annualized pace hit 2% in the second half of 2024. Gains in services inflation were tempered by another decline in goods inflation. The Fed is weighing whether the good news on goods inflation can continue. Core services inflation ticked up in December but still looked well behaved. Insurance premiums are one of the areas that are becoming a problem. Hence, the need to continue to see improvements elsewhere.

What is the Federal Reserve doing and what is it trying to accomplish.

The statement and the press conference following the December meeting were much more dovish than many expected and ignited a massive rally in stock and equity prices.

First, the Fed had to know that their statement, which highlighted that we might not need “any” additional rate hikes and that “inflation has eased over the last year,” would trigger a rally. Fed Chair Jay Powell did not push back on that view when at the press conference following the statement. Instead he revealed pivot in his thinking and many (albeit not all) within the Fed. He said ..”we are aware of the risk of hanging on too long…and we are very focused on not making that mistake.”

That statement, coupled with an earlier statement that stronger that potential growth was “not itself a problem” represent a 180 degree shift from the risks the Fed felt it faced in 2022.

The Federal Reserve enters an uncomfortable holding pattern this week. Many on the Fed have been stunned and pleasantly surprised by how rapidly inflation cooled. We have seen the fastest deceleration in inflation outside of three major episodes - post WW-II, the Korean War and the Volcker recessions of the early 1980s. That is amazing news. The debate is whether the trajectory on inflation will remain as rapid as it has been as we move into 2023. The Fed has to weigh several issues.

1) Is there a risk that improvements in inflation could stall - it has happened in the past, especially in an economy where supply shocks are more frequent.
2) When do we move from higher for too long to higher for long enough? The U.S. economy has been remarkably resilient in the wake of rate hikes. However, the way rate hikes work their way through the economy is nonlinear - they don’t matter until they do.

The holidays are upon us. Some thoughts on consumer spending and how the holiday season is likely to play out.

We have yet to feel the full effects of earlier rate hikes and even though mortgage rates have receded from their peak, housing is still unaffordable and contingent on builders moving down on the size of homes they build and offering mortgage rate discounts to unleash the pent-up demand of first-time buyers. Millennials are aging into their prime home buying years with the worst affordability since the mid-1980s. That is one of many reasons consumers are not optimistic, even when they report they are confident in their own jobs.

The level of prices and an inability to achieve what previous generations did, with more education, is a large issue.

The University of Michigan is only one measure of consumer attitudes but captures an important shift we have seen more broadly.

It hit an all-time peak in January 2000 at 112. The index is based on December 1964 = 100, data goes back to 1940s. This was at the tail end of the bubble and after surving the threat of Y2K. It also followed nealry two decades of decelerating inflation. For a brief period, and this is important, tight labor markets delivered a boost labor share of incomes. In first half Nov 2023, consumer sentiment fell to 60.4, nearly half its all time peak and lowest level since Spring. Expectations about future worse than present but the level of sentiment has hovered closer to the lows of the Great Recession than the boom of the 1990s, or last recovery. This is despite the most robust hiring frenzy we have ever seen.

Inflation and the level of prices clearly play a role but going back to the 1970s, those shifts can’t explain sour moods we are seeing.

CPI inflation was unchanged on a month-to-month basis in Oct and slowing on a year-over-year basis to a 3.2% rate. That marks the first deceleration on a year-over year basis since June. The slowdown in the annual pace of inflation in June 2023 was skewed by the peak in inflation we experienced in June 2022.

A gain in food prices was more than offset by a sharp drop in energy prices. Prices at the gas pump alone plummeted 5% during the month, starting to reverse the gains we have seen since June. Within food prices, droughts over the summer thinned herds of cattle and pushed meat prices to a record high. Streak and dairy products both increased rapidly. Pork prices also accelerates. Other prices moderated. Chicken has overtaken other proteins according to USDA.

Dyslexia

We live in a world full of labels, some describe our passions, some how we see ourselves, some how others see us. It is all about perception which can differ greatly from reality, especially in a world where perceptions are often twisted through a filter of judgment and emotion. It is in that distortion and exhaustion of dealing with the names that label my every day that I describe what it is like to be one of those labels - a dyslexic. I have spent a lot of time over the years attempting to step into my skin and help dispel the myths around this particular learning difference - see even that is a distortion, a label I have embraced. I call what others call a disability, a difference.

Uncertainty over the threat of a government shutdown, downgrades to the quality of our government debt, the Fed’s pledge to hold rates even higher for longer all amidst reductions in the Fed’s bloated balance sheet had already taken a toll on financial markets of late via a boost to bond yields and mortgage rates. Those shifts were beginning to show up in the housing market - today’s data on mortgage applications reveals that they dropped to their lowest level since 1996 last week and that was before rates flirted with 8% this week. Lending in commercial real estate is also tightening as earlier rate hikes work their way through the economy, largely through the banking system.

Fed week awaits. Look for the Federal Open Market Committee to pause again as they close in on their peak rate. The irony is the more hawkish their stance is on the pause, w the option to raise again if necessary, the more the bond market will do the heavy lifting for the Fed. The less they have to do in terms of additional rate hikes. We differ from academic economist, which according to a survey by @FT and @ChicagoBooth suggests more rate hikes are needed. Any way you cut the forecast we are at or near a peak in short-tern rates. The messaging will emphasize the higher for longer mantra we are hearing from other central banks.

UAW strike watch is underway. No deal and targeted strikes at midnight. Targeted strikes limit the number of strikers who have to accept strike pay - $500 per week - while enabling any workers that are furloughed by the strikes but not striking to apply for unemployment benefits The targeted approach was most effectively used in 1990s against GM. The UAW struck only one major plant, which quickly spread across the entire company. Back then, they still had pay during furloughs. That disappeared during the restructuring of industry wake of 2008-09 crisis

Research from the ⁦@ChicagoFed⁩

“…the policy tightening that’s already been done is sufficient to bring inflation back near the Fed’s target by the middle of 2024 while avoiding a recession.” chicagofed.org/publications/c… The research not only shows that current rate hikes are enough - our forecast - but also suggest that the Fed may be able to cut rate sooner than the current consensus suggests if in fact they are planning to cut prior to achieving their 2% goal.

Stunning data to date in 2023 reveals the U.S. a bit of an oasis in a global economy that appears to be slowing on many fronts. Much of Europe, which bore the brunt of the spillover effects of the war in Ukraine and recent signs of weakness in China, has slipped into or is teetering on edge of recession. The UK is struggling with the consequences of the war and Brexit. Canada is slowing but still afloat. Mexico has come out a winner from friend-shoring and trade tensions with China. That puts @federalreserve Chairman Powell in a unique but difficult position as he preps for his keynote on Friday in Jackson Hole. He has to balance the good news in the progress we have made on lowering inflation with the risk that the growth we are seeing could reignite the cooling embers of inflation.

Spending outpaced incomes as consumers dipped into their savings and took on more debt in June.

PCE inflation cooled to a 3% pace on a year over year basis. Last year was the high water mark for overall inflation.

Core PCE, which is a predictor of future inflation, slowed to… twitter.com/i/web/status/1… Core services inflation, which had proven the most sticky, cooled to a 4.1% y/y pace in June from 4.5% pace in May.

More importantly, the quarterly annualized pace of core services inflation, which is a much better measure of momentum than y/y measures, slowed to 3.7% in the… twitter.com/i/web/status/1…

Stunning 497k surge in payroll gains in ADP report.

Gains dominated by front facing consumer services jobs, with nearly half in leisure hospitality - travel has surged, especially travel abroad.

Wages growth slowed and the premium for switching jobs narrowed; both still… twitter.com/i/web/status/1… Wages were up 6.4% from a year ago. Job switchers saw double-digit gains but job switchers are no longer getting double the wage gains of job stayers. That should show up as a further slowdown in churn in the JOLTS survey for May & June. The annual increase to job hopers was the… twitter.com/i/web/status/1…