Monday, 25 of March of 2019

Economics. Explained.  

Industrial Production

March 15, 2019

Industrial production rose 0.1% in February after having declined 0.4% in January.   During the past year industrial production has risen 3.5%.  Despite monthly wiggles, production continues to trend upwards slowly.  However, it also appears that its factory production is being curtailed by the trade sector and the impact of tariffs on both firms that import goods from overseas as well as firms that export goods to other countries because of their tit-for-tat increase in tariffs.  Slower growth in exports will not have a major impact on GDP growth in this country, but it is becoming more and more noticeable.

Breaking industrial production down into its three major sub-components,  the Fed indicated that manufacturing production (which represents 75% of the index) fell 0.4% in February after having declined 0.5% in January.  Some of the drop in January and February is attributable to a falloff in motor vehicle production which should be reversed in the months ahead.  During the past year  factory output has risen 1.0% (red line, right scale).   Factory activity in January and February hit a speed bump, but given that it occurred in the wake of a 20% selloff in the stock market, a Fed rate hike in that month, and the beginning of a government shutdown, it should perhaps not be too surprising.  But because the stock market has already recovered most of what it lost in the fourth quarter, the Fed has promised to refrain from further rate hikes for the foreseeable future, and the shutdown has finally come to an end, manufacturing activity should rebound in the months ahead.  However, the slower growth attributable to tariffs and the trade sector will be longer-lasting, but moderate.

Mining (14%) output rose 0.3% in both January and February.  Over the past year mining production has risen 12.5%.  Most of the recent upturn in mining has been concentrated in oil and gas drilling activity.  Oil and gas drilling which jumped 2.8% after having fallen 0.9% in January.     Over the course of the past year oil and gas well drilling has risen 11.1%.

Utilities output jumped 3.7% in February after having declined 0.9% in January and having plunged 5.2% in December as relatively warm weather trimmed the need for heating.  During the past year utility output has risen 9.0%.

Production of high tech equipment was unchanged in February after having declined in each of the previous five months.  Over the past year high tech has risen 3.7% but obviously its growth rate recently has been slowing down.  It is possible that the slower growth in this category reflects reduced demand for technological products from outside of the U.S. where economic activity has slowed noticeably.   We need to see renewed vigor in this sector if we are going to see the continuing strength in nonresidential investment that will be required for a sustained pickup in productivity.

Capacity utilization in the manufacturing sector fell 0.4% in February to 75.4% after having declined 0.4% in December.  It remains somewhat below the 77.4% level that is generally regarded as effective peak capacity.  However, factory owners will soon have to spend more money on technology and re-furbishing or expanding their assembly lines to boost output.

Stephen Slifer


Charleston, SC

Unemployment vs. Job Openings

March 15, 2019

The  Labor Department reported that job openings rose 1.4% in January to 7,581 thousand after having declined 1.9% in December.   It is worth noting that there are far more job openings today than there were prior to the recession (4,123 thousand in December 2007).   There were 6.5 million people unemployed in January.

As shown in the chart below, there are currently 0.9 unemployed workers for every available job.   Think of that — there are more job openings today than there are unemployed workers.  Prior to the recession this ratio stood at 1.7 so the labor market is clearly in far better shape now than it was prior to the recession.  Further, at the end of the recession there were 6.6 times as many unemployed workers as there were job offers so, clearly, the job market has come a long ways in the past 9-1/2 years.

In  this same report the Labor Department indicated that the quit rate in December was  at 2.3 which is the highest level since January 2001.   This is a measure of the number of people that voluntarily quit their jobs in that  month.  During the height of the recession very few people were voluntarily quitting because jobs were scarce.  So the more this series rises, the more comfortable workers are in leaving their current job to seek another one.  The quit rate today is 2.3.  At the beginning of the recession it was at 2.0 and the record high level for this series was 2.6 back in January 2001.

There is one other point that should be made about this report.  Janet Yellen used to  claim that there were a large number of unemployed workers just waiting for jobs if only the economy were to grow fast enough.  She is assuming that these people have the skills and are qualified for employment.  We tend to disagree.  There are plenty of job openings out there.  What is not happening as quickly is hiring.  Take a look at the chart below.  Job openings (the green line) have been rising rapidly (and are far higher now than they were prior to the recession); hires (the red line) have been rising less rapidly.

Indeed, if one looks at the ratio of openings to hires the reality is that this ratio  has not been higher at any point in time since this series began in 2000.  There are plenty of jobs out there, but employers are having a hard time filling them.  Why is that?

A couple of thoughts come to mind.  First and foremost, many unemployed workers simply do not have the skills required for the jobs available.  If they did, why aren’t they being hired?  Why aren’t some current part time workers stepping into the void for those full time positions? Why haven’t discouraged workers begun to seek employment with so many jobs available?  Why haven’t long-term unemployed workers bothered to go back to school and acquire the skills that are necessary to land a  job?

Or perhaps many of these people flunk the drug tests.  They might not be qualified for employment for a variety of possible reasons.

Perhaps also some people in this group find the combination of unemployment benefits and/or welfare benefits sufficiently attractive that there is little incentive to take a full time job when you can sit at home do nothing and make almost as much.

Jobs are plentiful and the only reason the unemployment rate is not falling faster is because the remaining unemployed/discouraged/part time workers do not have the skills required by employers today, flunk the drug tests, or are unwilling to take the jobs that are available.

Stephen Slifer


Charleston, SC

New Home Sales

March 14, 2019

The headlines was that new home sales fell 6.9% in January to an annual rate of 607 thousand.  However, the headline never bothered to point out that sales for November and December were revised upwards sharply.  As a result, the 3-month average pace of new home sales which had been 590 thousand in December is now 629 thousand in January.  That presents an entirely different picture of the market for home sales.  It is true that the pace of sales is 4.1% below what it was a year ago.   Thus, the housing sector has softened, but not nearly as dramatically as the earlier data suggested.

The National Association of Realtors publishes a series on housing affordability for existing homes which stood at about 150.0 in December.   However, since that time mortgage rates have fallen about 0.5%.  which means that in this index is headed higher.  We estimate that in the first few months of this year affordability has jumped to 155.  That means that consumers have 55.0% more income than is necessary to purchase a median priced existing home.  Thus, existing homes were affordable late last year and are more affordable now than they were just a few months ago.  It is important to remember that consumer income continues to climb.  Jobs are being created at a pace of about 190 thousand per month and hourly earnings are accelerating.  Those two factors boost income.  Thus, consumer paychecks are getting fatter and they can more easily afford a new home today that they were just a couple of months ago.  We believe strongly that housing is affordable and should continue to be affordable for some time to come.

New home prices fell 0.6% in January to $317,200 after having risen 4.1% in December after having fallen 6.6% in November.   Because this is an inherently volatile series we tend to focus on a 3-month moving average of prices (shown below) which is $314,300.  During the course of this past year prices have fallen 7.2%.  Lower prices will provide some stimulus to the pace of home sales in the months ahead.

At the same time mortgage rates have fallen from almost 5.0% to 4.4%.  That, too, should help sales rebound.

Having said all that, builders  are having a hard time finding an adequate supply of both skilled and unskilled workers.  Construction employment is rising by about 20 thousand per month.  Builders would like to step up the pace of construction, but it is difficult for them to do so given the scarcity of workers.

Between lower prices and lower mortgage rates, we believe new home sales should climb in the months ahead.  Thus, we believe the housing sector will continue to do reasonably well in 2019.  We expect the sales pace to rise 10.0% this year to 675 thousand.  Mortgage rates should  climb to 4.8% by the end of 2019 which is still quite affordable.  But that mortgage rate forecast includes two more rate hikes by the Fed in the second half of this year.  However, inflation expectations remain well in check and as a result the yield on the 10-year note has fallen to 2.65% which is only 0.25% higher than the funds rate.  That means the yield curve — the difference between long-term and short-term interest rates — has flattened to 0.25%.  We will see how the year progresses, but if the yield on the 10-year note remains close to its current level the Fed will have a hard time raising the funds rate later this year without causing the yield curve to flatten to 0% or possibly even invert.  We have noted that an inverted yield curve is one indicator of an upcoming recession.  The Fed is well aware of that and, hence, the two rates hikes in our current forecast are becoming increasingly unlikely.  But we still expect the economy to rebound as the year progresses, which could push long-term  interest rates higher and permit the Fed to raise rates a couple of times as the year progresses.  We will see.

Stephen Slifer


Charleston, SC

Construction Spending

March 13, 2019

Construction spending (the green bars above) rose 1.3% in January after having declined 1.3% in November and 0.8% in December.  Over the past year it has risen 0.3%.  Not only is this a very volatile series with large swings from month to month, even the previously released data can revise substantially.  Furthermore, the series can be distorted by big swings in public construction spending.  Having said all of that, construction spending has come to a halt over the course of the past year driven largely by a drop in residential construction, single-family homes in particular.

Private construction rose 0.2% in January after having declined 1.3% in November and 0.7% in December.  Over the past year private construction spending has fallen 2.0% which reflects a 2.4% increase in private non-residential construction and a 5.6% decline in the private residential category.

Within the private construction spending category, residential spending fell 0.3% in January after having plunged 1.9% in December.   Over the course of the past year private residential construction has fallen 5.6%.  The shortages of both homes available for sale and apartments will push this series higher in the months ahead, however the scarce availability of labor will limit its rise.  Construction of private single family homes has declined 7.2% in the past year, multifamily construction has risen 12.8%.

The Census Bureau tells us that on average 1.2 million new households are being formed every year.  Those families need a place to live.  It could be a home.  It could be an apartment.  Replacement demand should add about 0.5 million unit to that for a total demand of 1.7 million or so units per year.  Currently, builders are starting about 1.2 million units per year.  But keep in mind that housing starts have fallen way short of demand for the past nine years. Thus, the demand for housing will remain strong for the foreseeable future which will keep construction workers fully employed for some time to come.

Private nonresidential construction rose 0.8% in January after having climbed by 0.6% in December.   During the past 12 months nonresidential construction has risen 2.4%.  To get more lift in the investment spending component of GDP we would like this component to turn more sharply upwards.

Public sector construction jumped 4.9% in January after having declined 1.0% in December.  This category can be quite volatile on a month-to-month basis.  Over the past year such spending has risen 8.0%.  It will probably rise about 7.0% this year given the increase in defense spending approved in January.

Stephen Slifer


Charleston, SC

Durable Goods Orders

March 13, 2019

Durable goods orders rose 0.4% in January after having risen 1.3% in December.  As always this is a very volatile series.  Over the course of the past year durable goods orders have risen a solid 8.4%.  Our sense is that orders will continue to grow slowly in the months ahead.

In most  months transportation orders are the biggest category contributing to that month’s change  — both to the upside and downside.  That was  the case in December as transportation orders rose 3.3% and in January when such orders climbed by 1.2%.   This means that non-transportation orders fell 0.1% in January after having risen 0.3% in December.  These orders had been steadily rising at rates generally between 7.0-9.0% (red line) earlier in the year, but have slipped in recent months to a year-over-year increase currently of 4.4%.

Economists are also interested in capital goods orders so we can get some sort of a handle on the investment spending portion of GDP.  But even capital goods orders can get blown around from one month to the next if there is a huge defense order or if there is a big airline order.  Orders will rise very sharply one month, only to decline almost as sharply in the subsequent month.  Thus, the focus is typically on non-defense capital goods orders ex air.  These orders rose 0.8% in January after having declined 0.9% in December.  Over the course of the past year such orders have risen 4.1%.  These orders seem to be rising at a moderate pace which bodes well for continued sustained growth in investment spending and positive growth in productivity.

The backlog of orders rose 0.1% in January after having declined 0.1% in November.  If orders continue to climb consistently the backlog will climb as well, which will continue to boost production.   We are not looking for a lot of strength from the manufacturing sector in 2019, but we do expect it to continue its gradual uptrend.

We think that the manufacturing sector is on a slow but steady uptrend.  The economy is cranking out 190 thousand jobs per month.    The tight labor market should induce firms to spend money on technology in 2019 to boost output.  The rate of capacity utilization in the manufacturing sector suggests a need fairly soon to either re-furbish the assembly line and/or invest in new technology.  Corporations are making solid profits.  Interest rates remain relatively low.  Inflation remains close to the Fed’s target.  The  underpinnings of the economy remain firm.

We expect investment spending to climb  6.5% in 2019.

Stephen Slifer


Charleston, SC

Producer Price Index

March 13, 2019

The Producer Price Index for final demand – intermediate demand  includes producer prices for goods, as well as prices for construction, services, government purchases, and exports and covers over 75% of domestic production.

Producer prices for final demand rose 0.1% in February after having declined 0.1% in both December and January.  During the past year this inflation measure (the red line) has risen 1.8%.

Excluding food and energy producer final demand prices rose 0.1% in February after having  risen 0.3% in January.  They have risen 2.5% in the past year (the pink line).  This series was steadily accelerating for a couple of years, but it has leveled off in the past 12 months or so.

This overall index can be split apart between goods prices and prices for services.

The PPI for final demand of goods rose 0.4% in February after having fallen 0.8% in January. These prices have now risen 0.6% in the past year (left scale).   Excluding the volatile food and energy categories the PPI for goods rose 0.1% in February after having climbed 0.3% in January.  During the past year the core PPI for goods (the light green line) has risen 2.2% (right scale).

Food prices declined 0.3% in February after having plunged by 1.7% in January.  Food prices are always volatile.  They can fall sharply for a few months, but then reverse direction quickly.  Over the past year food prices have risen 1.6%.

Energy prices rebounded by 1.8% in February after having fallen 3.8% in January.  Energy prices have declined 6.5% in the past year.   This drop is in large part because U.S. oil output is now surging and global demand has been slowing down.  But  OPEC countries have recently cobbled together an agreement to cut oil production.  That has stabilized oil prices for the time being although OPEC would like them to rise to the $85-90 per barrel mark.  Not going to happen with U.S. output surging.

The PPI for final demand of services was unchanged in February after having risen 0.3% in January.  This series has risen 2.4% over the course of the past year (left scale).   The jump in service goods prices late last year was caused by a run-up in the trade services category.  These swings largely reflect the change in margins received by wholesalers and retailers (apparel, jewelry, and footwear in particular). .  The PPI for final demand of services excluding trade and transportation (the light blue line) rose 0.3% in February after having been unchanged in both December and January.  It has climbed 2.2% in the past year.

The slowdown in producer prices was foreshadowed by the results of the Institute for Supply Management’s series on prices paid by manufacturing firms.  In the case of manufacturing firms the chart looks like the one below.  Price pressure were steadily building for six consecutive months.  Specifically, the price component rose steadily from 64.8 in November of last year to 79.5 in May.  The fact that every month was above 50.0 meant that prices producers were paying increased every single month.  Given that the level of the index was above 50.0 and steadily rising during that period of time indicated that price pressures were intensifying every single month.  However, from June through February this series has actually declined to 49.4.  This means that prices are now fairly steady.  Thus, the steady upward pressure on the PPI has begun to abate.

Because the PPI measures the cost of materials for manufacturers, it is frequently believed to be a leading indicator of what might happen to consumer prices at a somewhat later date.   However, that connection is very loose.

It is important to remember that labor costs represent about two-thirds of the price of a product while materials account for the remaining one-third.  So, a far more important variable in determining what happens to the CPI is labor costs.  With the unemployment rate currently at 3.8% the labor market is beyond full employment.  As a result, wages pressures have begun to climb, but much of the upward pressure on inflation should be countered by an increase in productivity.  Nevertheless, the tighter labor market should exert at least moderate upward pressure on the inflation rate.

Some upward pressure on labor costs, rents, and the cost of materials will put modest upward pressure on inflation.  We expect the core CPI to increase  2.3% in 2019 after having risen 2.2% in 2018.

Stephen Slifer


Charleston, SC

Consumer Price Index

March 12, 2019

The CPI rose 0.2% in February after having been unchanged in each of the previous three months.  During the past year the CPI has risen 1.5%.

Food prices rose 0.4% in February after having climbed 0.2% in January.  Food prices have risen 1.9% in the past twelve months.

Energy prices rose 0.4% in February after having fallen 3.1% in January.  These prices are always volatile on a month-to-month basis.   Over the past year energy prices have declined 5.1%.

The recent drop in energy prices is  partly related to a drop-off in demand outside the U.S., principally in China.  It also reflects a huge jump in U.S. oil production.  As a result, oil prices plunged from $76 per barrel back in October to a low of about $45 billion in early January.  However, a cut in Saudi output announced last month has lifted prices back to about $55 per barrel.

Excluding food and energy the CPI 0.1% in February after having risen 0.2% in each of the past five months.  Over the past year this so-called core rate of inflation has risen 2.1%.  We expect the core CPI will rise 2.3% in 2019.

The most interesting development in the CPI in recent years has been the dichotomy between the prices of goods (excluding the volatile food and energy components) and services.  For example, in the past year prices for goods have risen 0.1% while prices for services have risen 2.7%.

With respect to goods prices, it appears that the internet has played a big role in reducing the prices of many goods.  Shoppers can instantly check the price of any particular item across a wide array of online and brick and mortar stores.  If merchants do not match the lowest price available, they risk losing the sale.  Thus, they are constantly competing with the lowest price available on the internet.  Looking at specific items in the CPI we find that prices have been unchanged for almost every major category in the past year.  Apparel prices have declined 0.8%, new cars have risen 0.3%, airfares have fallen 2.3%, televisions have declined 16.8%, audio equipment has dropped 0.5%, toys have fallen 8.8%, information technology commodities (personal computers, software, and telephones) have declined 6.1%.  Prices for all of these items are widely available on the internet and can be used as bargaining chips with traditional brick and mortar retailers.

In sharp contrast prices of most services have risen.  Specifically, prices of services have risen 2.8% in the past year.  The increase in this  broad category has been led by shelter costs which have climbed 3.2%.  This undoubtedly reflects the shortages of both rental properties and homeowner occupied housing. Indeed, the vacancy rate for rental property is at a 30-year low. This steady rise in the cost of shelter  will continue for some time to come and, unlike monthly blips in food or energy, it is unlikely to reverse itself any time soon.

The CPI, both overall and the core rate, will have a slight upward bias  in the months ahead because of what has been happening to shelter prices, gradually rising labor costs, and rising producer prices.  But on the flip side, productivity gains are countering much of the increase in labor costs, and the internet is keeping a lid on the prices of goods.  We look for an increase in the core CPI of 2.3% in 2019.

The Fed’s preferred measure of inflation is not the CPI, but rather the personal consumption expenditures deflator, specifically the PCE deflator excluding the volatile food and energy components which is currently expanding at a 1.9% rate.  We expect it to climb 2.0% in 2019.  The Fed has a 2.0% inflation target.

Why the difference between the CPI and the personal consumption expenditures deflator?  The CPI is a pure measure of inflation.  It measures changes in prices of a fixed basket of goods and services each month.

The personal consumption expenditures deflator is a weighted measure of inflation.  If consumers feel less wealthy in some month and decide to purchase inexpensive margarine instead of pricey butter, a weighted measure of inflation will give more weight to the lower priced good and, all other things being unchanged, will actually register a decline in that month.  Thus, what the deflator measures is a combination of both changes in prices and changes in consumer behavior.

As we see it, inflation is a measure of price change (the CPI).  It is not a mixture of price changes and changes in consumer behavior (the PCE deflator).  The core CPI should increases 2.3% in 2019 while the core PCE climbs 2.0%.  That compares to the Fed’s targeted rate of 2.0%.

Keep in mind that real short-term interest rates are quite low.  With the funds rate today at 2.4% and the year-over-year increase in the CPI at 1.5% the “real” or inflation-adjusted funds rate is 0.9%.  Over the past 57 years that “real” rate has averaged about plus 1.0% which should be regarded as a “neutral” real rate.  Given a likely pickup in GDP growth this year and next and a gradual increase in the inflation rate, a rate that low is inappropriate in today’s world.  The Fed should continue to push rates somewhat higher and gradually run off some of its longer term securities, although the Fed’s anticipated two rate  hikes in 2019 will not occur until the second half of the year.

Stephen Slifer


Charleston, SC

Retail Sales

March 11, 2019

Retail sales edged upwards by 0.2% in January after having plunged 1.6% in December.  However, the recent softness occurred at a time when the stock market declined 20% and there was a protracted government shutdown began right round Christmas.  But the stock market has already recovered most of its fourth quarter loss.  The Fed said it is going to refrain from further rate hikes at least through midyear.  And the protracted government shutdown is now over.  Hence, retail sales should rebound in the months ahead.  Over the  past year retail sales have risen 2.5%.

Sometimes sales can be distorted by changes in autos and gasoline which tend to be quite volatile.  In this particular instance car sales fell 2.4% in January.  Gasoline sales fell by 2.0%.  Changes in gas prices  impact the overall change in sales, but they typically do not reflect any significant change in the volume of gasoline sold.

Perhaps the best indicator of the trend in sales is retail sales excluding the volatile motor vehicles and gasoline categories.  Such sales rose 1.2% in January after having declined 1.6% in December.  Any way one slices it, sales across the board fell sharply at the end of last  year.   In the last year retail sales excluding cars and gasoline have risen 3.8%.

While there has been a lot of disappointment about earnings in the traditional brick and mortar establishments  the reality is that they need to develop a better business model.  The action these days is in non-store sales which have been growing rapidly. Consumers like the ease of purchasing items on line.  While sales at traditional brick and mortar general merchandise stores have risen 2.5% in the past year, on-line sales have risen 7.5%.  As a result, their share of total sales has been rising steadily and now stands at a rear record 11.5% of all retail sales.

Despite the December and January weakness we believe that retail sales will rebound in the months ahead.  First, the stock market has recovered much of its fourth quarter decline.

Second, the economy continues to crank out 200 thousand jobs a month,  Those job gains will produce growth in income.

Third, because of those steady job gains real disposable income should continue to climb at a solid 3.0% pace which is roughly in line with its 25-year average growth of 2.7%.

Fourth, as the Fed tightened steadily for the past couple of years mortgage rates rose to 4.9%, but in the past couple of months as the Fed has pledged to refrain from any further rate increases at least until midyear and as inflation has remained in check, the 30-year mortgage rate has fallen to 4.4%.  That should bolster the housing market as we move into the spring.

Finally, consumers have paid down a ton of debt and debt to income ratios are very low.  That means that consumers have the ability to spend more freely and boost their debt levels if they so choose.

Thus, the pace of consumer spending should rebound in the months ahead.  We continue to expect GDP growth to rise 2.7% in 2019 after having climbed 3.1% last year.

Stephen Slifer


Charleston, SC

Trade Tantrum

March 8, 2019

The latest piece of news to rattle the market was the revelation that the trade deficit for goods widened to a record $900 billion last year.  We believe that the focus on the magnitude of the trade deficit is misplaced.

First of all, we strongly believe that trade is good.  When countries trade with each other there is a wider variety of goods and services available at lower prices than there would be in the absence of trade.  Both countries win.  A trade deficit simply means that one country bought more goods from other countries than those countries bought from it.  Thus, trade deficits are not necessarily bad.  The problem with trade is that all countries do not play by the same rules.  Some countries cheat.  The Chinese, for example, steal trade secrets, they do not respect copyright or patent laws, and they require foreign firms that want to do business in China to share their technology.  Furthermore, the yawning trade gap perhaps indicates that current trade agreements like NAFTA, as well trade agreements with Europe and Japan, were not well negotiated and allowed other countries to take advantage of the U.S.    One can make a case that the U.S. has been subsiding growth in other countries at its own expense for years.  So, while the magnitude of the trade deficit is not a concern, there are fairness issues that must be addressed.

The trade deficit for goods widened to a record $900 billion in 2018.  But so what?  The wider deficit reflects the fact that our economy was growing faster than others and, as a result, imports rose sharply.  It also means that foreigners now have $900 billion dollars to invest in the U.S.  Those foreign firms could start businesses here, hire American workers, and/or invest in our stock and bond markets.  What is so bad about that?

Trade is a relatively small segment of the U.S. economy and accounts for a mere 10% of GDP.  Thus, the rather impressive widening of the trade gap last year subtracted a mere 0.2% from GDP growth.  It is hard to conclude that the wider trade gap had any major negative impact on the U.S. economy.

Nevertheless, Trump initiated a trade war because he was concerned about the size of the trade deficit.  His goal was to shrink the trade deficit and bring back jobs to the U.S.  But nearly one-half of the U.S. trade deficit is with one country — China.  We do not have a trade deficit problem with Canada, Mexico, Europe, Japan, or OPEC.  Just China. If Trump was truly concerned about the magnitude of the trade deficit, we believe that he should have targeted those countries where the trade gap is largest.

But Trump didn’t do that.  He chose to impose tariffs across the board which impacted our neighbors, friends and allies alike.  Not surprisingly, the imposition of tariffs by the U.S. generated retaliation by many other countries and a trade war was underway.

While trade is a relatively small portion of the U.S. economy, it is roughly 50% elsewhere.  Once the trade war began, investors scoured the globe to figure out which country might perform best.  The answer they came up was the U.S. because trade is such a small part of the U.S. economy.  As a result, money flowed into the U.S. stock and bond markets and the dollar jumped 10% last year.

There are no winners in a trade war.  Everybody loses.  But not everybody loses equally.  GDP growth in the U.S. was reduced by about 0.2% last year.   But given that trade plays a major role in everybody else’s economy their growth rates have been reduced more sharply.  In the past six months, for example, the IMF has cut its forecast for growth in emerging economies this year by 0.5%.  Growth rates for developed countries have also been negatively impacted.  Given that growth rates everywhere around the globe are slowing, their currencies are weakening, and their stock markets have declined, the pain of tariffs is intense.  As a result, many countries are rushing to complete trade deals with the U.S.  New deals have already happened with Mexico and Canada.  Deals with the E.U. and the U.K. seem to be relatively close although Brexit may delay their completion.  A deal with China seems imminent.  We expect to see all of these deals completed soon simply because it is in the best interest of both sides.  If that happens, we could end up with freer trade and a more level playing field that what we had initially.  The process was ugly, and it may not have been the optimal way to achieve the goal but, in our view, progress was made.  If as part of those negotiations there is an agreement for other countries to purchase more U.S. products, the trade deficit may well shrink in the months and quarters ahead.

Sit back.  Breathe.  The world did not end just because the trade deficit widened to a record level last year.

Stephen Slifer


Charleston, S.C.

Housing Starts

March 8, 2019

Housing starts soared by 18.6% in January to 1,230 thousand after having plunged 14.0% in December.  Because these data are particularly volatile on a month-to-month basis, it is best to look at a 3-month moving average of starts (which is the series shown above).   That 3-month average now stands at 1,158 thousand but it is biased downwards because of the December drop.  Starts should quickly rebound to 1,250 thousand or so in the months ahead.

The January rebound was largely in single-family homes.  Multi-family starts rose only slightly.

While the  housing sector has cooled during the past year,  is that because demand has declined?  Or are constraints on production like a labor shortage and rising costs of materials the more likely cause?  We believe it is primarily the latter.

Both new and existing home sales fallen in recent months but they are being constrained by a lack of supply so it is unclear that demand has softened as much as the sales data suggest.

The average home stays on the market for 49 days currently which is down from 100 days a few years ago.  About 40% of the homes coming to market sell within one month.  This statistic provides compelling evidence that the demand for housing remains robust.

Monthly  employment gains are about 190 thousand per month which is boosting income.  As a result, real disposable income (what is left after inflation and taxes) is growing at a 3.0% pace which is  somewhat above its long-term average of 2.7%.

Mortgage rates have recently declined by 0.5% to 4.4%.  That should provide some  lift to the housing sector in the months ahead.

Housing remains affordable for the median-price home buyer.  Mortgage rates may have risen, but income has been rising almost as quickly, hence affordability has not dropped much.  At 150.0 the index  indicates that a median-income buyer has 50.0% more income than is necessary to purchase a median-priced house.

The problem in housing is not a lack of demand.  Rather it is a constraint on the production side.  Builders have had difficulty finding an adequate supply of both skilled and unskilled labor.  Construction employment has been growing by about 20 thousand per month but it will be difficult for it to grow any faster.  At the same time tariffs on lumber, steel and aluminum  are driving up the cost of production.

There are plenty of homes that have already been authorized but construction has not yet begun because of builders inability to find workers, and because the cost of materials has risen so sharply in the wake of tariffs on steel, aluminum, and lumber.  Once supply constraints begin to abate we will see starts climb at a more robust pace as builders begin construction on these previously authorized houses.

Given the continuing strength in demand we expect starts to climb 5.5% this year and reach 1.2 million by the end of 2019.

Building permits rose 1.4% in January to 1,345 thousand.  Because  permits are another volatile  indicator it is best to look at a 3-month average (which is shown below).  That 3-month moving average now stands at 1,331  thousand.   The reason people look at permits is because a builder must first attain a permit before beginning construction.  Thus, it is a leading indicator of what is likely to happen to starts several months down the road.  If permits are at 1,331 thousand, housing starts should be at roughly that same level by yearend.  Thus, our forecast for starts to be 1,200 thousand by yearend may be too low.  However, keep in mind that builders continue to have difficulty finding enough workers.  The demand for  housing is solid, but can builders get enough workers to push them sharply higher?

Stephen Slifer

Charleston, SC