Introduction

The second leg of the second quarter didn't turn out that well. Consumer spending in May was lifeless, which doesn't point to strength for second-quarter GDP, and consumer inflation was weak which doesn't support the Federal Reserve's plans to hike rates and cut back on their bond buying. No one's pointing any fingers yet but the 2017 economy, despite all the fanfare, may not be shaping up to very much.

The economy

Let's step back and set the scene for the second quarter. Growth in consumer spending during the first quarter, at a 1.1 percent annualized rate in the latest GDP revision, was the lowest in nearly four years. Three months of poor car sales was the main cause, contraction that betrays consumer caution if not outright exhaustion. Post-election gains in confidence and the big rally in the stock market were not signaling the slowdown in consumer spending that was to come.

Following the weak first quarter, a big rebound in spending was the general call for the second quarter. April and May are now in and the results aren't great. May, in yet another month hit by car sales, could manage only a 0.1 percent monthly gain, eroding the benefit of April's respectable 0.4 percent improvement. Note that quarterly numbers are typically cited in inflation-adjusted terms at an annualized rate, while monthly numbers are cited in nominal month-to-month change. Yet the story for either is the same: Soft.

There are no one-time effects at play with consumer spending. It's weak because consumer income is weak. Personal income did get support in May from gains in propreitor income and personal income transfers but salaries & wages were nearly dead flat. Personal income has been struggling, posting only a 3.5 percent year-on-year rate the last two months with the trend line pointing to just under 3 percent. Spending isn't going to get very far if income is slipping.

Weakness in consumer spending is definitely a big negative for the economy. Yet for the Fed, it's probably a sideshow compared to the downdraft underway in inflation. The core PCE price index, which is the Fed's central gauge, posted a miniscule 0.07 percent monthly gain in May. It was only back in March that the core fell a shocking 0.13 percent for the worst showing in 17 years. Average hourly earnings, which will be a highlight of the coming week, have also been trending lower.

Low wages are no blessing but, looking on the bright side, at least the cost of living isn't going up very much. The core PCE is running at 1.4 percent, down 1 tenth for the third decline in a row and the weakest showing over the past year. Average hourly earnings are moving the same way, at 2.5 percent in May and also the weakest showing in a year. The risk that our low-wage economy will slip into disinflation (that is trend toward the zero line) may only be small but it is probably not a fantasy.

The news isn't any better out of housing. The pending home sales index, which tracks initial contract signings for resales, has fallen for three months in a row. Pending sales don't always map out how final sales will actually turn out but they aren't the only leading indicator that's pointing to trouble for the housing sector: building permits have fallen sharply for two months in a row. Like manufacturing, the housing sector started 2017 off strong but has since cooled.

Manufacturing got a lift early in the year from aircraft orders which have since slowed. The sector as a whole is still trying to come out of 2015's energy-equipment slump and, at least based on private data, is set to resume its ascent through year end. But there's a not so great signal in the defiinitive data and that's capital goods which have been flat all year. As long as labor is cheap, businesses can limit their spending on new equipment which is probably one reason why capital goods are flat.

There was good news in the week and it was led by the goods deficit which narrowed in May as exports inched up to $127.1 billion and imports edged down to $193.0 billion. Yet the difference is still numbing, at $65.9 billion moving from here to there in just one month. The goods gap this quarter is averaging a monthly $66.5 billion which is right at the first quarter's gap and neutral for GDP. Good news also came from wholesale and retail inventories which rose and are also tracking even with the first quarter.

Good news also comes from consumer confidence which, at 118.9, posted its 7th straight reading over 110 to lengthen its best run in 16 years. Yet however much consumer confidence, or for that matter the Dow, may be anticipating future acceleration, that acceleration, now 8 months after the election, has yet to get going. The accompanying graph goes back to the very beginning of the expansion, to July 2009, a period over which the Dow, with consumer confidence apparently in tow, has almost doubled.

Markets: When weakness equals pluses

Lack of economic strength is not much of a positive for the dollar index which fell a very steep 1.6 percent on the week. The dollar is being pulled under by the surge in the euro amid talk that the European Central Bank is turning hawkish. Dollar weakness brings down the price of U.S. exports relative to foreign products which should help the trade deficit. On the import side, a lower dollar makes foreign products more expensive and in turn gives a boost, and a welcome one right now, to inflation.

The dollar usually goes up, not down, when U.S. Treasury yields climb and climb they did in steepening trade. The yield on the 10-year rose 17 basis points in the week in a move that hints, not at dimming expectations, but rising expectations for the economy. But technical month-end and quarter-end positioning may also be a factor in the 10-year's sell-off. Oil bounced back 7.2 percent in the week and, after successfully testing $43 last week, is back over $46. 

The bottom line

For the Fed, consumer spending does make up the bulk of GDP but spending will move with employment and it's specifically employment, not spending, that policy makers are required to track. The Fed is also required to track inflation and here the news isn't getting any better. Energy prices are down and wages are weak and they both are narrowing the window for the Fed to remove stimulus as planned. Unless oil spikes or wages finally explode, the Fed may not be able to raise rates as much as planned or unwind its balance sheet as much as hoped.

Week of July 3 to July 7

A shortened 4th of July week kicks off on Tuesday with the ISM's assessment of the factory sector and also the latest on construction spending which has, in fits and starts, been moving higher. Following Tuesday's holiday, the news gets rolling again on Wednesday with factory orders in the morning, where weakness is the call, and FOMC minutes in the afternoon where the state of inflation and the outlook for tapering will be the focus. Thursday will offer updates on the service sector and more importantly, with trade data for May, key inputs into second-quarter GDP. The first major clue whether June proved a solid or soft end to the quarter will be the monthly employment report where payroll growth is expected to bounce higher with average hourly earnings also coming back to life.

Monday

PMI Manufacturing for June, Final

Consensus Forecast: 52.2

Consensus Range: 52.1 to 53.0

PMI manufacturing moved to its slowest rate in the June flash, to 52.1 which is right at the consensus for the final at 52.2. Both new orders and output were down in the flash offsetting gains in hiring and a build for inventories. Input prices have been easing and selling prices have been weak. Of all the private reports, most of which have been unusually strong, this report best matches the actual pace of government data on the factory sector.

ISM Manufacturing Index for June

Consensus Forecast: 55.1

Consensus Range: 54.0 to 56.0

The ISM manufacturing index has cooled from 57 readings early in the year to 54 readings in April and May. But key details of the report have remained very strong including new orders and backlog orders where gains point to future strength for the sample's general activity. Forecasters are calling for 55.1 in June vs May's 54.9.

Construction Spending for May

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

Consensus Range: 0.0% to 0.9%

A report known for its large monthly swings, construction spending is expected to bounce up to a consensus 0.5 percent gain in May from a very sharp 1.4 percent April decline. Weakness in home improvements and condos during April offset gains in single-family homes. On the nonresidential side, private spending has been moderate and government spending flat.

Total Unit Vehicle Sales for June

Consensus Forecast, Annualized Rate: 16.6 million

Consensus Range: 16.4 to 17.0 million

North American-made Unit Vehicle Sales

Consensus Forecast, Annualized Rate: 13.0 million

Consensus Range: 12.9 to 13.2 million

Unit vehicle sales have been trailing down this year and strength is not the consensus for June with the median at 16.6 million vs 16.7 million in May. Unit sales of North American-made vehicles are also expected to dip, to 13.0 from 13.1 million. These results will offer the first solid hints at the strength or weakness of consumer spending in June.

Wednesday

Factory Orders for May

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

Consensus Range: -0.9% to 0.1%

In what would be their second decline in a row, factory orders are expected to drop 0.6 percent in May following a 0.2 percent decline April. Advance data on the durables side of the report were mostly weak as a downswing in aircraft made for a 1.1 percent overall decline. Yet capital goods data in the durables report were also weak with both orders and shipments down 0.2 percent. And any gains on the nondurables side of the factory orders report are likely to be limited by weakness in energy prices.

FOMC Minutes

Covering the June 13 & 14 Meeting

The discussion on the economy and its outlook will be closely watched in the minutes from the June FOMC that, despite unexpected weakness in core inflation, produced both a 1/4 point rate hike and the first details on tapering of the Fed's $4.5 trillion balance sheet. Closely watched will be the committee's confidence that inflation will indeed regain traction as will any specifics on exactly when policy makers expect to tapering to begin.

Thursday

ADP, Private Payrolls for June

Consensus Forecast: 178,000

Consensus Range: 140,000 to 253,000

ADP once again proved wild in May, forecasting a much higher-than-expected 253,000 surge in private payrolls that turned out to be a much lower-than-expected gain of 147,000. The 106,000 difference between the estimate and actual result even exceeds ADP's 98,000 upward miss in March. Yet, to be fair, this report in the other 3 months of the year was spot on. The consensus for ADP's June call is 178,000.

International Trade Balance for May

Consensus Forecast: -$46.2 billion

Consensus Range: -$47.6 to -$45.0 billion

Forecasters see the international trade gap for goods and services narrowing by $1.4 billion to a consensus $46.2 billion in May from $47.6 billion in April in what would be a positive for second-quarter GDP. This would be in line with advance data on the goods part of the report which, reflecting a gain for exports and a decrease in imports, narrowed by $1.2 billion in May. Any surprises in May's report could affect expectations for second-quarter GDP.

Initial Jobless Claims for July 1 week

Consensus Forecast: 244,000

Consensus Range: 239,000 to 250,000

Demand for labor is very strong reflected in jobless claims which are at historic lows. Forecasters sees initial claims coming in at 244,000 in the July 1 week, unchanged from the prior week.

PMI Services for June, Final

Consensus Forecast: 53.0

Consensus Range: 53.0 to 53.4

PMI services have been steady and moderate, posting a 53.0 in the June flash. New orders and employment were solid in the flash report with selling prices on the rise. The Econoday consensus for June's final is for no change from the flash 53.0.

ISM Non-Manufacturing Index for June

Consensus Forecast: 56.5

Consensus Range: 54.0 to 57.1

ISM non-manufacturing has been one of the easiest data sets to forecast, coming in very consistently at strong levels of growth. Both new orders and backlog orders in the May report were very strong and will contribute to growth in production and perhaps employment in June. This report has been getting a special boost from mining yet it nevertheless has been signaling rates of growth that the actual economy has yet to match. After May's 56.9, forecasters see June's index coming in at 56.5.

Friday

Nonfarm Payrolls for June

Consensus Forecast: 170,000

Consensus Range: 140,000 to 200,000

Unemployment Rate

Consensus Forecast: 4.3%

Consensus Range: 4.2% to 4.4%

Private Payrolls 

Consensus Forecast: 164,000

Consensus Range: 135,000 to 190,000

Manufacturing Payrolls 

Consensus Forecast: 6,000

Consensus Range: -5,000 to 10,000

Average Hourly Earnings

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

Consensus Range: 0.2% to 0.3%

Average Hourly Earnings

Consensus Forecast, Year-on-Year Change: 2.6%

Consensus Range: 2.5% to 2.7%

Average Workweek

Consensus Forecast: 34.4 hours

Consensus Range: 34.4 to 34.5 hours

Nonfarm payroll growth in June is expected to bounce back to 170,000 after slowing to 138,000 in May in what would be a solid showing. There's no improvement needed for the unemployment rate which fell in May to 4.3 percent where it is expected to hold in June. Average hourly earnings have been the weak link in this report and some strength is expected, at a monthly 0.3 percent gain vs 0.2 percent in May for a year-on-year rate of 2.6 percent vs 2.5 percent. Other calls are for a 164,000 rise in private payrolls, a 6,000 rise in manufacturing payrolls, and no change in the workweek at 34.4 hours.