August starts with a great ISM manufacturing report, but a dismal construction spending one

 

 - by New Deal democrat

As per usual, we start out the month with the ISM manufacturing report (for July) and the construction report (for June). The first was strong; the second was dismal.

Let’s start with the (mainly) good news first. The headline number for the ISM manufacturing report was 55.6 (any number above 50 signifying expansion), the highest since 2022. For forecasting purposes, I average the last three months, which comes out to 54.3:

The more leading new orders subindex rose to 56.7, and the three month average was 56.5:

Both the headline and new orders numbers indicate a strong expansion, which can be expected to continue at least a few more months.

The good news didn’t stop there, because employment rose into positive territory at 52.8. The three month average also crossed into expansion at 50.4:

The only aspect of the data which was negative was the prices paid subindex, which while it declined to 71.1, still indicated very widespread price increases upstream. The three month average was 75.4. These are readings very close to the post-pandemic inflationary peak:

This is of a piece with the regional Fed reports and other manufacturing and production reports, which have shown a surprising rebound this year, but a strongly inflationary one. For forecasting purposes, I weigh manufacturing at 25%, and the other 75% from the ISM services report, which will be updated Wednesday. But that has been consistently positive all year. So again, the message is: positive, but with a strong inflationary current.

But if manufacturing was good, the construction spending report was if anything recessionary. Total construction (blue in the graph below) declined -0.1% for the month, and is down -3.2% YoY. The more leading residential construction sector (red) declined -0.3% for the month, and is down -4.7% YoY. What makes these numbers worse is that they are nominal. The price of construction materials (gold) rose 1.4% in July and was up 9.0% YoY. The below graph norms all three to 100 just before the pandemic for easy comparison:

And here is a look at the YoY% change in both total and residential construction spending:

Quite simply, both are recessionary, especially when coupled with rising materials prices as was the case in 2006 but not in 2019. Of course, housing has been in recessionary territory for over a year - without a recession having occurred.

The dismal news continued in manufacturing construction spending as well, down -1.2% for the month and down -31% from its September 2024 peak:

The only reason this isn’t recessionary is that the building of factories isn’t a big enough part of the economy any more to be crucial.

Finally, here is an update on spending on power construction (blue, left scale) and water supply (orange, right scale), the two sectors most closely aligned with the AI data center Boom:

The former rose 0.6% for the month, and is up 3.5% YoY, while the latter declined -0.3% and is up only 0.9% YoY at this point. Keep in mind once again that these are nominal figures and don’t take into account the 9.0% increase in construction materials YoY.

These were two very dissimilar reports to start the month. The manufacturing sector is doing quite well, but the construction sector is doing quite poorly. That’s one positive leading indicator, and one negative. 

Weekly Indicators for July 27 - 31 at Seeking Alpha

 

 - by New Deal democrat

My “Weekly Indicators” post is up at Seeking Alpha.

Unsurprisingly, the big move this week was in interest rates, which reacted very poorly to the Fed’s decision to keep rates steady, and especially to new Chairman Warsh’s comments essentially abdicating the Fed’s proactive role to the markets, and also a suggestion that the Board’s meetings would take place less frequencly.. In fact, since then it appears that several other members of the Board are in open rebellion, particularly against the latter suggestion.

In any event, as usual clicking over and reading will bring you up to the virtual moment as to the state of the data, and bring me a penny or two in lunch money.

Consumers’ strong spending contrasts with recessionary real incomes in June

 

 - by New Deal democrat

Here is my delayed write-up on yesterday’s report on personal income and spending in June. To cut to the chase, it continues this year’s paradigm of weak income but strong spending, likely fueled by the ‘wealth effect’ from stock market gains among the upper income levels. 

Let me start by reiterating that personal income and spending are among the most important of all monthly indicators, because they give us a detailed look at consumption by the broad range of American households. Further, since consumption leads employment, they also give us an idea of what is likely to happen with regard to jobs in the near future.

This morning’s data for June showed that, nominally, personal spending rose 0.3%, and personal income rose 0.2%. Since the PCE deflator declined -0.1%, real spending was up 0.4%, and real income up 0.5%. Here is what they look like since the pandemic:

As per my intro above, while real personal spending has continued to increase at a steady clip, real personal income has been flat and even worse for over a year. On a YoY% basis, real spending is up 2.5%, while real income is barely positive at 0.2%:

Although I won’t bother with a graph this month, historically when real personal income has been this low YoY, with the exception of several months in 2013, it has always meant a recession was already ongoing. On the other hand, since consumption leads employment, the still-strong spending suggests that the recent string of decently positive employment reports should continue for at least several more months:

With the -0.1% decline in PCE prices for the month, the YoY% change declined from 4.1% to 3.7%:

Nevertheless, aside from the post-pandemic inflationary spike, the only times this Milllennium that the PCE deflator has been higher were one month in 2005, and four months at the peak of gas prices in 2008. This is obviously not good.

Another important component of the data is spending on goods, and in particular durable goods, which is a leading indicator. Historically, the pattern has been that real spending on goods (blue in the graph below) turns down in advance of recessions, and in particular spending on durable goods (red), which tends to turn down first. Real spending on nondurable goods (gold) has tended to turn down last, while real spending on services (purple) has tended to rise even during all but the most prolonged or deep recessions. 

June was a good month for all of these metrics, as real spending on goods (blue) increased 0.7%, and on durable goods (red) increased  a sharp 1.5%. Real spending on nondurable goods (gold) rose 0.3%, as did real spending on services (purple). The below graph is normed to 100 as of March of last year, to show the stall in the two most leading metrics for the remainder of last year, together with the rising trend this year:

The difference in robust personal spending and anemic personal income is explained by the downward trend in the personal saving rate, which declined -0.1% to 2.7% in June:

This has been trending down since 2004, and is now at nearly its post-pandemic low. Further, although I won’t bother with the historical graph this month, it is also in the range of its lowest readings, which remained below 3% from 2005 through early 2008. This means two things: first, that consumers in June remained confident enough to continue spending despite the income constraints, but also that this spending is very vulnerable to any adverse shock (like $6 gas and/or the bursting of a financial bubble).

This report also allows us to update two important data series used by the NBER to date recessions. 

The first of these is real income less government transfers (like Social Security payments or unemployment benefits). This increased 0.2% in June, the second increase in a row. But this is still only 0.1% higher YoY (red, left scale), and -0.7% below its peak last September (blue, right scale):

The second important coincident indicator, real manufacturing and trade sales, which is delayed by a month, increased 0.4% in May, but is also -0.4% below its peak in February:

But if these two coincident markers are recessionary, other components, including industrial production (blue), employment (red), and as discussed above real consumption (dark gray), have made new highs as of the last monrth:

To sum up, consumers’ real incomes on average continue to languish, but their aggregate consumption continues to be strong. Production and sales have also been powering this year’s rebound from the near-miss or mini-recession of last summer and autumn. But households are continuing to dig into their savings. Unless incomes start to improve in real terms, then any reversal could easily lead to consumer retrenchment and a downturn. But we’re not there now. 

Q2 GDP: ‘meh’ and good headlines matched by ‘meh’ and good leading indicators for 2027

 

 - by New Deal democrat

Note: I will post my long write-up about personal income, spending, and saving tomorrow morning. 

As per usual, my focus on the GDP report is less on the topline numbers than on the two leading indicators - real spending on housing and proprietors’ income - contained therein. And to get to the point, the upshot is ‘meh.’

Let’s get the headlines out of the way first. Nominally GDP increased 7.9% annualized in the Q2, but since the GDP deflator increased 5.7%, real GDP (blue) increased only 1.5% annualized, which is relatively weak compared with the past few years. On the other hand, “core” real GDP, i.e., real final sales to domestic purchasers (red) increased a very strong 3.7%.  Here’s what the quarterly real gains look like over the past four years:

The difference between the two was due to a very large depletion of inventories:

In other words, relatively less product made, relatively more out of inventory and sold.

Here’s what the YoY% change in real GDP and real final sales look like over the same period:

For all of the chaos coming out of Washington, this almost looks like an economy on cruise control.

But for some information about what might be coming down the road, vs. what happened this past spring, let’s look at out two long leading indicators.

Real private residential fixed investment, a proxy for housing, increased 1.2% in the quarter, which is positive:

But the real long leading indicators is the above metric as a share of GDP, and so measured, that remained constant at 3.1%:

In other words, neutral. It’s worth noting, though, that as suggested in the far left of the above graph, this metric tends to bottom at or even a little before the end of recessions. So if anything, this adds a little bit to the evidence that the economy might be on a rebound.

The other long leading indicator is corporate profits deflated by unit labor cost. But since neither of those will be reported for one more month, we can make use of the placeholder of proprietors’ income, which is almost as leading. And this income rose 1.2% nominally in Q2 (blue), a fairly strong advance to a new high:

Since in the past few years unit labor costs (gold) have risen on average about 0.5% per quarter, it is almost certain that deflated proprietors’ income made a new high as well:

Recently I’ve indicated an added emphasis on the role that the increase or decrease in corporate profits have as a long leading indicator for the economy. Taken together, we have one ‘meh’ indicator and one that remains positive, suggesting that left to its own devices the economy would be likely to remain in expansion for another year.

Initial claims continue very positive for the economy, near 50+ year lows

 

 - by New Deal democrat

FRED has been very slow about updating either personal income and spending or Q1 GDP data graphs, so while I am waiting let me update with the weekly jobless claims information. To cut to the chase, it continues to be positive, and continues to forecast a further declilne in the unemployment rate.

Initial claims rose 9.000 to 197,000, still among the very best readings in over 50 years, while the four week average declined -5,000 to 202,750, also among the lowest in over 50 years. With the typical one week delay, continuing claims declined -7,000 to 1.782 million:

As per my bullet point above, on a YoY% change basis, initial claims were down -10.0%, the four week average down -8.5%, and total claims down -8.0%:

These are strongly positive short leading readings for the economy. Additionally, since jobless claims lead the unemployment rate, here is the latest update on that comparison:

Accordingly, I expect the unemployment rate to hold decline further in the next few months. We’ll see next week.

Has America become an “extractive economy”? The ‘tell’ of interest rates and inflation

 

 - by New Deal democrat

There is a quote, allegedly from Alexander Frazer Tytler over 200 years ago, but apparently actually originating in 1951 from a conservative columnist in Oklahoma, that “A democracy … can only exist until the majority discovers it can vote itself largess out of the public treasury.” But what if instead it is the wealthy who, by backing pliant politicians, are the ones who vote themselves money out of the treasury? 

That seems to sum up the fiscal state of the US in the 21st century, because three times in the past 25 years - in 2001, 2018, and last year - when the GOP has had complete control of government, there have been increasingly massive tax cuts favoring the wealthy.

Add in the incompetence and corruption of the current Administration, and the US appears to have begun a vicious cycle of inflation and interest rate increases.

 Let me begin with the fiscal situation. Below is a graph of of the annual gross federal deficit (blue, right scale), and the deficit as a percentage of GDP (red, left scale) since the turn of the Millennium:

The two emergency stimulus programs during the Great Recession and COVID stand out, as do the Bush tax cuts, and to a lesser extent the Trump 1.0 fiscal policies. Note that the graph ends in 2025, so the effect of last year’s tax bill do not appear yet.

Let’s compare this with the post-WW2 record until the turn of the Millennium:

Note that deficits were quite small until the late 1970s, typically no more than 2%, and then exploded during Reagan and George HW Bush’s terms to over 20%, until Clinton brought the situation (very briefly) back into surplus. But since W’s tax cuts in 2001, only in a few years have deficits been less than 2.5% of GDP, and they have worsened over time to about 6%, even during the post-pandemic Boom.

Decomposing the deficit situation shows that it is both an increase in outlays and a decrease in taxes collected:

As of last year - even before the Billionaire Bust-out Bill - only $3 were being taken in for every $4 being spent. And as the below graph of the 365 day moving average of the YoY% change in tax withholding payments shows, there has been a marked deceleration in tax payments that began last December and has continued this year:

Almost certainly, the fiscal situation will once again have been ratched further into negative territory.

The Bond Market has noticed, and it has not been amused. The trend in both the 10 year (red) and 30 year (blue) Treasury bonds has been higher ever since the pandemic:

With the exception of late 2023, the yields on both of these Treasuries is at levels not seen since before the Great Recession.

And there is every reason to suspect that this situation is going to worsen. First, here’s the diffusion index for prices paid from the most recent ISM manufacturing and services reports:

These are both near their worst post-pandemic inflationary levels.

And here are the averages of the prices paid (blue) and prices received (red) diffusion indexes from the NY and Philadelphia regional Fed reports:

With the exception of the post-pandemic surge, both of these are also near their highs since the turn of the Millennium.

Much of this has gone to the spending spree by the upper tiers of income, as indicated by the weekly Redbook reports:

And let’s not forget that the Iran situation shows no signs of ending, with gas prices on their way back up:

Let’s put this together. We have a widening deficit, and increasing interest rates, meaning that an increasing share of GDP is going to have to go to interest payments on deficit financing. And we have a corrupt Administration that has raided the treasury for the benefit of wealthy cronies. The Administration is also so incompetent that it has caused inflationary increases in consumer prices both from tariffs and from the results of its Iran fiasco. 

And there is no sign of this ending anytime soon. 

To return to the beginning theme of this post, about a decade ago economists Daron Acemoglu and James A. Robinson wrote “Why Nations Fail,” positing that countries with a strong rule of law and a widespread distribution of benefits, succeeded, while “extractive economies” typified by a ruler at the top who is above the law who along with his cronies siphons off as much created wealth as possible, fail. This is because in the former case innovation is incentivized, while in the latter case there is no point in being innovative since the ruler and his cronies will simply appropriate the wealth for themselves.

The US may well have passed the transition point into an extractive society, and the trends in interest rates and inflation are the first noticeable symptoms.

Is the disinflation in repeat home sales prices ending?

 

 - by New Deal democrat

There may be a new, slightly accelerating, trend developing in house prices — or it may just be noise. The former, of course, would not be good news for inflation. In any event, let’s take a look.

As per my usual preliminary comment, while existing home sales are about 90% of the market, new home construction is much more important for the economy. While the current cycle may have dispelled the notion that “housing *is* the economic cycle,” it is nevertheless an important component of the long leading indicators. But existing home sales are an important determinant of pricing equilibrium in housing, and the repeat home sales indexes, by S&P Case Shiller and the FHFA, are the best indicator of same.

The seasonally adjusted Case-Shiller National index (blue in the graphs below) declined once again, this month by less than -0.1% for the three month period ending in May, while the FHFA index (red) rose 0.3% [Note: FRED has not yet updated the Case Shiller data]:

Last month I noted that “there is something of a divergence showing in the YoY comparisons of the two national indexes,” as the Case Shiller national index had increased less than 1% YoY, while the (often slightly more leading) FHFA Index had accelerated to a 2.0% increase. This year the Case Shiller YoY comparison increased to 1.1%, and the FHFA increased to 2.2%:

As you can see, the red line has stopped declining and in the last few months has increased slightly. The blue line also appears to be ending its decline. As noted at the beginning of this post, this could be the sign of an incipient reversal of trend, but as of yet it could just be noise. 

Nevertheless, as shown in the graph below, by historical standards these are quite low increases. Additionally, while I haven’t shown it in the graph, last week existing home sales showed an increase of 1.8%. Given the lead time between house prices and the official CPI shelter component of owners’ equivalent rent (gold), here is an update of that historical comparison [Note: CPI*2.5 for scale]:

Keep in mind that the oficial CPI metric for shelter has been complicated by the “shelter kludge” that the Census Bureau performed last November as a result of the extended government shutdown. I concluded last month that  “I continue to believe that the repeat sales indexes point to continued slow deceleration in the shelter inflation in the CPI.” The increasing trend in YoY comparisons in the repeat sales indexes, if it is signal and not noise, calls that into question.

Finally, let’s take a look at how new and existing home prices as measured by repeat sales compare with households’ buying power (blue in the graph below), by adjusting for average hourly nonsupervisory earnings in the graphs below (median household income would be better, but is updated only once a year, and average wages are reasonably close for these purposes). I’ve also included the same metric for median new home prices, both monthly (thin, red) and quarterly (thick) to cut down on noise. Since the FHFA is reported as an index, I’ve used the most recent median price for existing homes as a substitute:

The bad news continues to be that existing houses remain more unaffordable than at any time before the pandemic, although they’ve backed off slightly from their highs; and indeed the median existing home is now more expensive than the median new home. Contrast that with new home prices, where builders have taken steps to meet the market. Until a lot more existing homes go on the market, this discrepancy is not going to be resolved.

Two cheers for increasing manufacturers’ new orders

 

 - by New Deal democrat

This is another one of those weeks when most of the important new data is crammed into one day, in this case Q2 GDP, personal income and spending, and jobless claims all will be released on Thursday.

Today we did get some further information on manufacturing, and the positive news in that sector continued, as new orders for durable goods (blue) increased 0.3% in June, and core capital goods orders (red) increased 0.9%. Since these are “official” (short) leading indicators, it is worth paying attention to them:

The former series in particular is noisy; hence the increased emphasis on the core. But it’s easy to see that both have been in an increasingly sharp positive trend since late 2024, interrupted somewhat in the months surrounding the T—-p Administration’s first imposition of widespread tariffs in April of last year.

This is in accord with what we have been seeing in the new orders components of the regional Fed manufacturing indexes. The average of the NY and Philadelphia indexes (gold, right scale) are shown below for comparison:

With the exception of early 2022, the regional Fed indexes have maintained a trend similar to the monthly durable goods orders reports.

The picture becomes more complicated, however, when we compare the durable and core capital goods orders metrics with the industrial (gray) and manufacturing (gold) production data (right scale):

Durable and core capital goods orders have risen over 35% since just before the pandemic, while production is up less than 1%, and manufacturing production slightly *below* their pre-pandemic level.

This brings up something that is important in the current environment, which is that the durable and capital goods orders metric are reported in nominal $ terms. Which means that, adjusted for inflation, the situation might be quite different. Below I show what both new orders metrics look like deflated by the PPI for finished goods, in comparison with manufacturing production:

Now the series look very similar, not only in terms of the trend, but also in their absolute values compared with just before the pandemic. Let me state right up front that there may be a better deflator or combination of deflators that may be better than the one I have used above, but it demonstrates that inflation has been distorting to the upside the positive trend in new orders. 

In other words, postive, but not so much. 

The NY Times finally tells its readers what I’ve been telling you for the last 6 months: wealth effect edition

 

 - by New Deal democrat

Via Ben Casselman, who authored the piece, here is the headline for a NYTimes article from last Wednesday:

As he summarizes it:

In other words, the Times finally got around to telling its readers what I’ve been telling you for about the last six months.

—-

And while I am at it, here is a link to the blog post I had to upload as an addition to the “Weekly Indicators” link one week ago, on the day when Blogger for some reason said I was unable to add a new post; on the pitfalls of mistaking the aggregate economy (and especially the stock market) as a proxy for the condition of average American working or middle class households:

 In which I defend the criticism of ‘bloodless quants’

Weekly Indicators for July 20 - 24 at Seeking Alpha

 

 - by New Deal democrat

My “Weekly Indicators” post is up at Seeking Alpha.

With the renewed warmaking in the Middle East, the price of oil and gas shot up, and interest rates across the board as well. It looks increasingly likely that the Fed will have to hike rates to fight inflation soon, maybe as early as next month.

As usual, clikcing over and reading will bring you up to the virtual moment as to all of the data on the economy, and reward me with a penny or two for collecting and organizing it for you.

June new home sales, prices, and inventory are more evidence for a subpar housing equilibrium

 

 - by New Deal democrat

In last month’s note on new home sales,  I concluded that “This is all but unique. Historically a recession will not occur until inventory turns down again. But to reiterate, housing has been recessionary for a year, and yet no recession has occurred.”

Earlier this month, I described the housing market as being in a subpar equilibrium, with sales, construction, prices, and finall inventory moving more or less sideways - but at a level of building not nearly enough to meet the needs of the millions of mainly younger potential buyers who are unable to move out of apartments or maybe even their parents’ home.

This morning’s new home sales report for June was yet more evidence for both of the above theses. Sales, prices, and inventory all generally stayed on their recent trend level.

First, sales increased 10,000 on a seasonally adjusted basis to 628,000 annualized. Because new home sales, while perhaps the most leading metric in the housing market, are very volatile and sharply revised, below I also show the much more stable, if slightly less leading, single family permits (red, right scale):

Single family permits have been stable for a year. Meanwhile single family home sales have downshifted slightly (by about 5%) this year. In June sales were down -5.6% YoY.

The dynamic is similar in median prices, which declined -$13,700 to $398,300 on a non-seasonally adjusted basis:

This continues the very slow declining trend in new home prices ever since 2022, down -2.7% YoY in June. By contrast, repeat existing home sales as typified by the FHFA index (red, right scale) have continued to rise at a very slow pace (currently up less than 2% YoY). The difference is because builders of new homes have been able to cut lot sizes, square footage, and amenities to make their homes more affordable to potential buyers, whereas those selling their existing homes obviously cannot. Since, as noted above, this series is not seasonally adjusted, here’s the YoY comparison:

Finally, inventory has also stabilized, down only -1,000 in June. This has been almost completely stable since last September:

For the past few years, I’ve been repeating that prices follow sales, and inventory follows prices. Inventory has historically been the last shoe to drop before a recession; but as shown in the below historical graph, only once in the past 60 years has a period of stability about this long been shortly followed by a recession, in 1991 - and in that case, inventory declined again for several months before the recession:

Otherwise, a bottoming in inventory is something we typically see towards or even after the end of a recession.

 So, to sum up and repeat: unless inventory turns back down, it is not forecasting a recession. With sales relatively stable and prices slowly deflating, the new home market is meeting the existing home market in a equilibrium, which is likely to remain unless something significant happens upstream, like an increase in mortgage rates back to 7%, possibly driven by a Fed rate hike.