Content area
[...]Sarah House, Wells Fargo's senior economist, predicts a maximum 0.4 percent CPI inflation hike if the President's 25 percent tariff on Chinese imports is put into effect. The St. Louis Fed predicts a 2.8 percent decline in productivity growth between 2020 and 2040 as baby boomers retire and take their human capital with them. Since the first quarter of 2018, new business formation has reversed course after eight years of steady growth. RATES EXPECTED TO HOLD The market expects the Fed to keep the key interest rate steady in June but reduce rates in July amid restrained inflation and declining new job creation. Board = Conference Board, New York, New York; Fannie Mae = Fannie Mae, Washington, D.C.; GSU - EFC = Georgia State University, Economic Forecasting Center, Atlanta, Georgia; ICIMS=Holmdel, New Jersey; Moody's Economy = Moody's Economy.com, Westchester, Pennsylvania; Mortgage = Mortgage Bankers Association, Washington, D.C.; NAM = National Association of Manufacturers, Washington, D.C.; Perryman Gp = The Perryman Group, Waco, Texas; Royal Bank of Canada, Toronto, Ontario, Canada; S&P = Standard & Poor's, New York, New York; US Chamber = U.S. Chamber of Commerce, Washington, D.C.; Wells Fargo = Wells Fargo Bank, San Francisco, California.
In June, the U. S. economic recovery that began in June of 2009 hit its tenth year, matching the previous longest recovery cycle of March 1991-March 2001. There are signs of slowdown but no signs of recession in the foreseeable future, making the current cycle the expected longest recovery period in U. S. history. What is equally noteworthy is that despite the fifty-year low unemployment, there is no inflationary pressure in sight. We believe that both the U. S. labor and businesses have matured as a result of the great recession shock and are conducting themselves with great restraint. Similar to the Germans, no one seems to be interested in living in an inflationary cycle. The national net worth has rebounded from the biggest drop since 2004, by $3.96 trillion in 2018: Q1 to $4.69 trillion growth in 2019: Q2 with equity and home prices making up the majority of the gain. This phenomenon points to further deepening of wealth distribution disparity with longterm implications in term of consumption, savings, education, social mobility, and productivity growth. Homeownership is rising only among those who can afford pricier homes. The Bureau of Economic Analysis reported the first quarter of GDP growth at 3.2 percent, well above the Dow Jones expected 2.5 percent. Our consensus puts the growth in the GDP at a conservative 1.55 percent between 2019: Q3 and 2020: Q2.
CONSUMERS: HOME OWNERSHIP AT ALL TIME LOW
Thanks to the Fed slowing down in reducing its balance sheet to tighten the credit market, mortgage rates have trended down. However, a mix of low stock and high priced new homes is making home purchases out of reach for many households. Homeownership hit another all-time low at 62.9 percent in 2016: Q2, matching the same rate in 1965: Q1. Homeownership has rebounded somewhat to 64.2 percent in 2019: Q1, well below the 69.2 percent we saw in 2004: Q2. Historically, homeownership has been the major source of wealth for most U. S. Households, with the smoothing effect of consumption through business and life cycles. The low homeownership rate will contribute to volatility in consumption spending both in the short-run and the long-run during the retirement age. Consensus puts the growth in personal disposable income at 3.24 percent by the middle of 2020, slightly above the personal consumption expenditure of 3.13 percent, leaving practically no surplus to contribute to household savings. Consensus expects unemployment to reverse course between 2019: Q3 and 2020: Q2 from 3.69 percent to 3.74 percent. The Conference Board Consumer Confidence Index dropped to 97.9 in June, down from 100 in May, due to the rising trade tensions and low new job creation. Jay Bryson of Wells Fargo points to the shift in the age distribution of U. S. households that is expected to impact their consumption spending mix. Due to the aging of the population, healthcare, education, and food are expected to gain, while transportation, housing, and apparel are expected to experience slippage. Some of the changes in consumer spending are due to the change in relative prices and not the consumption mix. For example, in the past thirty years, food prices have doubled while the price of healthcare has risen threefold. The Chained Price Index and the Consumer Price Index are expected to rise by 1.5 percent by mid-2020, consistently missing the Fed's target of 2 percent. However, Sarah House, Wells Fargo's senior economist, predicts a maximum 0.4 percent CPI inflation hike if the President's 25 percent tariff on Chinese imports is put into effect. On the other hand, if importers do not pass the full tariffs to consumers, the inflationary effect on the CPI could be less and only a one-time transitory shift at best. A stronger dollar and devalued Renminbi is expected to help keep the price of imports in check.
FIRMS: CORPORATE PROFITS FALL AND NEW JOB CREATION DROPS
Growth in corporate profit has reversed course with a 3.5 percent decline in the first quarter of 2019 and zero change in the last quarter of 2018. Nonfarm business labor productivity jumped by 3.4 percent in the first quarter of 2019, with a 2.4 percent average for 2018: Q1-2019: Q1. Unit labor cost declined by 1.7 percent in the first quarter of 2019, mitigating the impact of hourly wage growth. The drop in corporate profit could be the culprit behind the surprisingly low new job creation in May of 75, 000. In the first five months of 2019, average new job creation stands at 164, 000, compared with the average of 223, 000 in 2018, signaling the winding down of the 10-year expansion. The St. Louis Fed predicts a 2.8 percent decline in productivity growth between 2020 and 2040 as baby boomers retire and take their human capital with them. Since the first quarter of 2018, new business formation has reversed course after eight years of steady growth. Consensus expects total light-vehicle sales to decline by 0.32 percent by mid-2020 to 16.78 million units. Non-residential fixed investment is expected to rise by 3.1 percent by 2020: Q2, up from the 2.84 percent we reported in the last issue. Industrial capacity utilization is expected to decline slightly to 78 percent. Consensus expects the triple-A corporate bond rate to rise from 3.7 percent in 2019: Q3 to 3.95 percent in 2020: Q2, increasing the cost of private corporate borrowing slightly. Private housing starts are expected to slowdown in growth relative to what we reported in the last issue, from 1.29 million to 1.26 million units, with a focus on more luxury homes. Growth in urbanization is making land more scarce, pushing up the value of homes constructed on limited land. This phenomenon supports the prediction that in the future, the less affluent will live in the suburbs with a longer commute.
INTEREST, CREDIT, AND THE FED: RATES EXPECTED TO HOLD
The market expects the Fed to keep the key interest rate steady in June but reduce rates in July amid restrained inflation and declining new job creation. The Fed has dropped the word 'patient' from its announcements, signaling its willingness to react if the economy slows down too fast. The Fed already has slowed down offloading the bonds on its balance sheet to ease monetary policy. The consensus puts the Federal Fund Rate at 2.29 percent by mid-2020. Rajeev Dhawan, of Georgia State University, points to two shocks to the economy related to the Boeing 737 Max planes and the stress in the oil market due to geopolitical issues in Venezuela, Libya, and Iran. Dhawan credits the 2017 tax cuts and Job Acts for strong the 2018 growth that is now wearing off. Shocks to the equity market counter balanced growth in employment and income, leaving retail in a weak position overall. The closely watched Empire State Manufacturing Index, compiled by the New York Fed, tumbled to 8.6 from a 17.8 reading in May. The Institute for Supply Management and the Markit PMI point to either flat or contracting figures in Manufacturing, a sector that has created only 500, 000 new jobs since President Trump entered the White House. Just 13, 000 of those were created in 2019. Although many believe that the Fed should, and will, reduce the key interest rate, not everyone agrees that it will help if the economic slowdown is driven by tariffs and a tight labor market.
CONCLUSION
The U. S. economy is doing well in terms of employment, income, and stable prices. There are also some headwinds that are expected to impact the long-term welfare of the population. The decline in home ownership and rising equity wealth will contribute to a growing wealth distribution disparity that has been plaguing the U. S. economy for some time. If not addressed, wealth disparity will have long-term consequences ranging from sluggish labor productivity, social mobility, the decline in physical and psychological health, and dependency on opioids and alcohol. The population with the most wealth are increasing their fertility, spending heavily on educating their children and are working longer hours while middleclass working hours have declined, making tens of millions underemployed with declining productivity. In years past, a loan officer job meant full-time employment with a middleincome lifestyle. This segment of the population is losing ground, and increasingly feels insecure about their current and retirement years. The data from the Federal Reserve point to the spread of the 'left behind' to all elements of American society except the top ten percent. Income stagnation of the middle and upper middle class that make up the engine of economic growth is worrisome. The prices of what the middle and upper middle class buys such as homes, education, and autos are rising faster than income, pushing this population segment to tap into costly debt. As my elders would say, many families are keeping their rosy cheeks by slapping themselves in the face. The Atlanta Fed points to rising property tax for the majority of single-family homeowners. Only 25 percent of the population is experiencing income growth faster than growth in property taxes. Forty-eight percent of American households over the age of 55 still have no retirement savings. The median 401 (k) account value for an investor age 65 and older is a meager $58, 035 at Vanguard. With tens of millions retiring or near retirement with no savings, we expect tremendous pressure on their children and their families who are already struggling to put their children through college and pay off their mounting debt.
-Send Comments to: [email protected]
Copyright Journal of Business Forecasting Summer 2019