Economy Perseveres against Tighter Monetary Policy

For several years now, the economy has been resisting the Federal Reserve’s tighter monetary policy.

In 2015, the Fed stopped its quantitative easing program, and it has been increasing interest rates at a very slow rate ever since. The Fed also is letting the bonds and mortgages it bought mature and roll off the balance sheet at a steady, measured rate.

These actions put upward pressure on interest rates. Since the Fed isn’t buying as many bonds and mortgages as it used to, other investors have to step in to replace the Fed’s buying. If buyers don’t appear, rates will rise. That’s part of what has been happening since late 2017.

Despite tighter monetary policy and higher interest rates, the economy continues to perk along, and the growth appears to be both sustainable and self-reinforcing.

Confidence measures of both consumers and businesses remain at very high levels and recently have been rising. Wages are rising, and household spending is increasing. Business investment has increased, and businesses say in surveys that they plan to increase investment, hire more workers and raise compensation.

Of course, the labor market continues its remarkable strength. New unemployment claims are at record lows. The unemployment rate is very low. The monthly Employment Situation reports say there are more unfilled job positions than there are unemployed workers in the labor force.

All this strength makes the Fed more likely to continue raising rates and perhaps tighten policy more aggressively than it had planned.

A portion of the recent growth is due to the fiscal stimulus put in place at the end of 2017. Some economists argue that the effects of the stimulus will continue for several years, while others believe the effects will fade after a year or so. If the latter position proves to be correct, the effects of the stimulus will start to fade sometime in 2019.

The big risk to investors and the economy is that the Fed could tighten more aggressively just at the time the effects of the fiscal stimulus fade. If that happens, the markets and economy could be in trouble. If that happens, it is months away. Until then, markets and the economy are likely to remain on their current paths.

The Data

Consumer Confidence, as measured by The Conference Board, continues to soar. The latest reading was measured at 138.4. This was well above expectations and the highest level since 2000, when the reading came in at 144.7. Also, last month’s number was revised higher to 134.7. This is the third consecutive month that the index exceeded expectations.

The Dallas Fed reported that manufacturing continued to expand in September, although at a slower rate, according to the Texas Manufacturing Outlook Survey. The index for the survey declined to 23.3 from 29.3. The new orders component of the index was at its lowest level in six months. Even so, this is considered a strong report.

The Richmond Fed, however, reported an increase in its manufacturing index. The index for the latest month was 29, an increase from 24. The Richmond Fed described manufacturing activity in its region as “robust.”

There was mixed news again in Durable Goods Orders. The headline number jumped to a 4.5% increase. Last month’s number was revised higher to a 1.2% decrease instead of a 1.7% decrease. However, most of this month’s increase was due to aircraft orders. Excluding transportation, orders increased only 0.1%. Core capital goods, considered a good measure of business investment in equipment, declined 0.5%. That’s a big disappointment after several months of steady increases in core capital goods orders.

House prices continue to increase, but at a slower rate, according to the S&P CoreLogic Case-Shiller Home Price Index. Prices rose 0.2% for the latest month and are up 6.0% over 12 months. Last month, the 12-month increase was 6.2%. Of the 20 cities tracked for the index, 15 had lower price growth than in the previous month.

The FHFA House Price Index also reported a 0.2% increase for the latest month but a 6.4% increase over 12 months. This index has been a little stronger than the Case-Shiller index for a while. Also, the Case-Shiller index lags FHFA by a month and averages prices over three months to produce the numbers for the latest month.

Pending home sales decreased 1.8% for the month, following a 0.8% decline the previous month. A combination of factors are holding down home sales. For example, the lack of inventory of homes for sale is frequently cited as a reason. Also, rising interest rates and home prices make homes less affordable.

New unemployment claims jumped by 12,000 to 214,000, up from last week’s record low of 202,000. This was a little below expectations and still is near record lows.

The third estimate of second-quarter gross domestic product (GDP) was unchanged at a 4.2% annual growth rate. Also unchanged were real consumer spending at a 3.8% increase and the GDP price index at a 3.0% increase.

The Markets

The S&P 500 slid 0.01% for the week ended with Wednesday’s close. The Dow Jones Industrial Average eased 0.04%. The Russell 2000 fell 0.69%. The All-Country World Index increased 0.66%. Emerging market equities rose 1.03%.

Long-term treasuries returned 0.76% for the week. Investment-grade bonds rose 0.41%. Treasury Inflation-Protected Securities (TIPS) added 0.18%. High-yield bonds edged up 0.14%.

On the currency front, the dollar fell 0.28%.

Energy-based commodities rose 1.48% for the week. Broader-based commodities returned 1.77%. Gold lost 0.69%.

Bob’s News & Updates

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