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Hide and seek and the missing consumer
Simply Economics - April 27, 2018
By Mark Pender, Senior Editor



Tax cuts and strong demand for labor didn't fire up the consumer in the first quarter, who instead held back spending and first-quarter GDP with it. Yet there are plenty of one-time factors that may explain the slowing which could very well be followed by outsized strength in the quarters ahead.


The economy

The first quarter's 2.3 percent annualized growth rate extends a respectable streak of four straight quarters over 2 percent. Yet for the FOMC, 2.5 percent is the low forecast for full year growth with 2.7 percent the FOMC's median. This means that the quarters ahead this year are going to have to make up the difference which is certainly a strong possibility. The 7-year trend line of the graph is hinting as much, now just over 2.5 percent and pointing higher.


And the problem for the first quarter -- consumer spending -- could easily reverse and quickly. Consumer spending rose at only a 1.1 percent annualized pace for the lowest rate of growth in nearly five years. Holding down spending was the one-time burst in vehicle sales following last year's hurricane season, a factor that pulled sales forward and out of the first quarter. This is visible in durable goods spending which fell at a 3.3 percent pace during the latest quarter following the fourth quarter's giant 13.7 percent surge. Another wildcard is seasonality which often clouds economic data during the winter months, a time when adjustments have to make oversized compensation for lower levels of activity. But one factor that clearly favors the second quarter is the weakness of the first quarter itself, which keeps the bar low and makes for an easy comparison.


Consumer spending is the key component, representing 69.6 percent of total GDP. Another component, one that is also consumer based, is residential investment which makes up 3.5 percent of GDP and which also didn't have a good quarter. You can barely make out its fractional growth at the far right of graph. This component in fact has been very uneven, posting strong gains now and then but running subpar in five of the last eight quarters. These results are a reminder that home sales have been struggling to move higher and spending on home improvements has been flat.


Turning away from the consumer is where strength is found in the first-quarter report. Business investment posted its fifth very solid showing, growing at a 6.1 percent pace and proving the top contributor, at 8 tenths, to the quarter's growth. Investment in both structures and equipment rose strongly with intellectual property also positive. Much of this investment is tied to what has been very strong business confidence over the past year though some of this confidence, based at least on regional Fed reports, may now be eroding following the imposition of metal tariffs in March. A more tangible sign of trouble ahead for business investment is monthly data on capital goods orders, specifically those tied to machinery (nondefense ex-aircraft) which have fallen or come in flat in four of the last five reports.


One very healthy area of the first-quarter GDP report are inventories. They appear to be lean and in line with the improvement expected for demand. Inventories rose at a $33.1 billion annualized rate in the quarter and helped restock what had been generally low levels of inventory in the fourth quarter which grew at a stingy $15.6 billion rate. Inventories contributed 4 tenths to first-quarter GDP and hopefully will be a positive contributor in the second quarter as well, positive especially in the sense of rising in line with underlying sales.



There was lots of red ink in the report coming as always from net exports which contracted at an annualized rate of $645.9 billion. This however is an improvement from the fourth quarter's pace and actually made for a small 2 tenths contribution to first-quarter GDP. Imports did their usual damage and subtracted 4 tenths from GDP but exports were the big positive, rising at a healthy 4.8 percent annualized clip and adding 6 tenths to GDP. Trade war is the wildcard here with U.S. tariffs looking to hold down import growth though foreign tariffs could likewise hold down export growth.


There was a clear disappointment in the first-quarter report and that was inflation which, at a 2.0 percent rate for the GDP price index, ended up below Econoday's low estimate. If a turn higher is the call for GDP in general, then a turn higher is the call for prices as well. Metal tariffs may have an increasing effect on inflation as may the lengthening delivery times and rising workweeks in the various regional reports. And hints of emerging price pressures now include employer costs. The employment cost index rose a bit more than 0.8 percent in the first quarter as seen in the graph for the sharpest increase of the economic expansion while the year-on-year rate rose a notch to 2.7 percent which is also the cycle high. Wages & salaries, and not benefits, are the leading source of pressure, up 0.9 percent in the quarter for an annual 2.7 percent increase. But benefits are close behind, climbing 0.7 percent for 2.6 percent year-on-year. The gain in wage costs hints at more money in consumer pockets and is another factor pointing to a swing higher for spending.


Another signal of consumer strength is the steady advance underway in home prices which continue to make new expansion highs, at 7.2 percent for the FHFA house price index and 6.7 percent for Case-Shiller's 20-city index. Appreciation is getting a boost from the limited supply of homes on the market which, whether for new homes and especially existing homes, hasn't been improving much at all. Rising home prices should prove a positive for consumer confidence and may also give a needed boost to home-improvement spending.


The biggest plus for the consumer outlook and for spending through the rest of the year is unquestionably the jobs market. Layoffs are at record lows or at least a 49-year low which is where initial layoffs are right now, at 209,000 in the April 21 week. Claims had been edging higher but the latest downswing is convincing. And another solid month of job growth is Econoday's consensus for the April employment report, at 190,000 for nonfarm payrolls. There is also expected to be a big hint of full employment with the unemployment rate seen slipping 1 tenth to 4.0 percent.


Markets: The confidence game

Other data in the week included another very strong consumer confidence report. The confidence index, supported most by the strength of the jobs market, isn't showing any wear at all from all the expansion highs it's been posting the last couple of years, at 128.7 in the April report. Making even greater highs has been the Dow as tracked in the red line of the graph. Its surge at the beginning of the year has created some separation with the blue area of consumer confidence while the Dow's recent retreat has created a jagged tooth in the line. The sell-off hasn't helped the consumer's view on the stock market as bulls, at 51 percent during the heyday of January, have fallen all the way back to 33 percent. But again, it's faith in the jobs market not stocks that drives consumer confidence.


Rising bond yields were once again in focus in the week. The 10-year Treasury yield briefly traded over 3 percent for the first time in four years before coming back down to end the week unchanged at 2.96 percent. There are plenty of factors of course hurting the outlook for bonds: a rising budget deficit, continued rate hikes from the Fed, and less direct buying as the Fed unwinds quantitative easing. If these do indeed push up yields, one beneficiary is likely to be the dollar. The dollar index dropped about 10 percent last year and was on course through the first quarter for another 10 percent decline this year. But not anymore, as Treasury yields have risen demand for the dollar has risen with it. And the higher the dollar goes, the more difficult it will be to achieve the administration's key goal -- to reduce the nation's trade deficit.


Markets at a Glance Year-End Week Ended Week Ended Year-To-Date Weekly
2017 20-Apr-18 27-Apr-18 Change Change
DJIA 24,719.22 24,462.94 24,311.19 -1.7% -0.6%
S&P 500 2,673.61 2,670.14 2,669.91 -0.1% 0.0%
Nasdaq Composite 6,903.39 7,146.13 7,119.80 3.1% -0.4%
Crude Oil, WTI ($/barrel) $60.15 $68.25 $68.06 13.2% -0.3%
Gold (COMEX) ($/ounce) $1,305.50 $1,337.80 $1,324.90 1.5% -1.0%
Fed Funds Target 1.25 to 1.50% 1.50 to 1.75% 1.50 to 1.75% 25 bp 25 bp
2-Year Treasury Yield 1.89% 2.46% 2.49% 60 bp 3 bp
10-Year Treasury Yield 2.41% 2.96% 2.96% 55 bp 0 bp
Dollar Index 92.29 90.41 91.51 -0.8% 1.2%


The bottom line

Though soft, consumer spending did contribute to first-quarter growth, representing 7 tenths of the quarter's 2.3 percent rate, and it seems there are more chances than not that it will contribute to a more significant degree in the quarters ahead. The first indication on second-quarter consumer spending is out in the coming week with unit vehicle sales for April which forecasters see coming in at a healthy rate. Also hinting at a solid economic pace are the isolated signs of price pressures that now include employer costs and may soon include the Fed's actual price target: the core PCE price index which forecasters see jumping suddenly to 2.0 percent in data that will kick off the coming week. So we put first-quarter GDP quietly to rest in firm anticipation, likely to be underscored in the coming FOMC statement, that the pace from here is likely to accelerate.


Week of April 30 to March 4

A week that combines an FOMC meeting and an employment report may start off with a bombshell on Monday, that is a sudden surge in the core PCE price index to a 2.0 percent year-on-year rate. Such a result would mean that inflation is suddenly at target which would heat up the FOMC debate on how gradual rate hikes should remain. Vehicle sales will be the highlight for Tuesday offering the first glimpse on second-quarter consumer demand and coming out following the morning releases of ISM manufacturing, where continued strength is the call, and construction spending where new strength is expected. And though no rate action is expected, the FOMC dominates Wednesday's calendar with attention focused on the economic outlook and the committee's inflation expectations. Thursday will offer the latest on cross-border trade and also on productivity going into Friday's employment report where solid bounce-back strength and a move lower for the unemployment rate are the calls. To say the least, it looks like a strong week is in store.




Personal Income for March

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

Consensus Range: 0.2% to 0.4%


Consumer Spending

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

Consensus Range: 0.3% to 0.5%


PCE Price Index

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

Consensus Range: 0.0% to 0.2%


PCE Price Index

Consensus Forecast, Year-on-Year Change: 2.0%

Consensus Range: 1.8% to 2.1%


Core PCE Price Index

Consensus Forecast, Month-to-Month Change: 0.2%

Consensus Range: 0.1% to 0.3%


Core PCE Price Index

Consensus Forecast, Year-on-Year Change: 2.0%

Consensus Range: 1.8% to 2.1%


Econoday's year-on-year consensus for the core PCE price index is expected to jump from 1.6 percent to 2.0 percent and suddenly hit the Federal Reserve's price target. Yet the expected monthly increase is a less spectacular 0.2 percent which would shift focus to the easy 2017 comparison for the yearly rate. The PCE price index is not expected to show much pressure at all, up only 0.1 percent on the month for a year-on-year rate of also 2.0 percent. Personal income is seen rising 0.4 percent while consumer spending is also expected to come in at 0.4 percent.


Chicago PMI for April

Consensus Forecast: 57.8

Consensus Range: 55.5 to 60.0


Strong growth but only modest acceleration is the consensus for the Chicago PMI, to a consensus 57.8 in April vs 57.4 in March. Capacity stress has been a question for this sample as delivery times have been lengthening and skilled workers hard to find.


Pending Home Sales Index for March

Consensus Forecast, Month-to-Month Change: 1.0%

Consensus Range: 0.5% to 1.8%


Pending home sales are expected to rise 1.0 percent in March after posting a very sharp 3.1 percent jump in February. The resale market has been showing some signs of life though the longer-term trend has been flat.


Dallas Fed General Activity Index for April

Consensus Forecast: 18.0

Consensus Range: 14.0 to 19.0 


Forecasters are not looking for much cooling in the Dallas Fed's general activity index, to a consensus 18.0 in April vs 21.4 in March. This report has flashed signs of unsustainable growth making less severe strength a welcome outcome.




Total Unit Vehicle Sales for April

Consensus Forecast, Annualized Rate: 17.2 million

Consensus Range: 16.8 to 17.6 million


Domestic-made Unit Vehicle Sales

Consensus Forecast, Annualized Rate: 13.0 million

Consensus Range: 12.9 to 13.5 million


Vehicle sales in April, at a consensus 17.2 million annualized rate, are expected to not quite match March's pop higher to 17.5 million. Still, 17 million or better would point to a solid rate for consumer spending in general.


PMI Manufacturing for April, Final

Consensus Forecast: 56.5

Consensus Range: 55.3 to 56.5


The PMI manufacturing index is expected to come in at a final of 56.5 in April, unchanged from the mid-month flash and well up from March. Orders have been running at multi-year highs and, in a sign of capacity stress, delivery times have been lengthening sharply.



ISM Manufacturing Index for April

Consensus Forecast: 58.7

Consensus Range: 57.5 to 60.0


April's consensus for the ISM manufacturing index is 58.7 vs 59.3 in March which was yet another month when order readings for this sample were unusually strong. Delivery times have been lengthening and input costs have been at an 8-year high, both pointing to capacity constraints for this sample.


Construction Spending for March

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

Consensus Range: 0.3% to 0.9%


After a marginal gain in February, construction spending is expected to bounce a solid 0.5 percent higher in March. Spending on single-family homes leads this report, offsetting weakness for nonresidential spending.




ADP, Private Payrolls for April

Consensus Forecast: 193,000

Consensus Range: 165,000 to 225,000


ADP had been on a hot run until March employment came in much weaker than expected, not far stronger than expected as ADP forecast. The consensus for April's ADP estimate is 193,000 vs 241,000 in March.


Federal Funds Target for May 1 & 2 Meeting

Consensus Forecast, Midpoint: 1.625%

Consensus Range: 1.50% to 1.75%


No change in rates is the unanimous consensus of Econoday's sample for the May FOMC, to hold at a mid-point 1.625 percent within a 1.50 to 1.75 percent range. First-quarter weakness will likely be understated in the statement as an anomaly with key emphasis to center on the outlook for growth and whether inflation pressures are picking up.




International Trade Balance for March

Consensus Forecast: -$50.0 billion

Consensus Range: -$57.8 to -$48.7 billion


The international trade deficit for goods and services is expected to narrow sharply in March to $50.0 billion from February's $57.6 billion, in line with advance data on the goods portion of the balance. Imports of goods fell sharply in March while goods exports continued their run of strength.


Initial Jobless Claims for April 28 week

Consensus Forecast: 220,000

Consensus Range: 220,000 to 229,000


Initial claims are expected to come in at 220,000 in the April 28 week in what would be an 11,000 increase from the prior week which was a 49-year low. Low readings in this report are consistent with strong demand for labor.


Nonfarm Productivity, 1st Estimate, 1st Quarter

Consensus Forecast, Annualized Rate: 0.9%

Consensus Range: 0.2% to 1.3%


Unit Labor Costs

Consensus Forecast, Annualized Rate: 3.0%

Consensus Range: 1.3% to 3.7%


Production rose modestly in the first quarter which is expected to limit nonfarm productivity to only a 0.9 percent annualized rate. Limited production gains point to a swelling in unit labor costs where the consensus is looking for a 3.0 percent increase.


PMI Services for April, Final

Consensus Forecast: 54.4

Consensus Range: 54.4 to 55.0


PMI services edged higher in the flash for April and are expected to hold at a solid 54.4 in the final. Order readings were the highlight of the flash report.


Factory Orders for March

Consensus Forecast, Month-to-Month Change: 1.3%

Consensus Range: 0.5% to 1.8%


The durable goods report for March showed headline strength which will give a boost to March factory orders where the consensus is calling for a 1.3 percent gain. But some details of the durables report were soft, especially capital goods orders which are pointing to slowing in business investment.


ISM Non-Manufacturing Index for April

Consensus Forecast: 58.5

Consensus Range: 54.4 to 59.3


The ISM non-manufacturing index is expected to hold at a very strong rate of growth, at a consensus 58.5 in April vs 58.8 in March. Delivery times have been lengthening and input costs going up, both indicative of unsustainably strong growth for ISM's sample.




Nonfarm Payrolls for April

Consensus Forecast: 190,000

Consensus Range: 152,000 to 255,000


Unemployment Rate

Consensus Forecast: 4.0%

Consensus Range: 3.9% to 4.1%


Private Payrolls 

Consensus Forecast: 190,000

Consensus Range: 150,000 to 250,000


Manufacturing Payrolls 

Consensus Forecast: 19,000

Consensus Range: 11,000 to 25,000


Participation Rate

Consensus Forecast: 62.9%

Consensus Range: 62.8% to 63.0%


Average Hourly Earnings

Consensus Forecast, Month-to-Month Change: 0.2%

Consensus Range: 0.2% to 0.3%


Average Hourly Earnings

Consensus Forecast, Year-on-Year Change: 2.7%

Consensus Range: 2.6% to 2.8%


Average Workweek

Consensus Forecast: 34.5 hours

Consensus Range: 34.5 to 34.5 hours


Following an unusually weak March, nonfarm payrolls are expected to resume much of their prior strength. April nonfarm payrolls are seen rising a very respectable 190,000. And movement is the call for the unemployment rate which is expected to dip 1 tenth to 4.0 percent which would increasingly point to full employment and the risk of wage inflation. Yet wage pressures aren't expected to appear in April's report with the monthly consensus for average hourly earnings at only 0.2 percent growth with the yearly rate seen holding steady at 2.7 percent. Private payrolls are expected to rise 190,000, the same as the nonfarm headline, with manufacturing payrolls expected to post another solid month, up 19,000. The workweek is seen unchanged at 34.5 hours and the labor participation rate coming in unchanged at 62.9 percent.


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