Pro Perspectives 9/12/23

 

 

 

 

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September 12, 2023

We get the August inflation report tomorrow.
 
As we discussed yesterday, after twelve consecutive months of falling year-over-year headline inflation, the trough might be in, for a while. 
 
It ticked up last month.  It's expected to tick up again tomorrow, to the mid-3% area.
 
This should be a comfortable number for the Fed, given they have short-term rates set about 200 basis points higher than headline inflation.
 
What about oil prices?  Crude oil is up 30% since late June.  This will start showing up in the headline inflation number in the coming months. 
 
Does that mean the Fed will have to do more (more rate hikes)?
 
The market is pricing in less than a coin flips chance of a (final) hike next month.  But we should be at the stage, when it comes to oil consumption, of "higher prices solve higher prices" (i.e. higher prices resulting in lower demand).
 
The consumer is getting squeezed, and $4+ gas in the near future is another major pinch.     
 
Take a look at real disposable income.  Historically it has grown, throughout various cycles, on average at about the rate of real economic growth.  As you can see in the chart, it's well below trend (the orange line), if we were to extrapolate out from the pre-pandemic levels.  
 
 
Consumers are strapped, but government money is flowing (by the trillions). 
 
We talked about this type of environment in my notes more than two years ago, in the midst of the building inflation: "this type of economy is not a 'feel good' economy.  In an inflationary economy consumers feel like they are sprinting on a treadmill just to maintain status quo."  You can see that May 2021 note here.

Pro Perspectives 9/11/23

 

 
 

 

 

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September 11, 2023

We get the August inflation report on Wednesday.

With that, let’s revisit a couple of charts that have been key contributors to the inflation picture.

Below is the change in Chinese producer prices (the producer price index — PPI).

As we’ve discussed along the way, this is the equivalent of “skating to where the puck is going.”  The price of the products we will be buying in the months ahead, will be determined (in large part) by the inputs into Chinese production. 

This year-over-year change in Chinese PPI was at 26-year highs when the Fed was telling us, back in 2021, that there was no inflation. 

It led on the way up (for global price pressures).  And it has led on the way down. 

As you can see in the chart above, the latest year-over-year change in Chinese producer prices (reported over the weekend) is still in deflationary territory (down 3% year-over-year).  And that trajectory of prices for Chinese goods has proven to be a good indicator for U.S. price pressures, which, as we know, have fallen sharply from the 9% inflation of a year ago.  

That said, producer prices in China have now been rising on a month-over-month basis, for two consecutive months.

Does this mean the disinflation in U.S. prices might be over, at least in the near term? 

Maybe.  The last headline U.S. inflation number broke a 12-month streak of falling inflation.  And Wednesday’s number will likely show another uptick in price pressures from August. 

That brings us to our next chart of U.S. money supply growth… 

As you can see, the aftermath of the money supply explosion has been a contraction.

And a contraction in money supply has historically been deflationary.

So, we had the inflation catalyst, which was the growth shock in money supply, from the 2020-2021 policy response to the pandemic.

We’ve had the disinflationary effect from the contraction in money supply.

But now, even though the year-over-year change in money supply remains negative (contractionary), the monthly change has been growing for three consecutive months.

A normalization in money supply growth would be a good thing.  

 

Pro Perspectives 9/8/23

 

 

 

 

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September 08, 2023

We've talked a lot about the inflation picture.  We'll get the big August inflation data next week.
 
Today, for some perspective, let's revisit the difference between level of prices and the rate-of-change in prices.
 
There's a big difference.  The level of prices is here to stay.  The rate-of-change has to slow, and has been.   
 
Remember, the massive monetary and fiscal response to the pandemic (plus the subsequent agenda spending binge) ramped the money supply by 40% in just two years.  That was ten years worth of money supply growth (on an absolute basis), dumped onto the economy over just two years.
 
That tsunami of money rapidly reset the level of prices, of almost everything. 
 
And it was by design.  It was an explicit decision, out of necessity and opportunity, to inflate asset prices and inflate away the value of debt.
 
On the former (i.e. inflating asset prices), that translates into the Q2 report released today on household net worth.  It's at new record highs…
 
  
On the latter (inflate away the value of debt), the nominal size of the economy has grown at an average annual rate of 10% coming out of the pandemic-induced contraction, largely resulting from the nominal price of things.
 
 
And with that, as you can see in the far right of this chart, the debt burden has been shrinking from the pandemic policy-response driven peak.  What matters is debt relative to the size of the economy, and as you can see in the chart above, that's been improving (thanks to hot nominal growth).
 
With the rate-of-change in prices now under control, as we have often discussed we need a reset in wages (higher wages) to offset the reset in prices — to restore the standard of living.
 
It's a slow, painful, lagging process, but it looks like it's happening.  And we're getting productivity gains, which mutes some inflationary effects of wage hikes.  Below is median hourly wage growth …
 
And the New York Fed's Labor Market Survey says the average full-time wage received in the past four months increased from $60,764 in July of 2022 to $69,475 in July of this year.  That's 14% — a big number.  It was just 3% growth the prior year. 
 
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Pro Perspectives 9/7/23

 

 

 

 

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September 07, 2023

We had a slew of Fed speakers today, intended to keep you thinking about the prospects of even higher rates, which implies (they hope) expectations of less disposable income and higher unemployment.
 
And with that being the intended takeaway, they hope the continued threat of higher rates, or even the current level of rates "for longer," is demand suppressing.  
 
That strategy of perception manipulation has been a key piece of the inflation fighting campaign.
 
Repetition has a powerful psychological effect.  Remember, the Fed's mantra of "transitory" two years ago. 
 
"Transitory" is how they famously described the multi-decade high inflation that was clear and obvious to everyone.  And that inflation was even driven by textbook inflationary policy — an explosion in money supply.
 
Still, the drumbeat of "transitory" worked.  Within a few months, a survey of fund managers showed that 70% thought inflation was temporary.
 
Now, the script, as we know, has since been flipped.  The mantra is, and has been, "doing more" …  "higher for longer" … "we have to keep at it."
 
Is it working? 
 
It's working.
 
Below, you can see what the Wall Street consensus view is on the economy (the blue line) compared to how the economy is actually tracking (the green line). 
 
   
And with all of this talk of driving inflation back down to 2%, come hell or high water, people believe it, and it affects behaviors. 
 
Despite an economy and inflation running well above trend (combining for near double-digit nominal GDP growth), inflation expectations remain (and have remained throughout the past two years) incredibly tame at just 2.4%. 
 
  
So, inflation expectations are hovering around the average of the pre-pandemic decade, even though inflation is running multiples hotter, and we have over $5 trillion more sloshing around the economy.   

Pro Perspectives 9/6/23

 

 

 

 

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September 06, 2023

We talked yesterday about the sharp bounce in yields, from Friday's lows.  
 
The climb continues today.  And at the highs of the day (4.30%), we are now nearing (for a third time) the post-pandemic era highs.
 
At the same time, oil prices are (again) on the move.  
 
With both in mind, we'll get the August inflation report next Wednesday. 
 
And as we discussed heading into July report, a powerful driver of falling inflation (the fall from over 9% to 3%) has been DEFLATION in energy prices.
 
You can see in this graphic below from the Bureau of Labor Statistics …
 
 
That deflation in the energy component was brought to us by supply manipulation from the White House (via the near halving of the Strategic Petroleum Reserves, SPR).  
 
Now it's time to restock.  And not only has that SPR card been played, but as we've discussed the past two years here in my daily notes, the Western world's war on oil has put OPEC and Russia in the driver's seat.  Not suprisingly, they have been, and will continue to hold production down, and they will ultimately dictate the price we pay for oil.  And it will be a very high price.
 
That said, this return of rising year-over-year oil prices, within the inflation data, will not be in next week's report (the August CPI report).  
 
If we look at the price records from the EIA (Energy Information Administration), these August prices are still being measured against a high base of August 2022 prices ($94 oil, $7.28 natural gas, $4.08 retail gas).  

Pro Perspectives 9/5/23

 

 

 

 

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September 05, 2023

Following last week's economic data, the interest rate market is now expecting the Fed to hold steady on rates, when it meets on September 20th.
 
That should be good news for stocks.  It was, for much of Friday.  Today, not as much.  And that's mostly because of what's happening here …
 
 
This is a chart of the U.S. 10-year yield.  As you can see, heading into the jobs report this past Friday, this important barometer on global interest rates was falling back toward 4% (trajectory denoted by the red line). 
 
This fall in rates was driven by softening U.S. economic data, and the expectation that Friday's jobs report would (further) confirm that inflation pressure from the labor market was being choked off.
 
The jobs report delivered, on that front. 
 
But the interest rate market did an about face, and as of this afternoon was UP 20 basis points from Friday's low. 
 
What's going on?
 
Remember, the Fed has claimed to be "data dependent" in determining the rate path from here.  They've been looking for softening data to validate a pause, if not the end of the tightening cycle.
 
They've gotten it. 
 
With that, most would expect some relief in the interest rate market (which would translate into some welcome relief in consumer rates).
 
We've gotten the opposite, thus far.
 
Is the cooling in the data too perfect?  Cool enough for the Fed to hold rates steady here, but not cool enough for the recession doomers to feel confident (any longer) in a big rate cutting campaign next year. 
 
The interest rate markets seem to be adjusting for that picture.  
 
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Pro Perspectives 8/31/23

 

 
 

 

 

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August 31, 2023

We get the big jobs report tomorrow morning.

We’ve already seen a significant decline in job openings in the JOLTS report this week — the lowest number of job openings in two years. 

On Wednesday, the ADP jobs report for August (published by the private payroll company) came in at sub 200k.  That’s about half of the post-pandemic monthly average. 

And the “main event” of jobs reports, the government report due tomorrow, is expected to show about 170k jobs created in August.  That’s below the average monthly job growth for the (slow economic growth) decade prior to the pandemic.

Bottom line:  The job market seems to have normalized (finally), in no small part due to the sobering of the workforce from the many anti-work incentives of that past three years.

That said, while the Fed’s focus on jobs, over the past year, has been mostly about attempts to suppress wage growth, we are indeed seeing hot wage growth.

But as you can see in the chart above, the Fed tightening campaign and (moreover) the Fed’s persistent threats to destroy jobs have reversed what could have been a dangerous upward wage spiral (which would threaten a self-reinforcing price spiral).

Interestingly, in today’s small business jobs report, small business owners are expecting to raise compensation in the coming months.  And they are now more concerned about retaining and attracting good talent, and much less concerned, compared to a year ago, about labor costs.

So wages are finally moving higher, to close the gap with higher prices. 

What about the inflation risk from higher wages? 

Importantly, we’re getting the inflationary offset of productivity gains.

Remember, we talked about this in my note last week (here).  Despite some of the hottest wage gains we’ve seen in decades, the annual growth in the cost per unit of output was just 1.6%, in the most recent quarter.  

That’s lower than the average unit labor cost of the 20-year period prior to the Global Financial Crisis.  And it’s thanks to productivity growth.

Also remember, we are just in the early days of maybe the most productivity enhancing technological advancement of our lifetime:  generative AI. 

On that note, the CEO of Salesforce, which partners with 150,000 companies around the world, talked over and over again on his recent earnings call about the “incredible new levels of productivity“ its customers will see from generative AI.

 

Pro Perspectives 8/30/23

 

 

 

 

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August 30, 2023

We'll see the latest reading on the Fed's favored inflation gauge tomorrow. 
 
It's likely to tick up, but remain in the low 4s (year-over-year percent change). 
 
Importantly, as you can see in the chart below, the Fed's target rate is well above inflation. 
 
 
As we've discussed many times, this dynamic of getting the Fed Funds rate (short term rates) above the rate of inflation has historically been the formula for putting downward pressure on inflation.  And the Fed has built in plenty of cushion, to the tune of over 100 basis points.
 
So the Fed has its foot on the brake. 
 
Moreover, the market is pricing in about a coin flips chance for another quarter point hike by the end of the year.  And that expectation has been set by a combination of the Fed's formal rate projections, along with the persistent jawboning we hear from Fed officials about "keeping at it" until they get inflation down to 2%.
 
That manipulation of expectations serves as more foot pressure on the brake (by design).
 
That said, the Fed is supposed to be "watching the data" for their guide on next steps.  And much of the data has been falling into their comfort zone. 
 
So, what gives? 
 
Remember, loads of government spending is still yet to be deployed. With rates well above inflation at the moment, and a hawkish posture, the Fed has built in some "insurance."

Pro Perspectives 8/29/23

 

 

 

 

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August 29, 2023

We had some July jobs data this morning.  We'll see July core PCE on Thursday, the Fed's favored inflation gauge.  And then on Friday we get the August jobs report. 
 
Remember, the Fed told us the data will determine whether or not they've finished the job on inflation.  And this line-up of data should go a long way toward determining that objective.
 
This morning's jobs data might be the most important.  
 
Remember, from the very beginning of the tightening campaign, Powell has targeted jobs.  More specifically, he targeted the mismatch between the number of job openings and the number of job seekers. 
 
That ratio was over 2, when this tightening cycle started (2 openings for every 1 job seeker).  With that leverage for employees, people were quitting jobs at the highest rate on record. 
 
It's job switching that drives the highest wage growth.  And the Fed was concerned an upward spiral in wages would fuel a self-reinforcing cycle of higher prices. 
 
This morning's report on job openings showed the openings-to-seekers ratio fell to 1.4.  That's the lowest in almost two years.  In March of last year, there were 12 million job openings.  Today there are 8.8 million.  And the quit rate is now back to pre-pandemic levels. 
 
Yields fell 15 basis points on the number this morning.  Stocks had a big day.  Commodities perked up.    
 
Why did markets respond so positively to the evaporation of three million job openings over the past seventeen months?  
 
Destroying three million job openings was wringing out excessive exuberance in the economy.  Undoubtedly some (if not many) of those job openings weren't real jobs, but were creating leverage for employees to command higher wages from employers.  In the Fed's view, this morning's number is success.

Pro Perspectives 8/28/23

 

 

 

 

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August 28, 2023

In my Friday note we talked about the commentary out of Jackson Hole.  We heard from Jerome Powell (Fed) and Christine Lagarde (ECB).
 
Then on Saturday, the head of the Bank of Japan (Ueda) contributed to a panel discussion.
 
Here's my takeaway:  Powell told us they will keep throttling the economy by maintaining high rates.  Lagarde told us that they will keep intervening to fix whatever they break in the financial system, resulting from high rates. 
 
And Ueda told us that they will continue to be the backstop.  They will continue ultra-easy policy, printing yen, and manipulating/suppressing global market interest rates so that the tightening policies of its G7 counterparts don't blow up their own respective government bond markets (i.e. they don't trigger a cascade of global sovereign debt defaults).
 
That's the script they've been following for the past year, and it hasn't changed.  To be sure, the "normalization of rates" in the U.S. and Europe only works with the assistance of the Bank of Japan.
 
Japan's benefit?  As we've said, the world gives Japan the greenlight to devalue the yen, inflate away the world's largest debt load, and increase export competitiveness (through a weaker currency).  It continues to happen.
 
 
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