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Simply Economics

A penny for your labor
Simply Economics - April 29, 2016
By Mark Pender, Senior Editor

  

Introduction

The FOMC spelled it out as clear as they could in their April statement. The economy is slow and inflation is flat and there is no reason to raise rates, it's as simple as that. Still, the markets are more about what's down the road than what's happening now. And there may be forces working their way up, including overdue strength for wages, that could change this picture sooner than later.


 

As the world slows

The U.S. economy has been performing better than the global economy but not so much in the first quarter as GDP inched only 0.5 percent (SAAR) higher. This is the weakest performance since the severe weather of first quarter 2014. Consumer spending has slowed, business investment has gone into reverse, inventories have been cut back, and exports have fallen. The trend for GDP has been decidedly down the past two years.


 

Though consumer spending slowed it was still strong enough to keep GDP in the plus column during the first quarter as personal consumption expenditures rose at a 1.9 percent annualized rate vs rates of 2.4, 3.0, and 3.6 percent in the prior three quarters. Spending on vehicles, which had been a big plus this time last year, is now a big negative and underscores the importance of the domestic auto industry. Spending on non-durables has also been down but here the decline reflects not weak demand but instead low energy prices. Steady through all of this has been spending on services where in-trend growth of 2.7 percent proved to be the single biggest contributor to first-quarter GDP.

 

Not contributing to growth at all, in fact the largest negative pulling down growth, was business spending as nonresidential fixed investment fell 5.9 percent for a second drop in a row. Business spending had been a plus for GDP until the last two quarters. The decline for the nonresidential component has been signaled all along by durable goods data where nondefense capital goods have been in low to middle single digit contraction for about the last year. Deep contraction for energy equipment is the largest negative but not the only one as demand for heavy trucks, farm machinery, electrical equipment and construction machinery has also been down. Given the deepening declines, the FOMC understandably downgraded business investment which it now describes as soft.


 

Waiting for a raise

The Fed also downgraded inflation, saying it has not improved and is no longer picking up. The PCE core, the rate that the Fed specifically targets for its 2 percent goal, edged only 0.1 percent higher in March for a year-on-year rate of plus 1.6 percent which is 1 tenth lower than February and further away from target. Lack of wage growth is a key factor behind the lack of price strength. The sagging lines of the accompanying graph compare the PCE core with average hourly earnings. Neither is showing much life and will have to pick up before the FOMC raises rates.


 

But there may be hints of a pickup in the offing. Wages & salaries in the PCE report posted a solid 0.4 percent gain in March with the year-on-year rate moving to plus 4.7 percent for its best showing since August last year. This reading, compiled from wide source data, is looking less weak than average hourly earnings which are posted in the monthly employment report. Total income in the PCE report also rose a monthly 0.4 percent for a second 0.4 percent gain of the last three months which is a good showing.


 

And there may be another reason, at the pay source itself, to expect a boost for wage-based inflation. Labor costs are going up, especially for wages which drove the employment cost index 0.6 percent higher in the first quarter and right in line with gains of 0.5 and 0.6 percent in the prior two quarters. The wages component rose 0.7 percent in the first quarter which matches the highest rate of this cycle. The gain for the benefits component, at 0.5 percent, is sizable but 1 tenth lower than the two prior quarters. The rise in wage costs in this report, mirrored by wage gains in personal income data, are eye catchers for FOMC policy makers eager to see improvement toward 2 percent inflation.


 

They won't let you go

A warning to the doves! If wage pressures begin to catch fire, no one should be surprised. No set of data has been showing more improvement than jobless claims which are at remarkable lows — lows that point to strong worker retention. Initial claims, which are at 40-year lows, usually get all the attention, not continuing claims which are posted with a week's delay but which are showing as much improvement as initial claims. The latest data for continuing claims tracks the April 16 week which was the sample week for the pending April employment report. Continuing claims fell 5,000 in the week to 2.130 million which is a 16-year low. The comparison with the sample week for the March employment shows improvement and points to another month of strength for monthly payroll growth and even perhaps a downtick back below 5 percent for the unemployment rate.


 

Markets: Oil's rebound and other promises

WTI, now at about $46, shot up 5 percent in the week and is up over 20 percent so far this year. The gain has yet to help the energy sector much where contraction continues to deepen but it has definitely helped energy shares and has helped the Dow test record highs. Stocks, however, were soft in the week, not getting any help from the Bank of Japan which, despite a weak economy and lack of inflation, declined to delve deeper into negative rates. The Dow posted a 1.3 percent loss on the week to trim its year-to-date gain to only 2.0 percent. Heavy machinery maker Caterpillar made in the news in the week, forecasting a resumption of strength for China's construction sector. And hopes for Chinese sales are also getting a promising boost from the dollar which has been sliding all year, down 2.1 percent for the dollar index in the latest week for a year-to-date decline of 5.9 percent. They may not want much credit, but the dollar's weakness is one of the benefits of the FOMC's run of stand-pat decisions.


 

Markets at a Glance Year-End Week Ended Week Ended Year-To-Date Weekly
2015 22-Apr-16 29-Apr-16 Change Change
DJIA 17,425.03 18,003.54 17,773.64 2.0% -1.3%
S&P 500 2,043.94 2,091.58 2,065.30 1.0% -1.3%
Nasdaq Composite 5,007.41 4,906.23 4,775.36 -4.6% -2.7%
Crude Oil, WTI ($/barrel) $37.40 $43.74 $45.94 22.8% 5.0%
Gold (COMEX) ($/ounce) $1,060.00 $1,234.17 $1,288.69 21.6% 4.4%
Fed Funds Target 0.25 to 0.50% 0.25 to 0.50% 0.25 to 0.50% 0 bp 0 bp
2-Year Treasury Yield 1.05% 0.82% 0.79% –26 bp –3 bp
10-Year Treasury Yield 2.27% 1.89% 1.86% –41 bp –3 bp
Dollar Index 98.84 95.06 93.05 -5.9% -2.1%

 

The bottom line

Employment is high but workers have yet to see sizable wage gains though initial pay for newcomers, given the scarcity of labor, is more likely to go up than down. And wage inflation is certain to get a boost if workers grow more confident and finally begin to shift jobs (data tracked separately in the monthly JOLTS report and which have been inching higher). But higher wages, like higher exports and improvement for the energy sector, have yet to make their appearance in the 2016 economy. Until they do, and until business investment improves, the FOMC is likely to continue to stand aside.


 

Week of May 2 to May 6

A solid, in-trend employment report on Friday is expected to cap the week's economic data, data that otherwise are expected to be mixed. The ISM manufacturing report will open the week but only modest strength is expected for the April report. Motor vehicle sales will follow on Tuesday and a solid gain, benefiting from an easy comparison against a weak March, is expected. Wednesday's data are nearly certain to show a narrowing in the trade gap but one based, not on strength of foreign demand, but on weakness in domestic demand. A possible highlight of the week will also be on Wednesday, the ISM non-manufacturing report which is once again expected to signal general strength for the bulk of the economy. Strength is expected to be most clearly expressed in the April employment report where the Econoday consensus is calling for a 200,000 rise in nonfarm payrolls and a 1 tenth downtick in the unemployment rate to 4.9 percent.


 

Monday


 

Manufacturing PMI, April Final

Consensus Forecast: 51.0

Consensus Range: 50.5 to 51.0


 

The manufacturing PMI has not been among the advanced indicators signaling strength for the sector. The flash for April came in at a very soft 50.8 with only a small 2 tenth rise to 51.0 expected for the final reading. Growth in output and employment has been slowing in this report as has growth in new orders which, unlike a few reports, has yet to get a boost from dollar-related strength in exports.


 

ISM Manufacturing Index for April

Consensus Forecast: 51.5

Consensus Range: 49.5 to 52.5


 

Despite a big surge for new orders in the March report, expectations look for little change in the ISM manufacturing index which is expected to edge 3 tenths lower in April to 51.5. But new orders jumped 7 points in March to 58.3 which will provide strength to April's readings on production and perhaps employment. Export orders were also a plus in March which if repeated, would represent an early positive signal from the lower dollar.


 

Construction Spending for March

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

Consensus Range: +0.2% to +1.0%


 

Construction spending is expected to rise 0.5 percent in March to offset a 0.5 percent decline in February, one that masked a strong 0.9 percent gain for residential spending. Non-residential spending was the weak spot in February, falling 1.3 percent. Still, both components are posting 10 percent year-on-year growth which is far above other readings on the economy.


 

Tuesday


 

Total Vehicle Sales for April

Consensus Forecast, Annualized Rate: 17.3 million

Consensus Range: 16.8 to 17.6 million


 

Motor vehicle sales have been a central weakness of the economy so far this year, pulling down retail sales and pulling down factory output in turn. But strength is expected for April where forecasters are calling for a 17.3 million annualized rate, well up from the big disappointment of March's 16.6 million rate.


 

Wednesday


 

ADP, Private Payrolls for April

Consensus Forecast: 193,000

Consensus Range: 165,000 to 210,000


 

The ADP employment report has been on the mark this year, offering a run of accurate signals on the strength of the labor market. Forecasters see Friday's employment report for April showing strength and likewise see ADP showing strength as well, at a consensus 195,000 for the government's private payroll gain and 193,000 for ADP's private payroll count.


 

International Trade Balance for March

Consensus Forecast: -$41.4 billion

Consensus Range: -$49.0 to -$40.0 billion


 

The nation's trade deficit is expected to narrow sharply in March, to a consensus $41.4 billion vs February's $47.1 billion. Advanced trade data on goods showed a big decline for imports, which points at weak domestic demand, and another decline for exports which points at weak foreign demand.


 

Non-Farm Productivity, 1st Estimate, 1st Quarter

Consensus Forecast, Annualized Rate: -1.2%

Consensus Range: -3.5% to 0.0%


 

Unit Labor Costs

Consensus Forecast: +3.5%

Consensus Range: +2.2% to +4.6%


 

Pulled down by low output, non-farm productivity is expected to post a second straight contraction, at minus 1.2 percent in the first quarter vs a 2.2 percent drop in the fourth quarter. Weak output also raises the relative cost of labor as unit labor costs are expected to rise 3.5 percent following the prior quarter's 3.3 percent increase.


 

Services PMI Index, April

Consensus Forecast: 52.0

Consensus Range: 51.5 to 52.5


 

The services PMI has been very soft, running near the breakeven in 50 level in what is a very soft indication for the U.S. economy. Growth in new orders has been the weakest this cycle and backlog orders are down. Uncertainty over the economy and over the presidential election have both been cited as negatives in this report.


 

Factory Orders for March

Consensus Forecast, Month-to-Month Change: +0.6%

Consensus Range: +0.3% to +1.6%


 

Factory orders are expected to rise 0.6 percent in March based on a 0.8 percent gain for the advance durable goods report which got a boost from defense spending. But otherwise the durables report was soft and failed to show any lift yet from the lower dollar or any rebound in the energy sector. The factory orders report includes revised data on durable goods and initial data on non-durable goods. 


 

ISM Non-Manufacturing Index for March

Consensus Forecast: 54.7

Consensus Range: 53.5 to 55.5


 

The ISM non-manufacturing index ended seven months of slowing with a solid gain in March to 54.5, a level that is expected to be roughly repeated in April at 54.7. New orders have been rising and backlog orders have been building. Export orders have also been strong. This report, unlike the services PMI, has been pointing to healthy overall conditions.


 

Thursday


 

Initial Jobless Claims for April 30 week

Consensus Forecast: 262,000

Consensus Range: 256,000 to 271,000


 

Initial jobless claims have been trending convincingly lower and have pulled the 4-week average to a 42-year low. Forecasters see claims edging only slightly higher in the April 30 week, to 262,000 vs 257,000 in the prior week. Continuing claims have also been low, further confirming strength in the labor market.


 

Friday


 

Nonfarm Payrolls for April

Consensus Forecast: 200,000

Consensus Range: 175,000 to 245,000

 

Private Payrolls 

Consensus Forecast: 195,000

Consensus Range: 165,000 to 235,000

 

Unemployment Rate

Consensus Forecast: 4.9%

Consensus Range: 4.8% to 5.0%

 

Average Hourly Earnings

Consensus Forecast: +0.3%

Consensus Range: +0.2% to +0.4%

 

Average Workweek

Consensus Forecast: 34.5 hours

Consensus Range: 34.4 to 34.5 hours

 

Nonfarm payrolls are expected to extend their very solid trend with a 200,000 rise in April that would follow March's gain of 215,000. The unemployment rate is expected to dip 1 tenth to 4.9 percent. The participation rate has been on a notable rise in this report as newcomers enter the labor market. Average hourly earnings are also expected to show traction, at plus 0.3 percent for a second month. A report that hits consensus would ease concerns over first-quarter economic weakness.


 

Consumer Credit for March

Consensus Forecast: +$15.8 billion

Consensus Range: +$13.0 to +$20.5 billion

 

Consumer credit is expected to rise $15.8 billion in March following a $17.2 billion gain in February. Nonrevolving credit, boosted by vehicle sales and also by student loans, is by far the stronger of this report's two components with non-revolving credit, offering its own signals on credit cards and consumer spending, showing mostly weakness.


 

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