What Should Fed Do--Part II?

 Popular Economics Weekly

Friday’s ‘official’ April US unemployment report was even more surprising than Fed Chairman Powell’s dovish remarks after the Fed’s May FOMC meeting, as if Powell might have known that April’s unemployment report would be weaker.

It was, with the unemployment rate rising to 3.9 percent from 3.8 percent and just 175,000 nonfarm payrolls jobs added, vs. last month’s 315,000 jobs added after slight revisions.

"I think it is unlikely that the next rate move would be a hike,” said Powell at the time. “The Committee judges that the risks to achieving its employment and inflation goals have moved toward better balance over the past year.”

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And the US economy is moving towards the Fed’s desired goal of slightly higher unemployment and slower wage growth, which economists are saying is the ‘goldilocks’ condition similar to what it was in the last decade—not too hot (inflation) nor too cold (employment).

Average hourly earnings rose just 0.2% from the previous month and 3.9% from a year ago, both below consensus estimates and an encouraging sign of lower inflation.

The jobless rate tied for the highest level since January 2022. A more encompassing rate that includes discouraged workers and those holding part-time jobs for economic reasons also edged up, to 7.4%, its highest level since November 2021.

Health care led job creation, with a 56,000 increase. Other sectors showing significant rises included social assistance (31,000), transportation and warehousing (22,000), and retail (20,000). Construction added 9,000 positions while government, which had shown good gains in recent months, was up just 8,000 after averaging 55,000 over the previous 12 months.

Revisions to previous months took the March gain to 315,000, or 12,000 from the initial estimate, and February to 236,000, a decline of 34,000.

Do Powell’s remarks and the weaker jobs report are causing some economists to predict the Fed could once again begin to cut interest rates in June or July, with at least one more rate cut later this year.

Another sign of weakening inflation was the just released ISM service sector index that measures non-manufacturing jobs in areas such as healthcare, construction and transportation. The Institute for Supply Management said on Tuesday that its service-sector PMI dropped sharply to 49.4% in April from 51.4% in the prior month.

“In April, the Services PMI^® registered 49.4 percent, 2 percentage points lower than March’s reading of 51.4 percent,” said Anthony Nieves, Chair of the Institute for Supply Management. ‘The composite index indicated contraction in April after 15 consecutive months of growth since a reading of 49 percent in December 2022, the first contraction since May 2020 (45.4 percent). The Business Activity Index registered 50.9 percent in April, which is 6.5 percentage points lower than the 57.4 percent recorded in March.”

The service sector has been powering most economic growth since the end of the COVID pandemic, so it will also affect the Fed’s decision on when to begin to lower interest rates.

This is big news in an economy still at full employment, as I have said. The herd behavior (follow the leader mentality) typical of market movements means investors will take time to register what Powell and the Fed Governors are now hinting.

Economist Claudia Sahm, who I’ve mentioned before, is looking more like a truth-teller than ever. Her “Sahm rule” that if the unemployment rate rises +0.5 percent over the last three-month average, a recession is looming, has risen from its most recent low of 3.7 percent in January 2024 to 3.9 percent in April.

So who is right? We will now see if the more hawkish Fed Governors that had been hinting there may be no rate reductions this year will begin change their tune in upcoming speeches.

Harlan Green © 2024

Follow Harlan Green on Twitter: https://twitter.com/HarlanGreen

What Should the Fed Do?

 Popular Economics Weekly

The big surprise at Federal Reserve Chairman Powell’s latest press conference was despite strong job numbers and inflation still above the Fed’s 2 percent target rate, the Fed governors are acting more dovish.

Why? They don’t want a repeat of the 1970’s stagflationary era, when economic growth slowed but inflation remained high.

The just released minutes of its last FOMC meeting highlighted the Fed Governors’ worries. And Powell at the press conference said, "I think it is unlikely that the next rate move would be a hike…the Committee judges that the risks to achieving its employment and inflation goals have moved toward better balance over the past year.”

Powell also said, as quoted on MarketWatch, “I was around for stagflation, and it was 10% unemployment, it was high-single-digit inflation,” he said. “Right now we have 3% growth, which is pretty solid growth, I would, say by any measure, and we have inflation running under 3%.”

“So I don’t see the ‘stag’ or the ‘flation,’ ” he said.

That’s all true. Last year’s GDP growth rate averaged 3 percent and the annual inflation rate with its preferred PCE index had declined to 2.5 percent.

Calculated Risk

This is big news in an economy still at full employment. The latest JOLTS report showed more than 8 million job openings in April, basically unchanged, according to the latest Bureau of Labor Statistics report. (Black line in graph shows job vacancies.) Whereas the Federal Reserve and financial markets have been hoping for weaker job numbers as insurance that inflation would continue to decline.

“Over the month, the number of hires changed little at 5.5 million while the number of total separations decreased to 5.2 million,” said the BLS.

That means there were 300,000 more hires than total separations, which could mean Friday’s official April unemployment report would be basically unchanged from last month’s 303,000 nonfarm payrolls increase.

The monthly inflation figures have ticked up slightly of late but remain in the 2-3 percent range annually. It has upset some markets (e.g., bond funds are currently losing money.)

Why hope for slower growth, anyway? Isn’t Wall Street supposed to react to corporate earnings? Some 80 percent of businesses reported higher earnings in the first quarter, even though the initial first quarter GDP growth estimate was just 1.6 percent, down from last quarter’s 3.6 percent.

It’s the dilemma that our Federal Reserve has put the markets in. The Fed refuses to concede that there is a soft landing, which means interest rates will remain at record heights for the present, as high as they were in 2008 that caused the Great Recession.

But the Great Recession was also caused by slack or no market oversight by a Republican administration that allowed A+ ratings on junk bond and mortgage securities that ultimately busted the housing bubble.

Powell also cautioned that the economic outlook is uncertain, and the Committee remains highly attentive to inflation risks.

It was a remarkable press conference designed to assure Americans that the Federal Reserve wasn’t going to be the spoiler of this post-pandemic recovery in an election year.

Harlan Green © 2024

Follow Harlan Green on Twitter: https://twitter.com/HarlanGreen

Inflation Target Reached?

 Financial FAQs

Inflation is probably as close to the Federal Reserve’s inflation target of 2 percent as possible this year, according to its favorite inflation index, the Personal Consumption Expenditure Price Index (PCE) that is the best overall measure of consumer price trends.

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In fact, all of the inflation indicators used by economists are at or close to 2 percent for both wholesale and retail goods and services. Inflation will probably remain slightly above 2 percent annually this year because consumers’ incomes have been rising faster than the cost of things to produce.

It’s mostly in the service sector, where the rising cost of recreation, entertainment, health care and the like has been the biggest source of recent inflation. The manufacturing sector has been stalled, however, because of the high interest rates.

Service prices rose 0.4% last month, the government said Friday. The biggest increases took place in housing, health care, recreation, dining and hotels. Over the past year the cost of services has risen 4%, far too high for the Federal Reserve's comfort. Before the pandemic service inflation averaged 2.2% a year.

Why? The culprit in the Fed’s eyes is too high wages and salaries that must come down to tame inflation “sustainably”, in their words. Yet without slightly higher incomes consumers wouldn’t be able to ‘sustain’ the higher economic growth that will pay for the current wars the US is supporting, modernization of US economy, and mitigation of global warming.

Of course, there are those inflation hawks (mostly Republicans) who say we cannot afford such largesse. There’s too much debt that will overwhelm the debt markets, collapse the Dollar’s value and similar forebodings.

But they forget that such spending also boosts labor productivity and economic growth! That is why GDP growth has surged, rising 4.9% and 3.6% over the last two quarters of 2023, respectively.

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And labor productivity has been surging. Nonfarm business sector labor productivity increased 3.2 percent in the fourth quarter of 2023, the U.S. Bureau of Labor Statistics reported, as output increased 3.5 percent and hours worked increased just 0.3 percent.

Productivity was shrinking, just -2.4 percent at its most recent low point in Q2 2022, meaning the number of hours worked was rising faster than output. But it increased to +2.6 percent in Q4 2023, a swing of more than 4 percent in 6 quarters.

It’s not clear if such a surge has to do with workers receiving better salaries and benefits; or the increasing use of technologies such as AI because of worker shortages across many industries.

But we do know that the $trillions in President Biden’s New, New Deal are being spent on developing new technologies, such as the CHIPs Act that is financing new factories in several states.

We had even more debt as a percentage of GDP during WWII. We couldn’t have won World War Two without it. And we also know the new technologies it financed created the American middle class and gave us the boom years after World War Two.

Harlan Green © 2024

Harlan Green on Twitter: https://twitter.com/HarlanGreen

Q1 GDP Better Than Estimate

 The Mortgage Corner

The initial estimate of first quarter 2024 Gross Domestic Product (GDP) growth was lower than expected, causing financial markets to panic, even though economic growth is better than the initial estimate is reporting.

The lower GDP estimate happened because Americans bought more imports than sold exports overseas. So consumers are still spending, which is the mainstay of growth, and even continued to invest in factories and infrastructure.

First quarter GDP growth was 1.6 percent, below expectations, after 3.4% growth in Q4 and 4.6% growth in Q3 2023.

Why the decline in Q1? Imports were higher that subtract from GDP and product inventories were down, as nobody was restocking their shelves yet, which is common while wholesalers and retailers wait to see the demand for their products in the New Year. But consumer spending held up (+2.5%).

That’s because the job market is still hot, with jobless claims in the latest week down to 207,000 from the more average 215-220,000. But the markets are seeing danger signs that the Fed may be less likely to lower interest rates.

Why? The product shortage is raising inflation as consumers must pay more because of the depleted inventories.

BEA.gov

“The increase in real GDP primarily reflected increases in consumer spending, residential fixed investment, nonresidential fixed investment, and state and local government spending that were partly offset by a decrease in private inventory investment, said the US Bureau of Economic Administration (BEA). Imports, which are a subtraction in the calculation of GDP, increased.”

The U.S. trade deficit in goods widened 1.7% to $91.8 billion in March, according to the Commerce Department’s advanced estimate released Thursday. That’s the largest deficit since last April.

Wholesale inventories fell 0.4% in March after a 0.4% gain in the prior month. Nonauto retail inventories fell 0.1% after a 0.3% rise in February.

Inflation has stalled, as there is now a supply shortage because inventories are not being replenished. But that will be cured soon enough as producers gear up production once again.

The price index for gross domestic purchases increased 3.1 percent in the first quarter, compared with an increase of 1.9 percent in the fourth quarter, said the BEA. The personal consumption expenditures (PCE) price index increased 3.4 percent, compared with an increase of 1.8 percent. Excluding food and energy prices, the PCE price index increased 3.7 percent, compared with an increase of 2.0 percent.

In fact, there’s a drop in exports because of the strong US Dollar in relation to other currencies, which makes exports more expensive. And that’s due to the sky-high interest rates the Fed is not yet reducing.

But despite soaring mortgage rates, pending home sales rose 3.4% in March from the previous month that reflect transactions where the contract has been signed for the sale of an existing home, but the sale has not yet closed. It’s another sign that consumers are still spending.

“March’s Pending Home Sales Index – at 78.2 – marks the best performance in a year, but it still remains in a fairly narrow range over the last 12 months without a measurable breakout,” said NAR Chief Economist Lawrence Yun. “Meaningful gains will only occur with declining mortgage rates and rising inventory.”

The temporary inflation boost what is worrying the markets, but Treasury Secretary Yellen was reassuring markets today that it is temporary.

Thursday morning’s GDP report showed the Fed’s preferred measure of inflation, core PCE, rising to 3.7% in the first quarter of 2024, up sharply from 2% in the prior period that is mainly due to lagging rental rates based on annual rental contracts that aren’t yet reacting to growing supply of rental housing.

“When we look at the market for new rentals or for rents on single-family houses, what we see is those rents have stabilized, in some cases fallen,” Yellen said. “Ultimately that is what, over time, will govern increases” in the inflation statistics.

So it’s really a temporary supply shortage of everything this time of year that has boosted inflation, and the markets will soon realize this.

Harlan Green © 2024

Follow Harlan Green on Twitter: https://twitter.com/HarlanGreen

America's Ongoing Civil War

 Popular Economics Weekly

Alex Garland’s just released movie, Civil War, about a modern American civil war to unseat a Trump-like authoritarian president in the name of restoring democracy, is portraying an armed uprising that won’t happen today. The possibility of such a military rebellion ended 159 years ago when General Lee surrendered the Confederate Army at the Appomattox Court House in 1865.

Garland misses the point that Americans are fighting a different kind of civil war today as ugly and brutal in many ways but has morphed into an ongoing political and economic competition waged between red and blue states. There are still many casualties, however.

I had been writing about an ongoing civil war since 2013 when a contributing writer for Huffington Post. It caught the attention of Al-Jazeera-America, who interviewed me at the time for an article on the ideological war between Democrats and Republicans during the Obama Presidency.

I said then “…It (the Civil War) was about such men attempting to preserve slavery and state rights. Today, it is about not giving more rights to minorities and the poor.”

The ruling elites of the red states are mostly Republicans wanting to preserve their wealth with lower taxes and less federal government intervention. They want little or nothing to do with expanding such government programs as Obamacare. And the ultra-conservative Tea Party was formed to lead their movement.

A NYTimes 2010 poll had found18 percent of Americans who identify themselves as Tea Party supporters tend to be Republican, white, male, married and older than 45.

It was easy to see why the Tea Party was powerful at the time. Obama’s election in 2008 had reawakened the racism of the old south that was part of an economic apartheid system between the Haves and Have-nots remaining after the abolishment of slavery.

"You're here because now is the single best time we have to defund Obamacare," declared Senator Cruz, one of the Tea Party leaders in 2013. "This is a fight we can win." It didn’t happen, of course, because of a Republican Senator from Arizona after more than 30 attempts by Republicans to defund it.

But it has been conservatives’ battle cry ever since that has caused a tremendous economic toll on the red states, whose poverty levels remain much higher than in the coastal blue states; a distant echo of the carnage that ended 159 years ago.

Why is there another movie about an actual civil war? Maybe it’s because a former president and his supporters keep threatening to wage a new civil war, which might have happened if said former president had succeeded in stopping the Electoral College vote on January 6, 2021.

A better take on today’s uncivil, civil war are films about protests happening today, like an antiwar movie by docu-drama filmmaker Peter Watkins. It was a 1971 movie made during the Vietnam War I happened to be involved in called Punishment Park.

Peter Watkins, an English film director already acclaimed for The War Game, a movie about the devastating effect of a nuclear bomb attack on London, used a dry lake in California as the movie setting for a concentration camp to house those arrested for protesting the Vietnam War, because regular prisons were already overflowing with anti-war protestors.

The movie posited that President Nixon had decreed a State of Emergency under a little-known internal security act from the 1950s to tamp down opposition to the Vietnam War.

A kangaroo court made up of local citizens was set up to try those arrested. The convicted are then given the choice—a chance to escape across the desert without being recaptured for three days without food and water while being pursued by the National Guard, after which they would be released if they survived.

And Watkins added a European news crew in the mix to film the events within the film, highlighting the hostilities and brutality on both sides of the protests.

It bombed at the box office. But I heard it was more popular in Europe, where Peter Watkins was better known.

Why the continuing civil war between red and blue states? There are so many reasons. One can start with the innate tension between states’ rights and the federal government’s role in preserving universal rights that was baked into the constitution.

The constitutional debate then was between northern Federalists led by John Adams that wanted a strong central government, and southern states righters led by Thomas Jefferson, who by some miracle were able to agree on our constitution.

The only casualty at the time was the death of Treasury Secretary Alexander Hamilton from a duel with Vice President Aaron Burr.

In the name of lower taxes for the wealthiest and fewer government benefits for the less wealthy, red states have the same issues today, including the racial apartheid of blacks and minorities who receive much less of the economic pie in those states.

What happened on January 6 was a close call, of course, and maybe Garland was right to visualize a possible military outcome had the former president succeeded in stopping the Electoral College vote.

But the center held, as the saying goes, there has not been another civil war, because of our legal system, the third leg of government that provided the needed checks and balances.

Maybe the best description of what has preserved our democracy was President Lincoln’s reputed quote in the Lincoln Douglas debates of 1858: “You can fool some of the people all of the time, and all of the people some of the time, but you cannot fool all of the people all of the time.”

It is the best description of why citizens of democratic countries have a voice. The upcoming presidential election will be a test of how many citizens can be fooled, and whether we remain a democracy.

Harlan Green © 2024

Follow Harlan Green on Twitter: https://twitter.com/HarlanGreen

Elevated Rates Endangering Economy

 Financial FAQs

Early predictions show first quarter economic growth picking up, but a little-known indicator of future growth, the Conference Board’s Index of Leading Economic Indicators (LEI) in March highlighted the danger that high interest rates hold for future growth.

The LEI’s year-over-year growth remains negative, but is on an upward trend

ConferenceBoard

“Overall, the Index points to a fragile—even if not recessionary—outlook for the U.S. economy. Indeed, rising consumer debt, elevated interest rates, and persistent inflation pressures continue to pose risks to economic activity in 2024,” said Justyna Zabinska-La Monica, Senior Manager, Business Cycle Indicators, at The Conference Board.

And the Atlanta Federal reserve boosted their GDPNow estimate of Q1 growth once again.

“The GDPNow model estimate for real GDP growth (seasonally adjusted annual rate) in the first quarter of 2024 is 2.9 percent on April 16, up from 2.8 percent on April 15, after the increase of first-quarter real personal consumption expenditures growth and first-quarter real gross private domestic investment growth.”

We know why elevated interest rates pose a danger to growth. They hurt the manufacturing and housing sectors, for starters, that rely on investment spending to build new equipment or new housing, which is directly affected by the cost of money—and there are 7 percent fixed-rate mortgages for homebuyers and owners wanting to refinance.

Manufacturing is just beginning to come out of the doldrums. The Institute for Supply Management’s latest purchasing managers index for US manufacturing, a monthly survey that gauges economic activity, rose more than expected in March to a reading of 50.3, the first time the index has registered expansion since September 2022.

And Existing-home sales slipped in March, according to the National Association of Realtors^®. Among the four major U.S. regions, sales slid in the Midwest, South and West, but rose in the Northeast for the first time since November 2023. Year-over-year, sales decreased in all regions.

“Though rebounding from cyclical lows, home sales are stuck because interest rates have not made any major moves,” said NAR Chief Economist Lawrence Yun. “There are nearly six million more jobs now compared to pre-COVID highs, which suggests more aspiring home buyers exist in the market.”

The Federal Reserve’s Beige Book, based on anecdotal evidence from the 12 districts collected over the past six weeks, was favorable in that it showed softening of activities that boost inflation.

“Economic activity increased slightly, on balance, since early January, with eight Districts reporting slight to modest growth in activity, three others reporting no change, and one District noting a slight softening. Several reports cited heightened price sensitivity by consumers and noted that households continued to trade down and to shift spending away from discretionary goods.”

So maybe the Fed’s credit restrictions are slowing consumer spending, but a far greater danger is that it penalizes producers that make the things businesses and consumers buy, making them more costly, thereby keeping prices higher.

The Conference Board’s LEI best illustrates the problem. The Fed’s efforts to lower inflation are stymied by its own inaction on bringing down interest rates, which are continuing to climb in some markets.

The LEI has stalled, fluctuating at a breakeven point between growth and recession. It decreased by 0.3 percent in March 2024 to 102.4 (2016=100), after increasing by 0.2 percent in February. Over the six-month period between September 2023 and March 2024, the LEI contracted by 2.2 percent—a smaller decrease than the 3.4 percent decline over the previous six months.

The best way to lower the price of things is to make more things, which  means in part lowering the cost of money to make them.

Harlan Green © 2024

Harlan Green on Twitter: https://twitter.com/HarlanGreen

Retail Sales Boost Q1 Growth

 Financial FAQs

Consumers haven’t slowed shopping, even during tax season. They keep boosting economic growth which is edging above 2 percent annualized predictions again.

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Retail trade sales were up 0.8 percent (±0.5 percent) from February 2024, and up 3.6 percent (±0.5 percent) above last year, said the US Census Bureau. Nonstore retailers were up 11.3 percent (±1.6 percent) from last year, while food services and drinking places were up 6.5 percent (±2.1 percent) from March 2023.

The Atlanta Fed’s GDPNow model estimate for real GDP growth (seasonally adjusted annual rate) in the first quarter of 2024 rose 2.8 percent on April 15, up from 2.4 percent on April 10, “…after increases in nowcasts of first-quarter real personal consumption expenditures growth and first-quarter real gross private domestic investment growth.”

This is at the high end of Blue-Chip economists’ estimates; no wonder with such robust consumer spending, but this confuses the inflation picture.

It is an economic fact that indicates the US economy is doing very well, and that Main Streeters should believe it, contrary to the polls, I said last week. But will economic facts win out over the irrational pessimism showing up in consumer polls? The facts win out in retail sales.

The problem with the irrational pessimism measured by polls is that it seems to be largely based on the inflation picture. The fluctuating inflation indexes are higher at the moment because of housing rents that are adjusted once per year.

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But another inflation index, core CPI inflation without food, energy, tobacco or alcohol, the Harmonized Index of Consumer Prices (HICP) used by Europeans as a more accurate indicator of longer term inflation, indicates the inflation rate has been at or below 2 percent since June 2023, like the Producer Price Index.

Then why does the Fed keep saying they are unsure inflation has been tamed when rents are outside of their control? Because of “unknown knowns,” to paraphrase former Bush Defense Secretary Donald Rumsfeld when he was attempting to justify the invasion of Iraq?

He said in attempting to justify the unknown fact that Saddam Hussein had weapons of mass destruction that: “There are known knowns, things we know that we know; and there are known unknowns, things that we know we don't know. But there are also unknown unknowns, things we do not know we don't know.”

How is that a justification for anything? The same uncertainty can be said of unknown future economic events, so keeping interest rates at their maximum 5.25 percent and the Wall Street Prime Rate at 8.5 percent to suppress consumer borrowing when not knowing what are the future shocks that could again disrupt supply change, like the Covid pandemic and Ukraine war, are “things we do not know we don’t know.”

But with fixed 30-year mortgage rates again above 7 percent, we know it is hurting the housing market at a time when more housing is desperately needed.

Atlanta Fed President Rafael Bostick has been sounding the alarm on the housing shortage yet has been one of the Fed Governors reluctant to support lowering the Fed’s interest rates.

Bostic said in a recent conference, “Nationally, a household that earns the median income—roughly $75,000 a year—must spend 41 percent of that just to own the median-priced home, which would cost about $359,000. That percentage far exceeds the standard threshold for affordability, which is 30 percent.”

This is not an ‘unknown known’, since we know that lower interest rates would boost housing construction and hence supply, thereby bringing down rents and housing prices. Privately‐owned housing starts in March were14.7 percent below the revised February estimate . Single‐family housing starts in March were 12.4 percent below the revised February estimate.

Can we blame consumers for doubting the sincerity of the Fed Governors about inflation when they contradict themselves?

Harlan Green © 2024

Harlan Green on Twitter: https://twitter.com/HarlanGreen