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Simply Economics

Inflation, new kid on the block
Simply Economics - February 17, 2017
By Mark Pender, Senior Editor



Strong economic reports stampeded through a busy week that was led by a 0.6 percent jump in consumer prices, the biggest one-month inflation punch in nearly 4 years. Economic strength, once pinned down by lack of inflation, may now be shifting higher. And that's only one of the bits from this week's run of data.


The economy

The fact that the consumer price index is making a breakout isn't surprising, it's the size of the breakout that is. The CPI, which is the blue line in the accompanying graph, was 2.5 percent higher in January this year compared with January last year. This is the highest rate and the sharpest acceleration in inflation since early in the economic cycle, back in 2011. The green line is the Federal Reserve's target measure for policy, the personal consumption expenditure price index which, despite its amped-up methodology, moves along in precisely the same way as the CPI.


This burst of inflation isn't coming from wages, of course, nor really from goods and services where most price trends remain stubbornly flat. It's related to OPEC whose pact late last year to cut output has driven oil 10 percent higher to $53 at last look. Changes in oil quickly affect inputs at the producer level where the last time we saw this much of a price jump was in early 2011. As seen on the left side of the graph, this made for a pivot higher in total producer prices. The current upswing marks the reversal of the oil collapse that began pulling down producer prices in early 2015.


Retail sales are making a breakout of their own. January did its share, proving solid enough although the month is a slow one on the retail calendar. It's an upward revision to what was already a strong December that's the news, now at a 1.0 percent surge. This goes in the books as the best December since 2004. Retail sales have now posted five straight monthly gains in a streak that was last matched 3 years ago, back in early 2014. Yet there are question marks as December sales weren't driven by new clothes or electronics or furnishings or other traditional gifts, but by vehicles and gasoline.


Dollar sales at gasoline stations are finally coming out of a long slump that began in mid-2014 when oil started its 6-month march from $100 to $30. But the tables are now turned and rising prices are making for double-digit monthly sales gains and a greater gasoline contribution to total sales. Now when excluding gasoline, a bit of the punch comes out of the numbers: a 5.6 percent year-on-year overall increase comes down to an ex-gas 4.9 percent.


Some of the numbers coming out recently, like the CPI or various confidence readings for instance, are sending unusual signals. The Philadelphia Fed's general conditions index, coming into the latest report, was already the strongest of all advance indicators, and by far. Then the impossible happened. The index spiked beyond what was conceivable. Yet the headline, and what it measures, is a subject of contention. So let's not bother with it at all and turn to an unquestionably tangible reading -- the new orders index which jumped 12 points to a 38 level that was last matched (and I'm going through 49 years of history to find this) way way back in December 1987. The positive direction, though far less extreme, is being confirmed by new orders in the Empire State report as seen in the graph.


Yet regional reports offer only advance signals in contrast to definitive reports out of Washington which are still not showing much strength at all for the factory sector. The manufacturing component of the industrial production report continues to just sit there, up a monthly 0.2 percent in January which makes for a gain of only 0.3 percent from January last year. You have to magnify things to see any movement at all in this report, between for instance business equipment output, where the trend improved fractionally last year, and consumer goods output which really didn't move anywhere. But graphs like these will hopefully all be old news if the promises of the Philly Fed come true.


Unlike the factory sector, housing doesn't have to make up for a bad year. Last year was a good one for new homes with new units coming into the market at a faster rate. Completions of single-family homes, at an annualized 800,000 rate in January, are up 16 percent from a year ago which puts it right at the top of any economic measure. Permits accelerated sharply through the second half of last year and at an 808,000 single-family rate, are up 11 percent from last year. New supply should further fire up the housing market where price appreciation, in the mid-single digits, is also at top of the heap.


Markets: Boom talk

Building talk of tax cuts are feeding the stock market where new records are the new norm. The Dow posted gains each day of the week to end at a record 20,624. When money moves into the stock market it often comes at the expense of the bond market, but not this week. The day-to-day gains in the polls for Le Pen's National Front in France, now at 40 percent, are a reminder of the build-up to Brexit not to mention the November election and may be improving the attraction of U.S. Treasuries. And not hurting the attraction of Treasuries was the week's congressional testimony from Janet Yellen who gave a thumbs down to selling the Fed's bond holdings. Instead, Yellen wants to manage policy through rate hikes alone. Yields held steady in the week as did the dollar.


Markets at a Glance Year-End Week Ended Week Ended Year-To-Date Weekly
2016 10-Feb-17 17-Feb-17 Change Change
DJIA 19,762.60 20,269.37 20,624.05 4.4% 1.7%
S&P 500 2,238.83 2,316.10 2,351.16 5.0% 1.5%
Nasdaq Composite 5,383.12 5,734.13 5,838.58 8.5% 1.8%
Crude Oil, WTI ($/barrel) $53.71 $53.80 $53.38 -0.6% -0.8%
Gold (COMEX) ($/ounce) $1,152.50 $1,234.90 $1,236.60 7.3% 0.1%
Fed Funds Target 0.50 to 0.75% 0.50 to 0.75% 0.50 to 0.75% 0 bp 0 bp
2-Year Treasury Yield 1.21% 1.20% 1.20% –1 bp 0 bp
10-Year Treasury Yield 2.45% 2.41% 2.42% –3 bp 1 bp
Dollar Index 102.26 100.76 100.92 -1.3% 0.2%


The bottom line

Inflation is now here, secured by the strength in oil prices. And we've arrived without much wage inflation at all which is still waiting to kick in. How long it takes before the Fed's PCE target sweeps over 2 percent will be a curiosity definitely worth watching.


Week of February 20 to February 24

The holiday-shortened week opens on Tuesday with the PMI manufacturing flash and whether this national report will confirm the enormous strength being signaled by the Philadelphia Fed index. Existing home sales, which have been struggling, open Wednesday's calendar and a solid gain is expected. Later Wednesday the Fed will post the minutes of their last FOMC meeting with special attention to be focused on the internal balance-sheet debate. Thursday's jobless claims will get close scrutiny as the reporting week is also the sample week of the monthly employment report. More housing data are in store with the FHFA prices on Thursday and new home sales on Friday both of which, like existing homes sales, are expected to point to strength. The week winds up with the final consumer sentiment score for February, one that dipped back noticeably in early February.




Existing Home Sales for December

Consensus Forecast, Annualized Rate: 5.575 million

Consensus Range: 5.450 to 5.630 million


Amid unusually low supply in the market, existing home sales have continued to struggle, trending only modestly higher. But the advance indication on this report (pending home sales) rose sharply and forecasters see a strong gain in January to a 5.575 million rate, up 1.5 percent from Decembers 5.490 million.


FOMC Minutes

Covering the January 1 & February 2 Meeting


The January FOMC meeting produced no change in policy rates but did confirm expectations for up to three rate hikes this year. Inflation was given an upgrade with policy makers agreeing that it would meet the Fed's 2 percent target. Otherwise, the economy continued to be described as moderate. The statement offered no updates on plans to unwind the Fed's $4.5 trillion balance sheet though the minutes could add details.




Initial Jobless Claims for February 18 week

Consensus Forecast: 244,000

Consensus Range: 240,000 to 250,000


Initial jobless claims have posted back-to-back readings in the 230,000s, a rare indication of strength in the labor market. The February 18 week matches the sample week of the February employment report and forecasters are calling for substantial strength, at 244,000 and little changed from 239,000 in the prior week.


FHFA House Price Index for December

Consensus Forecast: 0.4%

Consensus Range: 0.4% to 0.5%


Another solid gain is the call for the FHFA house price index where the consensus is calling for a 0.4 percent December gain, down only 1 tenth from November's strong 0.5 percent increase. Year-on-year, this index has been running just above the 6 percent line in one of the best price performances of any measure.




New Home Sales for January

Consensus Forecast, Annualized Rate: 576,000

Consensus Range:  538,000 to 600,000


Month-to-month readings in new home sales are difficult to interpret because of the extreme volatility of this series. When smoothed out, however, sales have lost a little steam after a strong first half in 2016. The consensus for 2017's opening report calls for a big bounce to a 576,000 annualized rate in January, up 7.5 percent vs December's very soft 536,000.


Consumer Sentiment Index, Final February

Consensus Forecast: 96.0

Consensus Range: 95.7 to 98.0


Consumer sentiment flattened out in the preliminary February reading, down nearly 3 points to 95.7 and signaling a possible end to the post-election confidence surge. Forecasters see a small 3 tenths bounce higher for the final February index to 96.0. The report is noting extreme polarization in its sample, between Republicans whose index is near record highs and Democrats whose index is near record lows.


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