The Business Week In Review

The week in review includes good news for manufacturing, employment and also housing but very little good news on inflation. Wages did show spurts of life in July and September but fell back in October and have yet to provide much lift for overall prices. In this report we'll look at consumer inflation and also inflation at the wholesale and import levels. For policy makers, getting inflation to move higher continues to be this year's economic struggle.

The economy

Very slight improvement is the message from October's consumer price report where all key readings, except for one, did no better than meet what were subdued expectations. The CPI managed only a 0.1 percent rise in the month while the core rate, which excludes food and energy, came in at a 0.2 percent gain. Stubborn areas of weakness continue to be new vehicles, down 0.2 percent in October, and prescription drugs, also down 0.2 percent. Deep declines in wireless services prices had been holding down consumer prices most of the year but not the last two months as this closely watched sub-component has now put together back-to-back gains of 0.4 percent. Also improving in the month were housing costs, up 0.3 percent, and medical costs, also up 0.3 percent.

And the annual core rate is moving, however slowly, in the right direction toward the Fed's 2 percent goal, rising 1 tenth to a slightly better-than-expected 1.8 percent. The traction in wireless services is helping as is perhaps, at least to a limited extent, pass-through from the isolated glimmers of wage strength we've seen in recent employment reports and also personal income data. Nevertheless, the overall CPI rate, sinking 2 tenths in October. has been struggling to hold the 2.0 percent line. The overall rate was held down in October by a post-hurricane reversal in energy prices and another flat month for food where prices are up only 1.3 percent on the year.

Service prices, which offer a steady barometer for inflation, have not been adding much boost to consumer prices though there are some welcome signs of service life at the wholesale level. The year-on-year rate for the services component in the producer price report rose 4 tenths in October to 2.5 percent for the best showing in 5-1/2 years. Gains here hint at widening price traction in the wholesale economy in what perhaps is a harbinger for price gains at the consumer level. Legal services and health care showed special traction in the month.

Not adding much lift to inflation are import prices where upward momentum tied to this year's nearly double digit decline in the dollar has yet to take hold. Year-on-year import prices fell 2 tenths in October to 2.5 percent reflecting contraction for both imported consumer goods, down 0.1 percent on the year, and motor vehicles, down 0.5 percent. The lower dollar makes foreign goods more expensive though price discounting by foreign sellers may be blunting the currency effect. Export prices are likewise not showing much push, down 2 tenths in the month to an annual 2.7 percent in a reminder that lack of inflation is not just a U.S. issue but a global one.

Let's end the week's run of inflation news on an up note. Inflation expectations remain low but are improving, up 2 tenths in November to a year-on-year 2.0 percent for the Atlanta Fed's business measure. This is the best reading since June. The prior week's consumer sentiment report also showed improvement with this year-ahead reading also up 2 tenths to 2.6 percent. These improvements aren't enough to lift the outlook for inflation but they are steps in the right direction and to at least some degree are tied to expectations for emerging strength in wages. These expectations are tangible, at the highest level in a decade for the consumer sentiment report.

The no show for inflation has been this year's economic mystery as has the lack of strength in the manufacturing component of the industrial production report, a reading that had not been confirming the enormous strength of regional and private surveys nor recent acceleration in factory orders data. But this mystery has been resolved with a 1.3 percent surge in October and a 3 tenths upward revision to September which is now at 0.4 percent. Motor vehicles are a major positive for manufacturing production, putting together a string of sharp gains including a 1.0 percent October increase. And recent gains in auto sales point to extending strength for production. Hi-tech is another positive, also showing a string of gains including 1.1 percent in the latest month. The yearly gain for manufacturing is still moderate at 2.5 percent but all the indications from the factory sector are pointing to acceleration going into year end, an upward pivot that should give a special boost to the fourth-quarter economy.

Hurricane effects have been hard to pinpoint in manufacturing but they're easy to spot in the retail sector. Hurricanes Harvey and Irma have driven up replacement demand for vehicles and, when pump prices spiked, briefly lifted sales at gasoline stations. An upward revision to September puts the monthly retail sales jump at 1.9 percent and a 2-1/2 year high. Sales in October understandably slowed but did remain in the plus column at 0.2 percent. Vehicle sales also remained positive in October. Building materials are another hurricane-sensitive component and sales, after jumping in September, fell into contraction. Looking at less volatile components, electronics & appliance stores rose 0.7 percent in October with health & personal care stores up 0.8 percent in what are very solid results. Yet October, for retail sales, is always anti-climatic, a month that pales in importance to the holiday months of November and December going into which expectations are very positive.

Full employment is the reason to be optimistic for holiday sales and nowhere is the strength of the labor market more evident than in jobless data where both initital and continuing claims are at historic lows. Initial claims are back under 250,000 after jumping toward 280,000 in what proved, compared to past hurricanes, to be a limited combined effect from Harvey, Irma and Maria. And continuing claims never showed any effect at all, edging steadiy lower toward 1.850 million. The unemployment rate for insured workers (which excludes job leavers and re-entrants) is down 1 tenth to only 1.3 percent. A fading risk is Puerto Rico where initial claims are still elevated but are finally coming down.

Rounding out the week was a very strong housing starts and permits report that points to momentum for a new home market that has had a mostly subpar year. Housing starts jumped 13.7 percent in October to a 1.290 million annualized rate and rose 5.9 percent for permits to 1.297 million. All readings show strength including single-family homes, up 5.3 percent for starts to an 877,000 rate and up 1.9 percent for permits to 839,000 with multi-family starts at 413,000 with permits at 458,000. Completions are a special positive in the report, up 12.6 percent overall to 1.232 million and adding a bulk of immediate supply to a very thin new home market. This is the highest level of completions since February 2008. Homes under construction are also on the rise, up 0.9 percent to 1.096 million. Housing started the year off strongly and stumbled through a weak spring season and a flat summer. Hurricane effects in housing data have been limited though starts in the South did swing lower in September and then swung back higher in October.

Markets: 2-year Treasury leads curve flattening

The stock market has been taking all the year's big headlines with the drop in the dollar also major news. Less in the press is a flattening underway in the yield curve which is raising recession whispers among the bears. The 2-year yield, ending the week at 1.73 percent for a year-to-date climb of 52 basis points, has risen sharply the past several months in a move tied to expectations for continuing Federal Reserve rate hikes. The lack of inflation has probably limited this move and should wage pressures clearly kick in, a quick spike over 2 percent should be no surprise. The movement for the 10-year yield has been flat, not up, holding steadily under 2.50 percent despite the rise in the 2-year. Low long yields betray a lack of optimism, at least among bond holders, for long-term economic growth and may also reflect demand for safety This is the sobering side of the financial markets compared to the stampede underway in stocks.

Markets at a Glance	Year-End	Week Ended	Week Ended	Year-To-Date	Weekly
	2016	10-Nov-17	17-Nov-17	Change	Change
DJIA	19,762.60	23,422.21	23,358.24	18.2%	-0.3%
S&P 500	2,238.83	2,582.30	2,578.85	15.2%	-0.1%
Nasdaq Composite	5,383.12	6,750.94	6,782.79	26.0%	0.5%
Crude Oil, WTI ($/barrel)	$53.71	$56.75	$56.58	5.3%	-0.3%
Gold (COMEX) ($/ounce)	$1,152.50	$1,284.30	$1,294.10	12.3%	0.8%
Fed Funds Target	0.50 to 0.75%	1.00 to 1.25%	1.00 to 1.25%	50 bp	0 bp
2-Year Treasury Yield	1.21%	1.64%	1.73%	52 bp	9 bp
10-Year Treasury Yield	2.45%	2.40%	2.35%	–10 bp	–5 bp
Dollar Index	102.26	95.01	93.67	-8.4%	0.6%

The bottom line

A steady and moderate rate of inflation gives a boost to total demand as rising prices pull forward spending plans (buy now before prices go up further). A moderate rate of inflation also widens the policy scope for the Federal Reserve which has more leeway to raise interest rates without risking a downturn in prices. Yes, there have been glimmers of wage pressures in recent months but this week's inflation readings clearly re-establish the expansion's anomaly -- that full employment is not resulting in wage-push inflation ... at least yet.