A deeper dive

Review the Fed Previews

Jacob Hess
September 20, 2021

The Week Behind (& The Week Ahead)

We've had a few central banks reports so far in September, but they've all been warming us up for the one of the bigger FOMC meetings in recent time. We'll be combining the "Week Behind" and "Week Ahead" sections to spotlight some top commentary previewing the Fed meeting. Some think that tapering is still an option in September despite the trouble that has come with Delta, but the conesensus has become more ambigiuous as uncertainty has risen. New projections also introduce another level of anxiety as inflation expectations could see major adjustments if the Fed indicates that year-end inflation is set to be higher than previously forecasted. There certainly is a lot to unpack, here are some thoughts:

ING: A no change decision at the upcoming FOMC meeting looks a foregone conclusion. The Fed funds target range will be kept at 0-0.25% and monthly asset purchases maintained at $120bn per month despite decent activity data and elevated inflation readings that are running at double the Fed’s 2% target. Just six weeks ago this wasn’t necessarily going to be the case. Several regional Fed presidents were openly questioning the need for quantitative easing stimulus, including St. Louis Fed President James Bullard who argued “it’s not clear to me that we’re really doing anything useful here”. Dallas Fed President Robert Kaplan agreed, stating “these purchases are not well suited to the environment we’re in now… I think the best thing to do is, early, begin weaning off that medication”. Several others spoke of it being at least “appropriate” to start the discussion of “dialling back” the stimulus

Danske Bank: The Fed is in a difficult position amid slower growth and still high inflation. Given the weak jobs report and lower-than-anticipated inflation in August, we expect the Fed will refrain from providing more details at this meeting, as the Fed has already made it clear that tapering is set to begin before year-end. We believe the tapering pace is more important than the timing. We continue to expect that tapering will be concluded in mid-2022. We expect the Fed to raise the ‘dots’ by signalling the first rate hike in 2022 (up from 2023 currently). We still expect the first rate hike in H2 2022 in either September or December.

Wells Fargo: The Federal Reserve is currently purchasing $80 billion worth of Treasury securities and $40 billion worth of MBS every month, and many market participants look for the FOMC to commence a "tapering" of its asset purchases in the near future. In our view, the disappointing labor market report for August and the uncertainties imparted by the recent surge in COVID cases on the economic outlook mean that an announcement of tapering at the upcoming meeting is quite unlikely. However, it is important not to miss the forest for the trees. Progress continues to be made toward the Committee's goal of "maximum" employment. Unless the economic recovery is completely derailed over the next few months, we believe a taper announcement will be forthcoming at either the November or the December FOMC meetings. The Committee could potentially use its statement to signal the timing of tapering commencement. For example, changing the first sentence of the statement and/or characterizing the risks to the economic outlook as more "balanced" could signal that the FOMC believes that tapering is imminent. That said, we believe that the Committee will refrain from making substantive changes to the wording that it uses in the September 22 statement. Will the "dot plot," which shows the expected pace of rate hike among the 18 Committee members, shift? A downgrade to GDP growth forecasts could cause some dots to shift lower. But forecasts of lingering inflation next year may lead some members to conclude that the pace of tightening that they expected three months ago is still warranted.

TD Bank: The Federal Open Market Committee meets next week to deliberate on the course of monetary policy. Importantly, the Fed’s statement will come alongside renewed projections for economic growth, unemployment and inflation. Economic growth projections are likely to be downgraded, but to rates that are still well above trend. The pace of improvement in unemployment is also likely to be slowed, but still make progress. The inflation forecast is also likely to see an upgrade in the near-term, marking to the data. With these economic views, the Fed is likely to communicate that in order to ensure inflation remains transitory it must begin preparing to withdraw policy support. The first step is to slow the pace of asset purchases, which is likely to happen this calendar year. The Fed’s statement is likely to emphasize that this does not mean that policy rate hikes are around the corner, but as long as growth continues, they may not be too far on the horizon.

CIBC: Quantitative easing, at least at its current pace, may still have outlived its usefulness. Bond yields are so low that the case for maintaining the current pace for Fed purchases isn’t obvious. Each time the Fed takes bonds off the market in exchange for reserves that pay a floating rate, it shortens the term structure of federal debt held by the public, as those overnight reserves are also a government liability. With that debt now much higher than pre-pandemic, it might be prudent to curtail such term shortening if the economy doesn’t need it. But the market will still see a tapering announcement as a sign of increased confidence in the economic outlook. Given the recent clouds from both Delta and the last payrolls data, the Fed could well decide to wait one more meeting before setting its plans in stone. That ties into one other power that Jay Powell doesn’t have: the ability to predict the course of the pandemic. The Fed’s headquarters, and each regional office, are flush with economists, not epidemiologists. The FOMC will publish its economic outlook, one likely dented a bit in the near term, but full of confidence about both dampened supply-shock pressures on prices, and an improving jobs market, as we move through 2022. It might even bring forward some of the rate hikes that lie further out in the future.

Pictet Wealth Management: The main message from the Federal Open Market Committee (FOMC) meeting on 22 September will likely be that the Fed will announce QE tapering at the following meeting, on 3 November. This would be in line with the well-telegraphed schedule; we think Chairman Powell, who is seeking re-nomination, is mostly in ‘do-no-harm’ mode for now.

Chart of the Week


No Tapering Yet

Jacob Hess
September 13, 2021

The Week Behind

The rebound in global economic growth has brought central banks in the spotlight as they look to unwind from accommodative positions. The situation is tenuous and has been made complicated by volatile public health conditions as various countries face troubles from resurging COVID infection rates. It has become a delicate balancing act for the mouthpieces of monetary policy trying to acknowledge the renewed risks while ensuring markets to stick to the plan. Last week, three central banks from developed nations took the stage to do just that: the Reserve Bank of Australia (RBA), the Bank of Canada (BoC), and the European Central Bank (ECB).

The RBA finds itself in grappling with normalization as Australia sees its worst wave of COVID infections since the pandemic began. The most recent 7-day case growth rate of 1,739 beats the previous high of 552 on Aug 2020. Regional lockdowns have been reinstated and have already started to restrict activity. The RBA acknowledges that strong growth is set to be interrupted: "GDP is expected to decline materially in the September quarter and the unemployment rate will move higher over coming months." However, in a bid to maintain optimistic, it assures of the "temporary" nature of the setback and emphasizes that only some regions are facing contraction while others are "continuing to grow strongly."

Despite the uncertain conditions, the RBA moved ahead with its reduction in government security purchases from $5 billion to $4 billion, but it extended the length of the program from "until early September" to "at least mid-February 2022." Tapering in number only. In reality, the cumulative effect of the changes indicates an increase in quantitative easing if this pattern holds through early 2022. The change also contradicted a quote from the July meeting where the RBA looked to move away from a "commitment to a specific rate of purchases over an extended period of time." This detail shows how disruptive the new restrictions have been in advancing towards normalization. As a result, the RBA remains on the offensive.

A day later, the BoC's monetary policy announcement was released. Canada's recent rise in COVID infections has not been as bad as previous waves and, consequently, has not forced lockdowns in the same way. However, that has not stopped growth from stalling. GDP fell by about -1% in Q2 2021 and shorted the BoC's July projections as supply chain disruptions and a housing activity pull back weighed. On a positive note, the bank pointed out that "domestic demand grew at more than 3%." Indeed, employment and consumption avoided contraction despite the spike in COVID, and elevated inflation continued. These positive factors led the BoC to say that "the Canadian economy still has considerable excess capacity."

Regardless of that assessment, Canada's central bank held firm on policy rates and the pace of asset purchases. This was largely expected, and in fact, with Delta risks materializing, it was thought the BoC could go either way in its decision. Instead, the Governing Council remains in wait and see mode. Tapering remains on the table later this year if the recent contraction proves to be temporary, and inflation stays elevated. The BoC acknowledged "CPI inflation remains above 3 percent as expected" and is still monitoring the inflation and labor market releases. Like the Fed, it will use the jobs recovery to guide its decision making regarding tapering. According to Statistics Canada, "Employment is within 156,000 (-0.8%) of its February 2020 level, the closest since the onset of the pandemic." It would not be a surprise to see a reduction in asset purchases next meeting or two.

Finally, the ECB took the stage to end the week. Its monetary policy decision is the 2nd after it shifted its monetary policy strategy to adopt a "symmetric 2% inflation target over the medium term" in order to acknowledge that inflation over the target 2% is equally undesirable as inflation below 2%. The most recent measure of inflation came in at 3.0% YoY in Aug, up from 2.2% YoY in Jul. However, core inflation (ex-unprocessed food, energy) was closer to the target at 1.6% YoY. Combine this with a solid rate of GDP growth, and the ECB is looking at a solid euro area recovery that is relatively undisturbed by the new Delta cases. Like the previous two central banks, tapering was definitely on the table.

And we got the smallest taste of that tapering. The ECB maintained policy rates and APP purchase rates while choosing to reduce PEPP purchases to "a moderately lower pace of net asset purchases under the PEPP than in the previous two quarters." While the ECB is not known for tapering, this change was mostly expected and acted as a signal to markets that the Governing Council sees the increase in inflation and that it is impacting their deliberations. This was also evident in the release of the Sept economic projections where growth and inflation projections increased over June. In fact, the ECB now admits that it expects to see 2.2% HICP inflation at the end of the 2021, up from 1.9% projected in June. It is likely that this will set the stage for further tightening of the APP and PEPP purchases by early next year. Of course, there will be consideration of near-term economic conditions, but they aren't expected to change: "Real GDP growth is expected to increase again vigorously in the third quarter."

Three developed market central banks, three passes on tapering. This sets the stage for the Fed to decide whether it wants to take pole position in tapering among advanced economies. Recent soft economic data could delay that, but there are still some expectations that the September decision will come with reduced asset purchases.

Chart of the Week


Tapering remains on the table for Australia, Canada, and the euro area as their central banks take a pass in their September meetings.

The Week Ahead

Inflation reports for the US, the UK, and the eurozone will come out this week to set the stage for the Fed next week. We'll also see the initial reading of September consumer sentiment on Fri after it took a sharp negative turn in August. There should be a bit of a bounce there as Delta risks have settled but likely not a large one. Elevated input prices finally falling through to the consumer continue to weigh on the personal finances of consumers.

Labor Day on Labor Day

Jacob Hess
September 06, 2021

The Week Behind

It’s Labor Day and it's time to look at labor day. That's right, last week we got an update on the labor market that followed the Fed's central banking conference in Jackson Hole, and with tapering still on schedule, many were wondering if the newest employment gain would get in the way. In addition to that, the report would give an idea of what kind of effect that the Delta variant would have on hiring. According to last week's CotW, August PMIs suggested that the effect might not be that much. However, the generally disappointing report might be evidence to the contrary.

Total nonfarm payroll employment grew by 235,000 in August and the unemployment rate fell -0.2% to 5.2%. While gains were made, the number was well off expectations, short of expectations by about 500,000. Wells Fargo was thoroughly disappointed, calling the report a "major miss at a critical time." For TD Bank, the steep decrease in hiring suggesting that "the risks in the coming months are firmly to the downside" as Delta continues to run rampant in the US. Those risks were made more material for CIBC which stated that it would now more than likely decrease its forecast for H2 GDP growth in the US. These were just three voices of the many that were sharing their disappointment. Many of them are also less sure of a tapering announcement in September.

While the consensus seems to be that the report was a major downer for the outlook of the US economy, we're here to provide a few counterpoints:

  • While the number of job additions was low, there was still a solid drop in permanent job losers. In August, permanently unemployed fell -443,000 compared to -257,000 in July. This was the largest drop since December 2010, larger than all of the declines in permanent unemployment during the pandemic recovery.
  • On the other hand, temporary layoffs were essentially flat in August and remain at 1.3 million. Recovery in this category has been quicker than the permanent category, and therefore, acts as the "low hanging fruit" in the labor market. Permanent unemployment can be a more chronic condition.
  • While the leisure and hospitality employment gain (the most sensitive to COVID factors) was 0, it wasn't negative. When infections rose at the end of 2020, the leisure and hospitality sector lost -525,000 jobs in two months, and that effect wasn't visible in the August report. This does provide evidence for the efficacy of vaccines in protecting the economy from further decline.
  • July and June data was revised upward by a significant amount. The Establishment Survey data for July was revised up from 943,000 to 1.1 million in July and from 850,000 to 962,000 in June. With revisions in these months, there might be reason to believe that August could also get an upward revision. However, it is unlikely the revision would come near expectations.

For all the disappointment that came with the jobs report, it seems unlikely that tapering is going to be delayed. The Fed might be inclined to label the Delta effects at "transitory" just like it did in discussing inflation. The market did not see the Fed getting more dovish as yields were unchanged in trading on Friday of last week. It all kicks off at the September Fed meeting.

Chart of the Week

Data from FRED

Temporary layoffs have skyrocketed during the COVID pandemic but were also quick to recover. Permanent job losers have recovered at a slower rate.

The Week Ahead

The Reserve Bank of Australia, the European Central Bank, and the Bank of Canada announce this week representing developed market central banks. These announcements precede the long awaited Federal Reserve meeting in September with tapering expected.

With That, We Carry On

Jacob Hess
August 30, 2021

The Week Behind

The Federal Reserve's Jackson Hole conference closed out the previous week with central bankers gawking over monetary policy research and updates. Chair Jerome Powell opened the proceedings with a speech titled "Monetary Policy in the Time of COVID." As many expected, he guided on tapering and how it should be expected in the latter half of 2021. However, he was very keen to separate the coming asset price reductions from rate hikes in the future: "The timing and pace of the coming reduction in asset purchases will not be intended to carry a direct signal regarding the timing of interest rate liftoff, for which we have articulated a different and substantially more stringent test." The development of the effects of the Delta variant have brought about different conditions than were felt in Q1 and early Q2. In fact, the new peak in infections manifests the risks and uncertainties that the Fed had mentioned before.

The UMich consumer sentiment indicator showed the disruption the most in its most recent edition of the survey. The indicator fell -13.4% on a monthly basis in August dropping it -5.1% below the level from a year ago. Consumers' expectations worsened the most, a -17.6% drop, as the Delta variant caused them to be more cautious. There almost certainly will be a ripple effect in personal consumption that the Fed will heed in its review of economic conditions. Jobless claims also took a step back with an increase of (just) 4,000 to 353,000 in the third week of August adding to the stalling of the recovery there. However, the states with the highest infection rates aren't necessarily acting as one would suspect, so we are unlikely to see another capitulation to subsidized joblessness. This is good news for hawkish Fed members patiently waiting for the labor market that the central bank has clearly prioritized.

The biggest release of the week came at the end when the Bureau of Economic Analysis reported on personal income and outlays for July. The 1.1% monthly increase in personal income made a case for a strong summer as growth in jobs and wages bolstered consumer's financial prospects. However, in the same month, personal consumption growth slowed to just 0.3% MoM after a 1.1% gain in June, possibly showing the early effects of the Delta variant. Expect more disappointment in August. In addition to data on income and consumption, we got an update on the PCE Price Index and the Core PCE Price Index, the measures that the Fed use to track inflation for monetary policy. Both gained on a monthly basis, but at a slightly lower pace. The headline PCE Price Index yearly gain was 4.2%, quicker than June at 4.0%, and the Core PCE Price Index remained up 3.6% YoY. Both have been above the 3.0% level for 4 months now and show little signs of slowing. At face value, they also seem to be consistent with how the Fed envisioned post-pandemic inflation would run.

In the end, nothing groundbreaking seems to have come from the Jackson Hole meet-up. Expectations of tapering have been majorly updated with most commentary from banks and investors maintaining the view that tapering will begin in H2 2022. And because the Fed has warned of risks to their outlook along the way, there doesn't seem to be a huge surprise in the rise of Delta. And with that, we carry on.

Chart of the Week

Data for Dallas Fed, NY Fed, Phiadelphia Fed, NY Times

Employment indexes in many Federal Reserve manufacturing surveys have remained strong despite the recent rise in the COVID-19 infection rate. This suggests that the impact from the recent wave of Delta variant infections on the labor market is likely to be much weaker than the initial wave of the pandemic was. This should will allow the Fed to continue as planned on tapering.

The Week Ahead

Several more indicators of supplier activity in the US will be revealed as manufacturing orders data for July comes out. Personal income and consumption comes out after that. These reports follow the flurry of Flash PMI reports from IHS Markit that will give a glimpse of August business conditions. From Jackson Hole, the Fed will be watching these reports and hoping they will show some easing in the supply constraints. The solid industrial production from last week should give us hope that these economic releases will tell a similar story.

Supply Pressures Looking to Peak

Jacob Hess
August 22, 2021

The Week Behind

It's been some time since we saw some choppiness in markets, and we finally got some this week. The S&P 500 fell -0.59% and the Nasdaq fell -0.73% after a solid Friday offset some losses early on in the week. Asian stocks performed worse with China's regulatory crackdown lingering. In the week, the Shanghai Composite fell -2.5% and the closely related Hang Seng index (in Hong Kong) fell -5.8%. Risks are making themselves known especially as US equities sit near all-time highs and the VIX ready to jump from its coiled position. The volatility also expressed itself in a major move lower in the price of oil. WTI futures started the week above $68 and fell towards $62 a barrel, reportedly, on worries that growth would slow due to Delta and tapering. Combine the downward move in oil markets with other commodities staggering lower (Bloomberg Commodity Index down -3.7% last week) and you've got a nod to the "transitory" inflation narrative.

Updates on business activity in the US came through retail sales and industrial production early on in the week. Retail sales stumbled to a -1.1% decline in July after a small gain of 0.7% in June. Motor vehicles & parts sales was the major factor in the decline (total retail sales ex-motor vehicles at -0.4%) with a -3.9% drop. The other sectors saw mixed movements but most were still 10-15% above a year ago. Food service & drinking places sales continued on its reopening path, up 1.7% in July and up 14.7% in the May-July 2021 period over the February-April 2021 period. The days of surging retail sales are over, and the summer spending bump was slightly disappointing. May-July 2021 retail sales were just 2.8% higher than the February-April 2021 period. There has been discussion of slower goods spending shifting to stronger service spending as the recovery continues in the latter half of 2021, and the sour July report provides evidence of this shift. The latest Quarterly Services Report has also been supportive of that narrative with service revenue growth up 4.0% in Q2 2021, up from 2.5% Q1 2021. Ceteris paribus, the trend will likely continue with goods sales returning back to a pre-pandemic path, and service spending strong in Q3. However, Delta virus risks remain.

Auto production up in July, but still sluggish.

While the demand front faltered in July, the supply side stepped forward with a solid industrial production number, up 0.9% month over month. The solid gain was mostly broad-based with end product growth up 1.6% (consumer goods up 1.0% and business equipment up 2.8%). Construction supplies bounced 0.9% after three straight declines. The short-term cooling of the real estate market likely led to these later spring early summer drops, but consistently high homebuying demand and the end of inflated lumber prices will keep construction production near and above peaks. Most importantly, we saw a large monthly spike in motor vehicle and part production, up 11.2% in July, that will help assuage fears of persistently high prices in the auto market. Primary metals and machinery production gains of 1.2% and 1.0% will also play into a "transitory" inflation narrative. Overall, observers can take the strides suppliers are making as a sign that constraints from low input inventories, high costs, and labor shortages began to peak in July. Total industry capacity utilization sits at 76.1%, well off the lows of 71.5% from a year ago, but still below the long-term average around 80%. The next round of stimulus through infrastructure spending is sure to heat industrial production even more, but could it prove to be too much? That remains to be seen and could depend on how much accommodation the Fed decides to keep in its monetary policy.

Chart of the Week

Data for US, Euro area, Canada, Japan, UK, Australia

Where's the inflation? The US leads the developed world in all CPI categories. Canada and Australia are close behind while the EU and the UK are seeing moderate price pressures. Japan's deflationary struggles continue as COVID makes a reappearance.

The Week Ahead

Several more indicators of supplier activity in the US will be revealed as manufacturing orders data for July comes out. Personal income and consumption comes out after that. These reports follow the flurry of Flash PMI reports from IHS Markit that will give a glimpse of August business conditions. From Jackson Hole, the Fed will be watching these reports and hoping they will show some easing in the supply constraints. The solid industrial production from last week should give us hope that these economic releases will tell a similar story.

Cars are Still Expensive, Workers are Still Needed

Jacob Hess
August 15, 2021

The Week Behind

US economic news last week gave us a lot to digest with several reports continuing to document the pace of the recover. Notably, the JOLTS and productivity and costs reports gave another glimpse of the labor market (after the booming jobs report) and CPI and PPI prints updated the inflation scoreboard. It was more of the same theme: demand from reopening continued to outstrip the ability of businesses to satiate it. However, last week the discussion of the economy felt less centered on these key indicators as concerns over the Delta variant dominated the headlines. Indeed, Wells Fargo downgraded its outlook for Q3 and Q4 GDP (projections down -1.9% and -2.0%) and even its full year view (projection down -0.8%). Regardless, let's dive in anyways.

The JOLTS report showed another record high in job openings as it surpassed expectations. Hires took off while separations rose only on increased quits. Evidence continued to point towards workers moving around and taking advantage of the tight labor market. The largest jump in openings was in the professional and business services sector (227,000) which almost doubled the struggling accommodation and food services sector (121,000) that is still bouncing from COVID lows. The sectors were flipped in the July jobs report with the former adding just 60,000 jobs while the latter added 380,000. The dynamics in these sectors represent the two labor trends present in the post-COVID economy:

  • Businesses posting new job openings for jobs that were unfilled previously due to depressed activity. These businesses are seeing large positive employment changes due to low quit rates (accommodation and food services: 40k quits vs 122k hires in June).
  • Businesses posting job openings for newly vacant positions. Job gains are mostly net neutral here because it involved a quit and a hire (professional and business services sector: 106k quits vs 246k hires in June).

With job openings at all-time highs, one would expect wages to be tracking high as well. That does not seem to be the case. The Productivity and Costs report for Q2 2021 showed that unit labor costs for all firms were up just 0.1% YoY as hourly compensation grew 2.0% YoY, just barely above productivity up 1.9% YoY. Manufacturing unit labor costs actually fell -5.8% YoY as output surged 16.5% YoY while hourly compensation was only up 0.6% YoY. However, the comparison was at least partly affected by low bases in Q2 2020 when government support (ex PPP program) was put in place to preserve the paychecks of workers despite lower output (and therefore productivity). This report suggests that inflation is not being driven by labor costs directly. Instead, it's possible that the disappointing growth in compensation (see negative real hourly compensation in Q2 2021) is discouraging potential workers from entering a very tight labor market.

Speaking of inflation, we got a double dose of it this week with the PPI and CPI releases. Businesses continued to see hot prices with another monthly gain of 1.0%. That makes 7 straight months of monthly gains over 0.7%, a truly robust period of consistent price increases. Core PPI is now up to 6.1% YoY, the highest since August 2014. There was an interesting divergence between core processed goods and core unprocessed goods. Nonfood unprocessed materials less energy were flat 0.0% MoM in July and 0.9% MoM in June after a 9.3% MoM jump in May. Processed goods less foods and energy, on the other hand, remained hot, notching another monthly gain above 1.5%. It seems that commodities are rotating away from their extreme rise in prices while propagations of those previous price increases are still lingering in processed intermediate goods. A good step towards "transitory" inflation is input prices peaking and beginning to level off. Lumber was the first commodity to do that, and more could follow. For now, inflation persists.

Has inflation peaked?

And of course, the report that everyone was watching (including Chair Powell), the July CPI report. We've peaked? We might have peaked. Headline CPI recorded its lowest monthly gain since Feb at 0.5% and, notably, used car prices grew just 0.2%. While it's a good step toward easing, there really is still no actual easing in auto prices yet. Transportation commodities still grew 1.0% and were up 19.8% over a year ago. While the movement in auto prices may support the narrative that inflation is here for longer, moderate Services (less energy) CPI growth of 0.3% MoM to just a 2.9% YoY move suggests inflation from reopening is a lot tamer than we think. Service spending has been the category of spending most sensitive to the pandemic, so it should see larger price increases as consumers start ramping up service spending again (as they have in the summer). Service inflation has actually been more in line with the framework set by the Fed which has said it is pushing for inflation above 2.0% to make up for periods below the target. This is probably what has the Fed leaning more dovish despite good shortages pushing the headline index up.

Chart of the Week

From FRED12

Inflation, as measured by Core CPI and Core PCE Price index, is streaking above 2.0%. A comparable period of short-term inflation following a recession occurred in late 2011 and early 2012 and lasted 10 days (as measured by Core CPI).

The Week Ahead

Retail sales and industrial production for the US come out this week alongside some real estate indicators in NAHB Housing Market Index and housing starts. More current developments on the Delta variant will also be observed as many are still waiting to see if the outbreak will be "transitory" like it was in the UK. Meanwhile, equity indexes remain near all-time highs and VIX at a near-term low.

Recovery Continues, but Delta Looms

Jacob Hess
August 08, 2021

The Week Behind (Aug 2nd - Aug 6th)

Last week was PMI week revealing the state of the global recovery in July. Developed nations in the US and Europe saw manufacturing and service activity growth peaking in Q2 2021. There, robust growth continued in July but was slowed slightly by supply constraints and surging input prices. Growth slowed even more in Asian nations where COVID was making a comeback. The chart below shows how vaccination rates have shielded economies from restrictions that weigh on manufacturing. The same narrative remains: herd immunity through immunization is the only way to get back to economic normality.

From IHS Markit

Countries in the bottom left corner weighed on the JPMorgan Global Composite PMI which fell to 55.7 in July from 56.6 in June. Germany, Spain, and the US were bright spots offset by slow growth in China, Brazil, and Russia and contraction in Japan and Australia. Despite the Delta variant rising in July, output from the Tourism & Recreation sector led all 21 sectors as reopening effects continued to bolster economic growth. Notably, new order growth trumped output growth in the Machinery & Equipment, Automobiles & Auto Parts, and Chemicals sectors. The Metals & Mining sector was pretty much flat. In Q3 2021, global supply chains will be playing necessary catch-up with the reopening economies. Developed economy central banks will be watching with much anticipation, maintaining accommodative policy to allow this to happen while developing economy central banks tighten to cool adverse pricing affects. It is a fragile balancing act that will define what "transitory" means for inflation.

Not only was it PMI week, but the jobs report for July also came out with a very positive 943,000 jobs added. The unemployment dropped to 5.4% (down -0.5%) and total unemployed persons fell -782,000 to 8.7 million. A majority of the drop in the unemployed were temporary layoffs which now sit at just 1.2 million, just 489,000 above pre-pandemic levels, suggesting that most of the easy job gains that were a result of restrictions easing. Could we see some reversal here in Q3 if the Delta variant continues on its current trend? It seems unlikely. Restrictions will likely be directed towards the unvaccinated which would allow vaccinated workers and consumers to continue as normal. Hopefully, the number of unvaccinated individuals drops in the next two months allowing the economy to return to normal for everyone.

Going forward, eyes are fixated on where the labor market will go from here. The Fed has maintained that full employment is its main objective in determining the course of monetary policy as it continues to label the current movement in inflation as "transitory." Where is there slack to get to that level of full employment? Right now, in leisure and hospitality. The sector added 380,000 jobs and is still off February 2020 levels by 1.7 million (even farther off what the sector would be if employment grew at long-term growth rates). These jobs also go towards lower skilled, lower income workers, those that took the hardest hit during the pandemic. Since it was most sensitive to the effects of COVID-19, it would make sense that it be a good general indicator about whether the labor force has shrugged off the pandemic. It would also be the first sector to feel the effects of restrictions from the Delta variant.

Chart of the Week


Supply chain issues persist in metals and machinery. The total level of unfilled orders in these industries vs total shipments is elevated by historical standards. However, it is still below the peaks experienced during the Global Financial Crisis and the beginning of the pandemic.

The Week Ahead

Next week is a big week for inflation. A whole host of nations including the US will report CPI and PPI for the month of July. In addition to that, the JOLTS report will show how job openings are moving off of its record levels. At the moment, the forecast sees openings rising even higher. The equity market remains teetering at elevated levels, but economic news might not be as much of a factor as the Delta variant headlines.

Retail Sales: Volatility, Food, and Cars

Jacob Hess
July 26, 2021

Retail sales have been taken for a ride ever since the pandemic first clobbered the economy. The steep drop in consumer activity has been an illustration of the restrictions forced upon individuals, slowing economic activity at historic pace. In 2020, sales fell -8.6% in March and -14.7% in April on a monthly basis pushing the sales level -22.1% below the Feb 2020 level. From peak to trough, this was almost double the -11.8% drop seen after the financial crisis from June 2008 to December 2008. The extreme drops lead into sharp rebounds when stimulus payments combined with diverse reopening strategies caused equally large monthly jumps in retail sales within the same year of the pandemic beginning (+8.7% in June 2020, +7.6% in January 2021, + 11.3% in March 2021).

It makes sense to argue that the strong bounces in retail sales growth were positive for firms that saw a demand shock at the onset of the pandemic, but it may have also been detrimental. From May to October 2020, the 6 month rolling standard deviation of retail sales averaged above 7%, more than double the next most volatile period in 2001-2002 when the 6 month rolling standard deviation peaked at 3.4%. Retail sales volatility peaked at around 2.0% in February 2009 following the Global Financial Crisis.

Business owners like certainty, and the high volatility in retail sales seen in Q2 and Q3 2020 was not a good recipe for confident business planning. Volatility in retail inventories also set a record high in September 2020 with a 6 month rolling standard deviation of 3.2%. The next highest period was January 2002 at 1.3%. While we've cooled from the peaks of uncertainty about a year ago, there is still an sense of mystery about what consumption will look in 2021 with high inflation and supply shortages. Both inventories and retail sales remain as volatile as they were during 2001-2002 and 2008-2009.

On the subject of unprecedented volatility, retail sales for grocery and beverage stores saw the largest decline and gain in back to back months at the onset of the pandemic. After a March 2020 monthly surge of 26.6%, food and beverage store sales cratered -12.9% in April, and after that, they remained relatively stable for the rest of the year. The pandemic period also saw large monthly gains in food and beverage purchases in May 2020 and January 2021, months that coincided with stimulus payments. Indeed, when consumers can't go out and spend money at a restaurant, they're forced to splurge more at the grocery store.

How are food and beverage store sales going to move for the rest of the year? It seems likely that monthly gains in food and beverage sales will remain on par, if not better, than headline gains. So far, average monthly gains made in H1 2021 have outpaced H2 2020 despite restaurants and bars being more open across the country. This suggests that reopening pressures won't be negative on food at home sales. At the same time, renewed fears of a shutdown from the Delta variant (while unlikely to happen) could force consumer back into hoarding mode. Inflation in reopening-related products could also be another factor that keeps people from going out, another factor that could bolster grocery store sales.

Food and Drinking Service (F&D) retail sales was always about getting back to normal. The July reading of the level of F&D retail sales suggested that we have finally caught up with the long-term trend. In particular, F&D sales reached $70.56 billion just below what retail sales would've been at if F&D sales had grown at the long-term average (0.4% monthly average from 1992 to Feb 2021) at $70.65 billion. Based on current summer trends, the pandemic is set to be a net positive in the long run. However, once again, the new surge of the Delta variant could be a potential threat but not a likely one. Not only are many states refusing to reinstate any type of restrictions, but these restrictions would be less severe, less economically damaging, and directed towards the unvaccinated. With one of the highest vaccinations rates in the world, F&D sales in the US are safe.

Motor vehicle (MV) retail sales and production have been in the headlines as of late with the chip shortage putting pressure on automobile supply. While the supply issues have been significant, they were exacerbated by robust demand from consumers as a result of the excess savings that came from stimulus payments. The average monthly changes in MV retail sales in 2020 and 2021 were 1.93% and 2.68%, both higher than the average of any other year in the past 15 years. After removing the months where the change was highly volatile in 2020 and 2021 (large jumps from stimulus payments and large declines from the institution of pandemic restrictions), the averages in those years were significantly less suggesting that the significant gains that have pushed total MV retail sales more than 25% above its pre-pandemic level are a result of the surge in sales due to stimulus.

In the bigger picture, retail sales proved to be one of the stronger economic indicators coming out of the initial wild downward spikes at the beginning of the pandemic. Despite massive layoffs, consumers continued to fuel the US economy through the worst recession in history with the help of unprecedented stimulus from the government. The past few months have seen consumers limited by supply chain issues, but those issues will ease once businesses settle into a business environment with less volatility while consumers remain eager to consumer. That's why we see retail sales continuing to growth through 2021 in the face rise in cases from the Delta variant.

All data from FRED

A Miserable Pandemic

Jacob Hess
June 26, 2021

The economic disruption caused by the COVID-19 pandemic has been widespread across the United States, but individual states have seen very different conditions over the past year and a half. We construct a state "misery index" to build a simple measure of these conditions. The "misery index" is an economic indicator used to gauge the economic condition of people in a country. It was created by Arthur Okun, a US economist in the 1960s that served as the chairman of the Council of Economic Advisers for Lyndon B. Johnson in 1968 and 1969. Okun's misery index was a very simple measure calculated by adding the unemployment rate and the annualized inflation rate, two indicators that describe the health of the consumer. The highest recorded misery index value in the US was in June 1980 at 21.98; the lowest ever recorded was in July 1953 at a super low 2.97.

The traditional misery index described by Okun cannot be created for the individual states for 2020 because state inflation data is not available for the year. Instead, we construct a misery index using the state unemployment rate, a traditional component, and the differential between the state's quarterly GDP and the national quarterly GDP. Using data from the Bureau of Labor Statistics and the Bureau of Economic Analysis, index values for the four quarters of 2020 are calculated.

The average misery index reading across all fifty states was 5.9%, very close to a median value of 5.5%. Values ranged from a minimum of -2.3% in South Dakota and a maximum of 12.5% in Hawaii, two states with big differences in how they handled the pandemic. There was a negative correlation of R = -0.52 between the misery index and the number of COVID-19 cases per 100,000 population; however, there were several outliers which dampened the correlation. The top four outliers in either directions have been labeled in the plot.

Many states with the lowest misery indexes have some of the highest total COVID-19 cases per capita (data as of December 2020): South Dakota ranks 2nd in total cases per capita, Utah ranks 7th, Nebraska ranks 6th, and Iowa ranks 5th. This likely reflects that these states were willing to exchange a better economic outcome for a less desirable public health outcome. Hawaii, Vermont, Oregon, Washington, and Washington DC were in the top six for lowest total cases per capita and had misery indexes above the overall average. Vermont was a noticeable outlier with the lowest total cases per capital and 12th lowest misery index. North Dakota was an outlier in the other direction as the state with the highest cases per capita but an elevated misery index compared to the trend.

Extending from the concept of the correlation identified above, the next plot points out that the severity of containment measures of individual states were positively correlated with a state's misery index at R = 0.69. This trend was slightly clearer with less obvious outliers. Vermont again sticks out as the state that was able to limit economic damage while maintaining above-average restriction levels. This time, Connecticut was close behind. There was a small cluster of states, Mississippi, Oklahoma, and Florida, that had misery indexes around the average despite having some of the lowest containment index values in the country. Nevada was another that drifted off trend. Florida and Nevada stick out as distinct underperformers since they are hotspots for domestic tourism, a sector that was especially impacted by the pandemic.

In fact, almost every state that has a large leisure and hospitality sector (data from regional employment data) experienced a higher misery index (with the exception of South Dakota which was a positive surprise). Nevada, Florida, and Hawaii stick out in this trend with all three states having misery indexes above the average while boasting the largest leisure and hospitality sectors relative to overall employment. Montana and Wyoming aren't obvious outliers, but since they ranked lower on the restrictions index, they should have lower misery indexes. Overall, the correlation is only slightly positively correlated at R = 0.31, but there isn't much variation in other states' leisure and hospitality sector sizes.

The misery index constructed using the unemployment rate and the differential between a state's quarterly GDP and the national quarterly GDP points to various trends during the pandemic. States with more miserable economic outcomes tended to have less miserable public health outcomes. This comes partly from the fact that states with a higher misery index also had higher containment measures which caused workplaces to shut down and movement to be restricted. Another factor that was relevant was the size of the leisure and hospitality sector in states. The top 7 states with the largest share of leisure and hospitality had above-average misery index values.

Highlights of the Fed's "Economic Well-Being of U.S. Households in 2020" Report

Jacob Hess
May 24, 2021

The Fed recently released the results of one of its marquee surveys named "Economic Well-Being of US Households in 2020." The survey was conducted in mid to late November 2020 with over 18,000 individuals contacted to take the survey and a completion rate of 64.8%. This was the 8th year of the survey, conducted annually in the fourth quarter of each year since 2013. The results of the report provide an interesting look into the financial condition of the US population. This year's is especially interesting considering a pandemic had just ravaged the economy. Here are some highlights of how respondents described their current financial situation, income, and spending

Current Financial Situation

Recessions and economic shocks can be particularly damaging to an individual's economic well-being. One would expect the shock from the pandemic in 2020 to be especially damaging considering the unique circumstances. However, the very first glance suggests maybe not. At the end of 2020, 75% of respondents confirmed that they were "at least doing okay financially," unchanged from 2019. What's even more surprising is that the 75% also beats out the share "at least doing okay" in the years 2013-2017. There was some fluctuation within 2020 but not by much. In supplemental surveys, the April 2020 rate was 72% and the July 2020 was 77% both of which beat the years 2013-2016 and the latter being a series high.

What to make of this? More than anything, it suggests that the stimulus provided and the relief measures passed did enough to maintain at least a bare minimum of economic security during the pandemic which featured the highest level of unemployment ever. This and even the relatively high April number contradicts the sharp decline in consumer sentiment (down -28.9% from Feb 2020 to Apr 2020) and the stock market (the S&P 500 fell -16.7% from Feb 2020 to Apr 2020) which are notable sentiment indicators. A reason for this could be that respondents at the end of 2020 had hindsight bias. Looking back at one's initial financial condition at the onset of the pandemic has a different effect than assessing one's financial condition when uncertainty is at its highest.

The positivity about one's financial situation was stable across most demographics except for one. The cohort without any degree (no high school or college degree) saw a decline in "at least doing okay financially" from 54% in 2019 to 45% in 2020 (this was still above the cohort's positive response rate in 2014 of 42%). The only real decline was seen in less than a high school degree. This group is particularly sensitive in recessions. These workers have had significantly higher unemployment compared to the education level just above them, having just a high school degree, in both 2009 and 2020. Respondents with just a high school degree saw an increase in "at least doing okay financially" from 65% in 2019 to 67% in 2020 despite that group's unemployment up from 3.5% in Feb 2020 to 7.8% in Dec 2020.

Income and Spending

As mentioned before, the pandemic was closely related to a sharp increase in the unemployment rate from 3.5% in Feb 2020 to a peak of 14.8% in Apr 2020. From that, one would expect a significant decrease in households receiving income from wages, but data in the Fed's survey suggested otherwise. When asked to describe a respondent's family's sources of income (multiple income sources were allowed to be selected), 67% of respondents reported receiving "wages, salaries, or self-employment income" only a two percent decline from the 69% in 2019. One might expect a more significant increase in this answer in the context of a high unemployment rate that leads many individuals to report the need for unemployment insurance.

And many of those individuals received unemployment insurance. In the same question, 61% of respondents received non-labor income in 2020 well above the 54% who received it in 2019 driven by a 12% increase in the share of respondents who received unemployment income. It is very clear that the aim of policymakers was to get as much money in the hands of consumers as possible and not worry too much about direct stimulus efforts to the most impacted individuals. This frivolity is likely a consequence of the speed with which action was taken.

And in preventing uncertainty, these actions seem to have been effective. In a question asking respondents if their income was stable during the year, 71% of them responded affirmatively. This was the same as 2019 when there wasn't a global pandemic that forced individuals out of work. More importantly, only 11% reported volatility in income causing hardship. While families with less than $25,000 were most likely to report hardship from income volatility, a strong majority (58%) reported stable income and no hardships. The effect was largely different across industries, as one would expect with leisure and hospitality, construction, and natural resources/mining seeing the largest income volatility. However, a majority of workers in these industries still reported stable income month-to-month. Only 48% of respondents in the leisure and hospital industry reported volatile income despite the unemployment rate in that industry peaking just above 39%.

One possible explanation of the decrease in income volatility is an increase in income from "gigs" which typically increase with increases in unemployment. However, layoffs in 2020 were not paired with a significant rise in "gig activity," but in fact, it was the opposite. The Fed's survey found a -4% decrease in the share of respondents who earned money from gigs in 2020 compared to 2019. It also found that fewer people overall performed gig activities and even when they did, it accounted for less than half of an individual's total earnings. Based on these data points, it seems unlikely that the gig economy was a significant counter to the disruption in the traditional economy; instead, it seems that it saw its own disruptions from the pandemic.

Some interesting dynamics were also visible in monthly spending. Respondents who were more likely to report a drop in monthly income were also less likely to report a decrease in monthly spending. On the other hand, those who were more likely to report an increase in monthly income were more likely to report a decrease in monthly spending. The former trend was reported in cohorts with less education (Less than a high school degree) while the latter trend was reported in cohorts with more education (Bachelor's degree or more). It's a curious trend that is likely explained by how different groups used their stimulus checks. Specifically, it is consistent with a post from the Liberty Street Economics blog which pointed to higher income and more educated groups saving their first stimulus check more often and spending it on essentials less often than lower income and less educated groups.


The pandemic was a time of economic hardship for many, especially for groups of lower incomes. Despite these pockets of hardship, the overall economic well-being of US society seems to have held up in 2020 which contradicts trends in many economic indicators. Indeed, the economic indicator in 2020 seems to be the level of monetary and fiscal support which was highly effective in supporting households through unemployment and uncertainty. This will likely be one of many hindsight views of the pandemic that will paint this crisis as rosier than it seemed, and in the end, many may come to the conclusion that pure uncertainty was the most disruptive economic force for businesses and consumers. Pure uncertainty that was successfully combatted by the unwavering accommodative support from the Federal Reserve and unprecedented stimulus from Congress, both of which were shakier during the Great Recession following the financial crisis of 2008-2009.

The consequences of that unwavering support? That remains to be seen...