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The U.S. Economy Keeps Humming Along

July 2018

The BEA recently released their third estimate of Q1 GDP, which showed real GDP grew at an annualized rate of 2.0 percent in the opening quarter of 2018. Sure, we know what you’re thinking – if that’s an example of the economy humming along, it seriously needs to change its tune. Which is precisely what happened in Q2. Though the BEA won’t release its initial estimate of Q2 GDP until July 27th, our tracking estimate puts real GDP growth above 4.0 percent for the quarter, and our forecast would see Q2 2018 real GDP growth go down as the fourth fastest quarterly growth rate in the life of the current expansion, now more than nine years old. Now that’s what we call humming along.

The reality, however, is that neither Q1 or expected Q2 real GDP growth truly reflects the underlying health of the economy. We often caution that taking quarterly changes and annualizing them, as is done with the GDP data, tends to imply sharper swings than generally occur in a $20 trillion economy. Moreover, measured real GDP growth in Q1 of any given year is biased lower by the residual seasonality issue, which was again the case this year. To us, the year-on-year percentage change in real GDP is the best gauge of the economy’s underlying growth rate, and through this lens we see that real GDP grew by 2.8 percent in Q1 and our forecast would put Q2 year-on-year growth at 3.1 percent – both considerably faster than the average rate of 1.9 percent seen from the start of the expansion through Q4 2017.


July Economic Data graph

Total nonfarm employment rose by 213,000 jobs in June, marking the 93rd consecutive month of job growth, far and away the longest such streak on record. As has been the case over the life of the current expansion, job growth remained notably broad based in June. The hiring diffusion index, a measure of the breadth of hiring across private sector industry groups and our favorite beneath the headlines metric in the monthly employment reports, came in at 65.5 percent in June. True, the breadth of hiring doesn’t tell us anything about the intensity of hiring, but over the past 12 months private sector payrolls have increased by an average of 196,000 jobs per month. That hiring remains this broad based and this robust this deep into an expansion should quash the notion that job growth is on the verge of running out of steam because firms “can’t find any workers to hire,” which we’ve always thought a ridiculous notion, yet one we hear repeated frequently.

The unemployment rate rose from 3.8 percent in May to 4.0 percent in June, reflecting a reported 601,000 person increase in the labor force that pushed the participation rate up to 62.9 percent. As a general rule, we don’t put much stock in the month-to-month changes in the labor force, as this tends to be a highly volatile number, and June is no exception. We pay far more attention to the underlying data on labor force flows, which get far less attention than they deserve. Over 4.5 million people went from not in the labor force in May to being employed in June, a notably high number but in line with what we’ve seen over the past 15 months, and over 1.9 million people entered the labor force as unemployed in June, higher than the recent run rate but which in part reflects a sizeable inflow of summer job seekers entering the labor force in June. The broader point is that the data on labor force flows have for some time shown sizeable inflows into the labor force each month, which we’ve argued has acted as a brake on wage growth and will continue to do so.

The manufacturing sector remains on quite a roll. Manufacturers added 36,000 jobs in June, meaning that manufacturers have added 285,000 jobs over the past 12 months, the highest such total since the 12 months ending with April 1998. The ISM Manufacturing Index rose to 60.2 percent in June; while this lofty reading is to some extent inflated by significantly slower supplier delivery times in June, allowing for this distortion shows continued strength in new orders and current production and further growth in backlogs of unfilled orders. Still, survey respondents indicated a considerable degree of concern over the impact of tariffs – those imposed by the U.S. and the retaliatory tariffs imposed by our trading partners – and there are already visible impacts in terms of higher input costs and shifts in production to foreign plants in order to avoid foreign tariffs imposed on goods produced in the U.S.

Several FOMC members have expressed concern over the potential impact of tariffs though, somewhat oddly, those concerns have focused on the growth aspect rather than the inflation aspect. Still, it seems highly unlikely that such concerns will alter the path of monetary policy. At least this year – the trade spats intensifying and running into 2019 and beyond would raise the likelihood of the FOMC acting on their concerns. For now, though, the “dot plot” released in conjunction with the June FOMC meeting implies a total of four 25-basis point hikes in the Fed funds rate in 2018 and three more like-sized hikes in 2019. Concerns over trade notwithstanding, in an economy growing at a well above-trend pace, thanks mainly to fiscal stimulus, the FOMC’s main focus remains on inflation.

Recent months have seen considerable angst over trade wars, geopolitical tensions, diminishing monetary accommodation, and other factors that pose risks to the economic expansion. At this point, however, this has all been little more than background noise to a U.S. economy that keeps humming along. This could change, of course, but our view is that it will take much more than this to trigger a significant slowdown in an economy amped up on fiscal stimulus.

Fuente: BEA, BLS, ISM

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