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Wage growth nowhere but consumers on a spending spree
Simply Economics - December 15, 2017
By Mark Pender, Senior Editor



The economy looks to be finishing off 2017 in very strong fashion, led by a consumer who is spending more but not, however, earning more. Lack of wage growth is one of the week's themes, evoked by another soft consumer price report and underscored by Janet Yellen herself who cited it as one of enigmas of her tenure as Federal Reserve chair. But it's definitely optimism and consumer-led acceleration that are the week's most immediate takeaways.


The economy

The consumer is in gear for the holidays as a very strong retail sales report points to a solid fourth-quarter contribution from consumer spending. Retail sales rose a sharp 0.8 percent in November which was well beyond the consensus and 3 tenths over Econoday's high estimate. The data included upward revisions to October which now stands at a 0.5 percent gain and also September where the month's 2.0 percent gain is the strongest since March 2010. November's standout is a 2.5 percent jump in nonstore sales, pointing to unusual strength for e-commerce which makes up about 90 percent of the nonstore component. Electronics & appliances are high ticket items and they appear to be early holiday favorites with these stores reporting a 2.1 percent jump on top of a 1.2 percent rise in October. Price discounting for apparel hasn't been holding down totals for clothing stores where sales rose 0.7 percent for a second straight month. Restaurants had been soft in prior months but also rose 0.7 percent in confirmation of discretionary confidence. November points convincingly to a rebound for consumer spending which rose at only a 2.3 percent inflation-adjusted annualized rate in the third quarter and, despite September's retail jump, was the third weakest showing in four years.


What is driving this spending? Certainly confidence in the economic outlook is an important factor as are high levels of employment. Hiring as tracked in the Labor Department's JOLTS report and the red line of the graph jumped to 5.552 million in October for a 4.4 percent monthly surge and a new expansion high. And, in what offers strong justification for the economic confidence, there are still plenty of jobs to be filled, at 5.996 million as tracked in the blue columns of the graph. For comparison, there were 6.520 million Americans actively looking for work back in October meaning that there is nearly 1 job available for every single person out of work. Yet openings have been ahead of hires for the last two years as employers have had a difficult time filling positions in what underscores recent warnings out of the Federal Reserve's Beige Book: skilled workers are in short supply which is holding down business expansion.


This lack of skilled workers is very likely a key factor behind the expansion's central anomaly, that high levels of employment have not led to meaningful wage improvement. Real average hourly earnings, data that are adjusted for inflation and were released with the week's consumer price report, have been very weak, falling to negligible year-on-year growth of only 0.2 percent in both October and November. And this lack of inflation-adjusted growth comes surprisingly at a time when inflation is weak. Should inflation for goods and services finally begin to pick up at the same time that wages stay flat, real average hourly earnings could easily turn negative in an unwanted outcome that was last seen coming out of the Great Recession. However much holiday spending is getting a lift from total employment and low prices, it's not getting a lift from higher pay.


Janet Yellen said her chief regret as chair is the stubborn weakness of inflation which has been unable to make a meaningful run at the Fed's 2 percent policy goal. November's consumer price report was just another disappointment with the core reading, as tracked in the dark blue line, slipping 1 tenth to 1.7 percent. Apparel and once again medical care and housing all dragged on inflation in November. The core in fact has been going in the wrong direction all year and has been under 1.8 percent for six out of the last seven months. Yes, prices for cell phone services were very weak early in the year but they have since been on an extended rebound and, in any case, they make up only a tiny fraction of total prices, at only 1.5 percent. The core results point squarely at a November reversal for the Fed's central inflation measure, the core PCE price index which, as tracked in light blue, hasn't been able to hold even the 1.5 percent line.


There was another down note in the week and this came from the sector where anecdotal reports have been making headlines all year. Manufacturing in the Federal Reserve's industrial production report rose a very modest 0.2 percent in November which was 1 tenth below Econoday's already subdued consensus. Vehicle production eased in November to only a 0.1 percent increase with selected hi-tech also slowing but to a still useful 0.3 percent gain. Production of business equipment was solid at 0.5 percent with construction supplies at 0.6 percent. Weakness was once again centered in consumer goods where volumes fell 0.4 percent to underscore the nation's lack of competitiveness in this very significant and very large category. One notable positive in the report was an upward revision to total manufacturing in October which now stands at a very outsized 1.4 percent, an isolated gain however that reflects hurricane effects. The graph compares the blue columns of the Fed's measure, which is comprehensive in scope, with the green line of ISM's manufacturing report which is based on small samples measuring in the low hundreds. Both measure month-to-month change in volume terms with 51, according to the Bureau of Economic Analysis, ISM's breakeven number for production. What's most important on how to read the ISM isn't that it has been at a much higher rate of change but that it has accurately predicted the path of change in the very simplest terms, that is higher.


A run down of the week's news wouldn't be complete without turning to the FOMC's 7 to 2 vote to lift its federal funds target by 25 basis points, to a 1.25 to 1.50 percent range centered at 1.375 percent. The FOMC continues to expect that the labor market will remain strong and that the economy will continue to rise. Growth in household spending (and this was before the release of the retail sales report) was once again described as moderate and most of the 16 FOMC members still expect inflation to move higher and stabilize around 2 percent. But the two votes against the hike do underscore skepticism that high levels of employment will actually lead to wage-push inflation. Yellen, in what was her last Fed press conference, cited the softness in wages and conceded that inflation is on a frustratingly low path. She said it could take a "longer period of a very strong labor market" before inflation finally does gain traction. Though the nation's 4.1 percent unemployment rate is already 1/2 point below the Fed's own long-term projections, she would not describe the economy as being at full employment, rather only in the "vicinity" of full employment. Asked whether the Fed may have to rethink its assumptions on employment and inflation, she said it is "conceivable" that unemployment will have to come down even more before full employment is reached. She also repeatedly noted that one factor behind the lack of wage gains and lack of inflation in general is the workforce's low rate of productivity growth. Fed Governor Jerome Powell has been designated to succeed Yellen.


Markets: Santa Claus coming at full speed

Year-end rallies are always the expectation and 2017's version, driven especially by rising expectations for a big corporate tax cut, is very strong. The Dow has been posting a series of record closes and ended the week with a 1.3 percent gain to 24,651. But there's been another pattern in the market and that's the flattening of the yield curve which got even flatter in the week as the 2-year yield, reflecting falling demand, rose 4 basis points to 1.84 percent and the 10-year, reflecting rising demand, fell 3 points to 2.35 percent. The closer these two yields approach each other, the more talk will rise that recession may be in store. Yellen in her press conference noted that there is much discussion underway in the Fed about the slope of the yield curve and that comparatively low long rates reflect a low term-premium for future inflation risk. This suggests that investors, despite the strength of the labor market, don't see wages gaining traction anytime soon.


Markets at a Glance Year-End Week Ended Week Ended Year-To-Date Weekly
2016 8-Dec-17 15-Dec-17 Change Change
DJIA 19,762.60 24,329.16 24,651.74 24.7% 1.3%
S&P 500 2,238.83 2,651.50 2,675.81 19.5% 0.9%
Nasdaq Composite 5,383.12 6,840.08 6,936.58 28.9% 1.4%
Crude Oil, WTI ($/barrel) $53.71 $57.35 $57.28 6.6% -0.1%
Gold (COMEX) ($/ounce) $1,152.50 $1,250.40 $1,259.10 9.2% 0.7%
Fed Funds Target 0.50 to 0.75% 1.00 to 1.25% 1.25 to 1.50% 75 bp 25 bp
2-Year Treasury Yield 1.21% 1.80% 1.84% 63 bp 4 bp
10-Year Treasury Yield 2.45% 2.38% 2.35% –10 bp –3 bp
Dollar Index 102.26 93.9 93.93 -8.1% 0.0%


The bottom line

For GDP to ramp higher two things will be paramount: exports have to begin rising faster than imports and consumer spending will have to prove consistently strong. The first of these two isn't yet taking shape but the latter is, at least it appears to be for the holidays.


Week of December 18 to December 22

The clinching of tax cuts will be front and center but it will also be a telling week for the fourth-quarter economy. Data will include a full run down of the housing sector and whether it can extend its emerging momentum, starting Monday with the housing market index from the nation's home builders followed on Tuesday by housing starts and permits. Existing home sales will be Wednesday's highlight followed on Friday by new home sales. Friday will also see the release of two other central indicators on the economy: durable goods orders for the latest on the factory sector and personal income & outlays for updates on both the health of the consumer and, very importantly, the pace of inflation. There's strong optimism for durable goods and consumer spending but much less so for core PCE inflation.




Housing Market Index for December

Consensus Forecast: 70

Consensus Range: 69 to 71 


Home builders have been reporting rising confidence going into year end with the housing market index moving 4 points higher in October to 68 followed by a 2 point gain in November to 70 and the best reading since March. Strength in this report has not translated this year to equivalent strength in actual housing data though new home sales have in fact been coming alive in recent months. Forecasters see December's index holding at 70.




Housing Starts for November

Consensus Forecast, Adjusted Annualized Rate: 1.240 million

Consensus Range: 1.191 to 1.290 million


Building Permits

Consensus Forecast: 1.270 million

Consensus Range: 1.250 to 1.310 million


Housing starts and permits had been flat most of the year but they did accelerate sharply in October, up 13.7 percent for starts to a 1.290 million annualized rate and up 7.4 percent for permits to 1.316 million. October's highlights included starts for single-family homes, up 5.3 percent to an 877,000 rate, and permits for multi-family homes which rose 15.9 percent to 466,000. Forecasters see give back in November with the consensus for starts at 1.240 million and permits at 1.270 million.


Current Account Deficit for Third Quarter

Consensus Forecast: -$116.7 billion

Consensus Range: -$119.9 to -$113.5 billion


Benefiting from higher exports and lower imports, the current account deficit is expected to narrow sharply in the third quarter, to $116.7 billion from $123.1 billion in the second quarter. The account deficit relative to GDP has been moderate, at 2.6 percent in the second quarter.




Existing Home Sales for November

Consensus Forecast, Annualized Rate: 5.520 million

Consensus Range: 5.430 to 5.700 million


New home sales have been climbing sharply while existing home sales showed strength of their own in October, up 2.0 percent to a 5.480 million annualized rate. Gains were posted for single-family resales, up 2.1 percent to a 4.870 million rate, and condos, up 1.7 percent to a 610,000 rate. The pending home sales index, which tracks initial signings for resales, jumped strongly in the last report and have forecasters looking for significant strength in this report for November, at a consensus rate of 5.520 million.




Real GDP: 3rd Quarter, 3rd Estimate, Annualized Rate

Consensus Forecast: 3.3%

Consensus Range: 3.1% to 3.4%


Real Consumer Spending, Annualized Rate

Consensus Forecast: 2.3%

Consensus Range: 2.2% to 2.4%


GDP Price Index

Consensus Forecast: 2.1%

Consensus Range: 2.1% to 2.1%


The third estimate for third-quarter GDP is expected to come in at a 3.3 percent annualized rate and unchanged from the second estimate. Consumer spending, also seen unchanged at 2.3 percent, provided some lift but the quarter really depended on an inventory build as well as strength in nonresidential investment and improvement in net exports. The GDP price index is seen unchanged a 2.1 percent rate.


Initial Jobless Claims for December 16 week

Consensus Forecast: 234,000

Consensus Range: 230,000 to 240,000


Initial claims are expected to come in at 234,000 in the December 16 week vs 225,000 in the December 9 week. Claims have been very low and very favorable though Puerto Rico, and the backlog effects of Hurricane Maria, have been inflating the total by several thousand.


Philadelphia Fed Manufacturing Index for December

Consensus Forecast: 21.8

Consensus Range: 17.5 to 25.0 


A little cooling is welcome when it comes to the Philly Fed manufacturing index as it was in November when the headline index slowed slightly to what is still a very strong 22.7. New orders and shipments were both just over 20 in November with unfilled orders building sharply, at 17.0 for a 6.1 point gain. Respondents in this sample have been struggling to keep up with the work as employment, at 22.6 in November, fell 8 points from October's 48-year record. Econoday's consensus for December's headline is 21.8.


National Activity Index for November

Consensus Forecast: 0.20

Consensus Range: 0.05 to 0.40


Upward reversals from hurricane effects gave a big lift to October's national activity index which jumped nearly 1/2 point to 0.65 for a new expansion high. For November, retail sales were strong but industrial production was soft. Econoday's consensus for November is plus 0.20.


FHFA House Price Index for October

Consensus Forecast, Month-to-Month Change: 0.4%

Consensus Range: 0.4% to 0.5%


Home prices have been one of the strongest areas of the 2017 economy though FHFA's house price index did slow in the last report to only 0.3 percent monthly growth for a year-on-year rate of 6.3 percent which is the lowest since January. A little bounce is expected for November where the consensus is calling for a 0.4 percent gain.


Index of Leading Economic Indicators for November

Consensus Forecast, Month-to-Month Change: 0.3%

Consensus Range: 0.0% to 0.4%


Hurricane effects on unemployment claims and the factory workweek made for volatility in the index of leading economic indicators which surged 1.2 percent in October after posting only a 0.1 percent gain in September. Forecasters see the index returning back to steady growth at a consensus of 0.3 percent for December.




Durable Goods Orders for November

Consensus Forecast, Month-to-Month Change: 2.0%

Consensus Range: 1.3% to 3.5%


Durable Goods Orders, Ex-Transportation

Consensus Forecast: 0.6%

Consensus Range: 0.3% to 1.1%


Durable Goods Orders, Core Capital Goods (Nondefense Ex-Aircraft)

Consensus Forecast: 0.3%

Consensus Range: 0.2% to 1.0%


Boeing orders from Dubai's air show are expected to help lift durable goods orders in November where the consensus calls for a 2.0 percent gain that would resume, after October's 0.8 percent dip, what had been a late-year burst of strength for the factory sector. Excluding transportation equipment, orders are expected to show less strength but at a still very solid 0.6 percent increase while core capital goods orders are expected to bounce back from an October decline with a 0.3 percent gain.


Personal Income for November

Consensus Forecast, Month-to-Month Change: 0.4%

Consensus Range: 0.3% to 0.5%


Consumer Spending

Consensus Forecast, Month-to-Month Change: 0.5%

Consensus Range: 0.3% to 0.6%


PCE Price Index

Consensus Forecast, Month-to-Month Change: 0.3%

Consensus Range: 0.2% to 0.3%


PCE Price Index

Consensus Forecast, Year-on-Year Change: 1.8%

Consensus Range: 1.7% to 1.8%


Core PCE Price Index

Consensus Forecast, Month-to-Month Change: 0.1%

Consensus Range: 0.1% to 0.3%


Core PCE Price Index

Consensus Forecast, Year-on-Year Change: 1.5%

Consensus Range: 1.5% to 1.6%


Income and spending growth were respectable in October and the core PCE price index did show limited but still welcome improvement. For November, personal income is seen rising 0.4 percent while consumer spending, getting a boost from the month's surge in retail sales, is expected to come in at 0.5 percent. The PCE price index is expected to rise 0.3 percent for a year-on-year rate of 1.8 percent with the core PCE price index, which rose 0.2 percent in October and which excludes both food and energy, seen up only 0.1 percent for a yearly 1.5 percent.


New Home Sales for November

Consensus Forecast, Annualized Rate: 650,000

Consensus Range:  623,000 to 690,000


New home sales have surged the last two reports with monthly gains of 6.2 and 14.2 percent to an expansion high 685,000 annualized rate. Supply has been coming into the market and prices have been coming down which are both positives for sales. The consensus for November new home sales is for a tangible come back to a 650,000 annualized rate.


Consumer Sentiment Index, Final December

Consensus Forecast: 97.0

Consensus Range: 96.0 to 99.0 


The consumer sentiment index has been edging back from a 100.7 expansion peak in October but still came in at a very solid 96.8 in the preliminary reading for December. The current conditions component showed special strength in December's first report in what was a positive indication for holiday sales. Econoday's consensus for the final December index is 97.0.


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