Simply Economics will be taking Christmas week off. Next edition will be January 4, 2019.

Introduction

The big news in the week of course was that the Federal Reserve and Jerome Powell stepped back only incrementally from the central bank's rate-hike regime, citing continuing gains in employment and prospects for positive economic conditions next year. The FOMC raised rates in the week but cut their estimated number of 1/4 point rate hikes in 2019 from three to two which, for the stock market apparently, wasn't enough. The rate hikes are aimed of course at limiting the risk of unwanted inflation even though inflation right now is posing no risks at all. Status quo is actually the theme of the week's data, that is an economy where weaknesses are being more than made up for by consumer spending.

The economy

But when taking income along with spending into consideration, November was a mixed month for the consumer. Personal income rose a lower-than-expected 0.2 percent and included only a 0.2 percent rise for the wages and salaries component. Inflation-adjusted disposable income, an important reading on consumer health, also rose 0.2 percent and down from 0.3 percent in October. Turning to the consumption side of the report, a higher-than-expected 0.4 percent rise in spending was driven by a strong 0.9 percent increase in durable goods that followed a 0.8 percent rise in October with both speaking strongly to health in discretionary demand. Spending on nondurables, reflecting lower gasoline prices, rose a modest 0.2 percent in November with spending on services, by far the largest component, rising 0.4 percent. The savings rate edged 1 tenth lower to a still healthy 6.0 percent rate that provides a resevoir of strength for future spending.

Price data in the report were subdued, inching only 0.1 percent higher for both the monthly PCE index and core PCE index with year-on-year rates now both below the Federal Reserve's 2 percent target, at 1.8 and 1.9 percent respectively. The PCE price indexes are the specific inflation measures that the Fed tracks and the direction for both, the blue and green lines of the graph, may still be trending higher in the long term yet recent months have been more down and flat than up. The red columns of the graph track average hourly earnings which do appear to be trending higher though nothing alarming as yet. And based on the modest results for November personal income, acceleration is far from certain.

December's consumer sentiment report in many ways echoes the results of the personal income and consumer spending data. The overall sentiment index posted a stronger-than-expected level of 98.3 for an 8 tenths rise from November. The gain reflected a nearly 4-point jump in the current conditions component to 116.1 which is one of the strongest readings of the year and a favorable near-term indication for holiday spending. An offset, however, is a dip in the expectations component to 87.0 vs November's 88.1 that reflects a noticeable easing in optimism over the jobs outlook and may hint at slowing spending strength ahead. Interestingly, the report noted that trouble in the stock market was not a major factor in the expectations decline.

Very much like the PCE price indexes, inflation expectations in the consumer sentiment report were subdued, at 2.7 percent for the year-ahead outlook and 2.5 percent for the 5-year outlook which are both down 1 tenth from November. The 2.7 percent rate, as seen in the blue line, has been a floor for consumer expectations over the past year. The green line tracks inflation expectations at the business level and here the latest reading, at 2.3 percent, is at the top of its yearly range but is still subdued. In sum, the sentiment report, like personal income and consumer spending, is pointing to extended spending strength at a time, however, of limited income growth and during a period of flat inflation.

One area of the economy, and a closely watched one where change is seen a harbinger for overall economic change, does appear to be slowing and that's the factory sector. Durable goods orders did rise 0.8 percent in November but the level, at $250.8 billion, is noticeably below the $260.2 billion peaks of September and August. But November did get a lift from a swing higher in aircraft orders, which are always volatile on a monthly basis and which, after two months of sharp contraction, surged 17.7 percent higher for civilian aircraft and 15.4 percent for defense aircraft. Primary metals at 1.0 percent, fabrications at 0.5 percent, and communications equipment at 0.8 percent also posted monthly gains. Elsewhere, however, orders were weak with electrical equipment down 0.7 percent, computers unchanged, and motor vehicles down 0.2 percent. But November's biggest disappointment is at the heart of the capital goods group as machinery orders sank a very steep 1.7 percent.

As factory orders are considered a leading indicator for overall economic change, capital goods are considered a leading indicator for factory orders. Core capital goods orders in November (which exclude defense goods as well as aircraft) fell an unexpected 0.6 percent to $69.3 billion as tracked in the red line of the graph. This reading has been visibly flattening out the last half year and is consistent with the FOMC's assessment that growth in business investment, after a strong tax-cut surge early in the year, is now moderating. One special area of note in the graph is the sharp 2014 and 2015 dip for the red line that was directly related to contraction in mining and oil equipment. This followed the 2014 collapse in oil prices from $100 to under $30. The ongoing collapse in oil, from over $70 to under $50, is not a good harbinger for 2019 capital goods. And based on capital goods alone, the overall 2019 factory sector isn't likely to prove as strong as 2018. Note that the blue columns of the graph track all durable goods orders excluding core capital goods, a reading that came to $181.5 billion in November.

Consumer spending will not only be needed to offset what could be a flattening in business investment but to also offset continued contraction in residential investment which has pulled GDP down all year. Judging by what home builders report, further down pull in the fourth quarter should be no surprise. After taking a sudden 8 point plunge in November, the housing market index fell another 4 points to a 56 level for December that was well below Econoday's low estimate. Sales growth continued to slow, at 61 for both current sales and 6-month sales for losses of about a dozen points each over the last two months. And traffic continued to contract outright, down 2 points and further below break-even 50 at 43. Mortgage rates have stabilized the last few weeks but still remain high compared to recent years, averaging about 5 percent for 30-year fixed mortgages. Home builders had been among the very most upbeat group anywhere in the economy. Not any more.

If demand for new housing is in fact softening, it may be a plus that supply into the market has been coming down. Single-family starts fell sharply in November to an 824,000 annualized rate vs October's 864,000 with single-family completions down sharply to a 772,000 rate from 816,000. Year-on-year rates continue to speak to the general weakness of housing with total starts down 3.6 percent and completions 3.9 percent lower. Permits, which offer indications of future starts and future completions, are not offering much reason for optimism. They edged only fractionally higher in November to an 848,000 rate that is 1.9 percent lower than a year ago. Builders have, however, been redirecting their energies toward multi-units where starts, completions and permits all suddenly jumped in November. Yet the single-family category dominates this report and related building costs are much higher than multi-units which, for GDP, does not point to much rebound ahead for residential investment.

Markets: What yield inversion means for you; foreigners flee

However much the stock market may be tanking, the Fed is sticking with plans for continuing rate hikes next year, from 2-3/8 percent right now for the federal funds target to 2-7/8 percent as plotted in the red line of the graph. The 2-year Treasury yield pretty much moves in lockstep with the funds rate though the sharp dip so far this month, to 2.63 percent vs 2.86 percent at the end of November, may be hinting at expectations for fewer than two hikes next year. Even though Jerome Powell said at his press conference that he is "pretty positive" over the economic outlook, he did cite cross currents and the possibility of moderation next year which perhaps the dip in the 2-year yield is foretelling. And the inversion underway in the yield curve, which is now almost completely flat and where the 3- and 5-year yields are actually flipping below the 2-year, is also, if only by tradition, seen as an indication of economic slowing. We won't be getting any more official FOMC rate projections until their March meeting yet, if the economic data do begin to slow or the stock market completely crash, we shouldn't be surprised to see a synchronized round of dovish Fedspeak begin.

The stock market got absolutely clobbered in the week, losing 6.9 percent on the Dow and 8.4 percent on the Nasdaq. Going into year end, the Dow is down 9.2 percent this year and the Nasdaq 8.3 percent. The first cracks in the stock market appeared early in the year as the Fed began to focus on the risk of rising inflation and established its intention to raise the funds rate four times through the year. Foreign investors were among the first to flee, selling U.S. equities at a record pace. Net selling in October totaled $22.2 billion and was the sixth straight month of disinvestment and the eighth month in nine. Such an outflow has negative wealth effects similar to the rise underway in both the nation's trade and government deficits. For financial securities in general, however, the effects have been offset by heavy foreign demand for U.S. Treasuries and recent heavy selling of both foreign bonds and equities by U.S. accounts.

The bottom line

A negative in the week that was perhaps reflected in the stock market's performance is the apparent very real risk that the government will begin to shutdown this weekend. This will pushback release of many key economic indicators until a reopening. But the data that we already have point to healthy fourth-quarter growth driven once again by the consumer that more than offsets moderation in business investment and outright contraction in residential investment. How long the consumer can keep the economy going given limited income growth and against the extended resistance of Fed rate hikes will be the story for 2019.

Week of December 24 to December 28

Assuming the government doesn't shut down, the Christmas week will be deceptively heavy opening on Monday with the national activity index which is expected to slow slightly and perhaps offer a reminder that recent economic data have been softening. Housing will be the week's dominant focus starting off on Wednesday with home price data from Case-Shiller followed on Thursday by FHFA both of which have been slumping noticeably. New home sales, which lurched lower in the prior report, will be posted on Thursday while Friday will see pending home sales for a resale market that had been weak but has recently been showing some life. International trade in goods will also be posted on Friday and will offer an important input into fourth-quarter GDP where net exports may once again prove unfavorable.

Monday

National Activity Index for November

Consensus Forecast: 0.19

Consensus Range: 0.15 to 0.20

The national activity index is expected to ease in November following solid but narrow results for October when employment, which then softened in November, was the only component showing significant strength. Like employment, manufacturing production was also soft in November with housing data mixed but consumer spending strong. Forecasters see the national activity index coming in at a consensus 0.19 vs 0.24 in October.

Wednesday

Case-Shiller, 20-City Adjusted Index for October

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

Consensus Range: 0.2% to 0.6%

Case-Shiller, 20-City Unadjusted Index

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

Consensus Range: -0.1% to 0.2%

Case-Shiller, 20-City Unadjusted Index

Consensus Forecast, Year-on-Year Change: 5.0%

Consensus Range: 4.7% to 5.3%

Case-Shiller has been sagging though the 20-city adjusted index did hit expectations in September with a moderate 0.3 percent rise. But the year-on-year unadjusted rate fell 4 tenths to 5.1 percent for the lowest reading since October 2016. Econoday's October consensus is a 0.4 percent gain for the monthly rate and 5.0 percent for the yearly rate.

Richmond Fed Manufacturing Index for December

Consensus Forecast: 14

Consensus Range: 5 to 15

Order growth has been steady and strong with backlogs piling up in what point to yet another solid month for the Richmond Fed manufacturing index which for December is expected to come in unchanged at November's level of 14.

Thursday

Initial Jobless Claims for December 22 week

Consensus Forecast: 217,000

Consensus Range: 216,000 to 227,000

Initial jobless claims moved higher in November but the last two reports showed a settling back to historic lows. Forecasters see initial claims for the December 22 week coming in at 217,000 vs 214,000 in the December 15 week.

FHFA House Price Index for October

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

Consensus Range: 0.1% to 0.5%

Continued softness is what forecasters see for the FHFA house price index in October, at a consensus gain of 0.2 percent and unchanged from September's subdued 0.2 percent rise which missed expectations. The year-on-year rate in the prior report, at 6.0 percent, was the lowest since January last year.

New Home Sales for November

Consensus Forecast, Annualized Rate: 560,000

Consensus Range:  535,000 to 581,000

After a very weak 544,000 rate in October, new home sales in November are expected to bounce higher to 560,000. Prices for new homes, like sales, have also been eroding though to a lesser degree.

Consumer Confidence Index for December

Consensus Forecast: 134.0

Consensus Range: 131.0 to 135.6

Though probably not within striking distance of its all-time high hit 18 years ago at 144.7, the Conference Board's consumer confidence index, boosted by its heavily weighted employment components, has been holding steady just short of the record. But forecasters see decreasing strength in December, with the consensus at 134.0 vs 135.7 in November.

Friday

International Trade In Goods for November

Consensus Forecast, Month-to-Month Change: -$75.7 billion

Consensus Range: -$77.4 to -$73.3 billion

The November goods deficit is expected to narrow to a consensus $75.7 billion vs $77.0 billion in October (revised from an initial $77.2 billion). November's results will offer an important input into fourth-quarter net exports which were negative in October after proving very unfavorable in the third quarter.

Advance Wholesale Inventories for November

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

Consensus Range: 0.3% to 0.6%

Wholesale inventories are expected to rise 0.3 percent in November following a heavy build of 0.8 percent in October (revised from 0.7 percent in the advance reading). Growth in wholesale inventories is tracking at about the same pace as growth in wholesale sales.

Chicago PMI for December

Consensus Forecast: 62.4

Consensus Range: 57.9 to 65.9 

Easing strength at a high level is the call for the Chicago PMI with the December consensus at 62.4 vs a robust 66.4 in November that exceeded Econoday's high forecast by 7 points. New orders in November surged to their best showing in 4-1/2 years with delivery times, in a sign of capacity constraints, the longest in 14-1/2 years.

Pending Home Sales Index for November

Consensus Forecast, Month-to-Month Change: 1.5%

Consensus Range: -0.6% to 2.2%

A big bounce back is the forecast for November pending home sales which are expected to increase 1.5 percent after tumbling 2.6 percent in what was an extremely weak October report. Sales of existing homes have been weak this year but have firmed in recent data.