Monday started off with an unalarming 0.2 percent
rise for the core PCE price index and was followed on Tuesday by an
even more unalarming 2 tenths drop in consumer inflation expectations.
It was Wednesday when the trouble started. The morning's rise in the
employment cost index didn't seem to register but what did was
Wednesday afternoon's FOMC statement where inflation expectations got
an upgrade. Then on Friday, average hourly earnings popped higher to
spark, perhaps for the first time in our post-2008 expansion, serious
talk about wage inflation, a risk the Fed traditionally heads off at
the expense of the stock market. But of course there's always two sides
to every story and certainly two sides to nearly every economic
report, as we shall see.
The economy
Average
hourly earnings rose 0.3 percent in January which was actually
Econoday's consensus forecast. What wasn't forecast was a 1 tenth upward
revision to 0.4 percent for December, one as traced in the graph that
heightens a rising trendline. And when going out 2 decimal places,
December is yet a little higher, at 0.41 percent, and January, at 0.34
percent, is nearly rounded up. These of course are nuances but
attention to detail, like that in the FOMC statement, can't hurt when
looking for pivot points.
The
shift in January's FOMC statement is the nailing down of a calendar
target for inflation, that year-on-year inflation will move higher "this
year" and stabilize "around" the Fed's 2 percent objective. The
FOMC's prior assessments of inflation were more flat than up, not
clearly moving higher. Turning back to average hourly earnings, the
biggest headline wasn't the monthly rate but year-on-year growth which
jumped to an expansion best of 2.9 percent. This is now near the 3
percent line over which wage pressures, at least policy hawks argue,
begin to feed into overall inflation. The core PCE rate, the Fed's
central inflation measure, actually didn't make any news in Monday's
personal income & outlays report, posting only a 0.2 percent
December gain and no improvement for the yearly rate which is stuck at
the 1.5 percent line. Yet if wages keep increasing, spillover could
begin to lift the red line higher, perhaps as early as January's PCE
report later this month.
But
there was a highlight in Monday's personal income report and that is
the wages & salaries component which extended its string of 0.4 and
0.5 percent monthly gains. The year-on-year rate, tracked in the blue
line, rose to 4.9 percent for its 5th straight climb and now at its
highest rate since November 2015. But now the twists start. The gains
for wages aren't helping the saving rate, at least not yet. The savings
rate, at 2.4 percent as tracked in the green background, is the lowest
in 13 years and helps explain, together perhaps with rising wages but
also with rising credit-card debt, the solid strength of the holiday
shopping season.
Not
all the data are pointing to a pivot higher for wages. Real
compensation, that is inflation-adjusted compensation released with the
week's fourth-quarter productivity report, proved flat once again as
tracked in the blue line which has been unable to move much above the
100 line, where the index was set way back in 2009. For 2017 as a
whole, real compensation fell 0.6 percent for the deepest decline since
2011. Real compensation also fell in 2016, down 0.2 percent which
makes this the first back-to-back negative years since 1993 and 1994.
If wage-push inflation does begin to kick in, the gains will have to
exceed the rate of consumer inflation otherwise real compensation won't
be going anywhere.
Yet
another inflation gauge was released in the week, one that is a
favorite at the Fed. The employment cost index tracks the mirror image
of wages, that is employer costs, measured here both in terms of wages
& salaries and also benefits, both of which have posting comparable
and moderate increases. The composite index, tracked by the red line,
rose 1 tenth in the fourth quarter to 2.66 percent which for this
closely watched reading is the highest since 2008. For employers and
inflation hawks, the level is manageable but the direction is
unmistakable and fits with Fed expectations for a visible rise in
inflation.
And
employers may continue to pay higher costs given the scarcity of
available labor. Payroll data have been proving very healthy and are
being led by two key sectors, manufacturing and construction.
Manufacturing payrolls have been rising at 20,000 per month clips the
past 6 months which is their best showing since before the 2014 oil
collapse. Construction, where total payrolls are much lower, has been
averaging nearly 28,000 gains the past 6 months which fits in with the
rising strength underway in the housing sector. Note in the graph that
construction payrolls will soon be approaching the nearly 8 million
peak of the prior expansion, yet for manufacturing where, unlike
construction, production doesn't have to be onshore, prior levels look
impossible to regain. This is evidence enough of 20 years of
offshoring.
There
was an unexpected and counter intuitive weakness in the January
employment report. Despite strong general strength, the workweek fell
sharply to 34.3 hours vs 34.5 hours in the prior two months. A topping
off in hours is not consistent with wage pressures nor an overheating
labor market. Could the decline be tied to the month's government
shutdown, however brief it was? The Labor Department doesn't think so,
saying the shutdown had "no discernable effect" on the report.
Declining hours certainly couldn't reflect a lack of work given strong
sales at the retail level, unusually heavy sales at the wholesale
level, nor factory orders which have been rising. But maybe they could
be a symptom of the labor market itself, what the Fed's Beige Book has
been warning: that lack of available workers is holding down the
expansion, that businesses can't find the people they need to keep
production where they want it.
Markets: Stock market and confidence
We
started off the week's rundown mentioning inflation expectations
which, in another contradiction of wage gains, continue to show no life
at all, down 2 tenths in the Conference Board's consumer confidence
report to 4.6 percent which for this specific reading is very low. Yet
the index for confidence, underpinned by very strong assessments of the
labor market, is holding at 17-year highs, at 125.4 in January. But it
may not be wages that consumers are confident about but the stock
market instead where those seeing future gains spiked more than 5
percentage points to 51.6 percent, dwarfing those seeing a decline which
fell to 19.9 percent. If this isn't good news for market contrarians,
what is? The graph tracks consumer confidence against the Dow; their
mutual ascent speaks for itself.
As
the inflation scare set in, stocks moved sharply lower. The Dow lost
4.1 percent on the week to trim its year-to-date gain in this still very
young year to a still strong 3.2 percent. Falling demand for bonds was
another of the week's stories. The 10-year shot 18 basis points higher
in heavy selling to 2.84 percent, a rate that is 18 basis points
higher in the week and an attractive 43 points higher than year-end.
Though general economic strength and possible inflation spell less
accommodation and less bond buying from global central banks, investor
desire for a high rate of safe yield may be a limiting factor in any
future bond selloffs.
Markets at a Glance | Year-End | Week Ended | Week Ended | Year-To-Date | Weekly |
2017 | 26-Jan-18 | 2-Feb-18 | Change | Change | |
DJIA | 24,719.22 | 26,616.71 | 25,520.96 | 3.2% | -4.1% |
S&P 500 | 2,673.61 | 2,872.87 | 2,762.13 | 3.3% | -3.9% |
Nasdaq Composite | 6,903.39 | 7,505.77 | 7,240.95 | 4.9% | -3.5% |
Crude Oil, WTI ($/barrel) | $60.15 | $66.14 | $65.13 | 8.3% | -1.5% |
Gold (COMEX) ($/ounce) | $1,305.50 | $1,354.20 | $1,332.70 | 2.1% | -1.6% |
Fed Funds Target | 1.25 to 1.50% | 1.25 to 1.50% | 1.25 to 1.50% | 0 bp | 0 bp |
2-Year Treasury Yield | 1.89% | 2.11% | 2.14% | 25 bp | 3 bp |
10-Year Treasury Yield | 2.41% | 2.66% | 2.84% | 43 bp | 18 bp |
Dollar Index | 92.29 | 89.12 | 89.16 | -3.4% | 0.0% |
The bottom line
The jury is still out if wages are in fact
pivoting higher but the question is now definitely on the table.
Average hourly earnings are only one reading and though others are also
showing pressure, real compensation remains flat. Yet the data in sum
do justify the FOMC's inflation upgrade, however modest and gradual any
improvement may prove.
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