Yesterday brought us some significant news from the US economy. One segment of this was the testimony given by the new Chair of the US Federal Reserve Jerome Powell as everyone combs his words looking for any signs of a change in policy. The sentence from the written testimony that has drawn most attention is below.
In gauging the appropriate path for monetary policy over the next few years, the FOMC will continue to strike a balance between avoiding an overheated economy and bringing PCE price inflation to 2 percent on a sustained basis. ( PCE is Personal Consumption Expenditure )
The reason for that is the use of the word “overheated” which brings with it all sorts of value judgements and implications. This was added to by the phrase he added to this.
My personal outlook for the economy has strengthened since December.
We also got an explanation of what was driving such thoughts.
In particular, fiscal policy has become more stimulative and foreign demand for U.S. exports is on a firmer trajectory. Despite the recent volatility, financial conditions remain accommodative.
The nod to fiscal policy was a change of emphasis from his predecessor Janet Yellen as I am reminded of the analysis of the US Congress on the subject we looked at on February the 8th.
The Joint Committee staff estimates that this proposal would increase the average level of output (as measured by Gross Domestic Product (“GDP”) by about 0.7 percent relative to average level of output in the present law baseline over the 10-year budget window.
The underlying position
The thoughts above added to the existing situation which Chair Powell described thus.
Turning from the labor market to production, inflation-adjusted gross domestic product rose at an annual rate of about 3 percent in the second half of 2017, 1 percentage point faster than its pace in the first half of the year.
So the fiscal policy will add to an already strengthening situation and the emphasis is mine.
Economic growth in the second half was led by solid gains in consumer spending, supported by rising household incomes and wealth, and upbeat sentiment. In addition, growth in business investment stepped up sharply last year, which should support higher productivity growth in time.
The reason I have highlighted that bit is because Chair Powell had explicitly linked it to wage growth.
Wages have continued to grow moderately, with a modest acceleration in some measures, although the extent of the pickup likely has been damped in part by the weak pace of productivity growth in recent years.
If we switch to the section on employment we see a continuing theme.
Monthly job gains averaged 179,000 from July through December, and payrolls rose an additional 200,000 in January. This pace of job growth was sufficient to push the unemployment rate down to 4.1 percent, about 3/4 percentage point lower than a year earlier and the lowest level since December 2000.
Are we seeing a hint of Phillips Curve style analysis which would predict wage growth acceleration? We did get told he likes policy rules.
Personally, I find these rule prescriptions helpful
Also you may note that he hinted at a pick-up in jobs growth in January which comes when the unemployment rate tells us that according to old policy rules we have what would have been considered to be full employment. It was also interesting that he skirted what we might call the missing eleven million or so via the drop in the participation rate.
the labor force participation rate remained roughly unchanged, on net, as it has for the past several years
I am not sure that it all be blamed on retiring “baby boomers” as we were told.
So we are told that the economy is strong and got a pretty strong hint that higher wage growth is expected and of course that follows the 2.9% growth seen in January in average hourly earnings.
Wages should increase at a faster pace as well.
What about inflation?
That is supposed to pick-up as well as we continue our journey on a type of virtual Phillips Curve.
we anticipate that inflation on a 12-month basis will move up this year and stabilize around the FOMC’s 2 percent objective over the medium term.
These days it is something of a residual item in speeches by central bankers. This is for two main reasons. The first is that they have really been targeting output and the labour market. The second is that even after an extraordinary amount of QE they failed to generate the ( consumer) inflation they promised and so they are de-emphasising it.
This subject flickered onto some radar screens yesterday as they observed this from the Census Bureau.
The international trade deficit was $74.4 billion in January, up $2.1 billion from $72.3 billion in December.
Exports of goods for January were $133.9 billion, $3.1 billion less than December exports. Imports of goods
for January were $208.3 billion, $0.9 billion less than December imports.
This is something which has been rising as we note this from the Bureau of Economic Analysis or BEA earlier this month.
For 2017, the goods and services deficit increased $61.2 billion, or 12.1 percent, from 2016. Exports
increased $121.2 billion or 5.5 percent. Imports increased $182.5 billion or 6.7 percent.
So we may well be seeing economic growth sucking in imports yet again or a different form of overheating. Thus the words of Chairman Powell above on exports were both true ( they are up) and to some extent misleading as imports have risen faster. This is reinforced with my usual caution about monthly trade data by the size of the January goods deficit which is the largest for ten years. If we allow for the fact that the shale oil and gas boom flatters the figures the numbers take a further turn for the worse.
We return to the same theme as we note this.
The Conference Board Consumer Confidence Index® increased in February, following a modest increase in January. The Index now stands at 130.8 (1985=100), up from 124.3 in January. The Present Situation Index increased from 154.7 to 162.4, while the Expectations Index improved from 104.0 last month to 109.7 this month.
So another signal looks strong.
If we start with the analysis of Chair Powell we see that the US Federal Reserve plans to continue interest-rate rises this year and that it means to do so either 3 or more likely 4 times. This is based on the view that otherwise the economy will overheat as discussed above. Let me add a personal view to this which is the current madness of going along at 0.25%, why not raise by 0.5% in March and then sit back for a while and see what develops? Monetary policy has long lags and if you take ages to act you are at an ever greater risk of being proved wrong.
Another factor in this is the data I have looked at above as I have held something back until now which is troubling. Here is the extra bit from the consumer confidence figures.
Consumer confidence improved to its highest level since 2000 (Nov. 2000, 132.6).
Now if we look at the trade in goods figures the deficit was last higher in January 2008 a time when consumer confidence was high in many places too. What happened next in both instances?
If we continue with that line of thought we find that the oil market may be giving a hint as well.
Another reason I think to act more decisively now as after all interest-rates will only be 1.75% to 2% after a 0.5% rise a level I have long argued for and then wait and see. After all we could be seeing a flicker of a road to QE4.