- Economic Data for US Q4 2018 GDP as forecasted by the Atlanta Fed ticked higher than last month to +2.7%, with strong employment and wage figures coming into play. However, with the Federal government partial shut-down through January 25th, GDP for Q1 2019 is on the top of everyone’s minds. The estimate to the right seems in the correct range – some impact, but not much. A tentative deal is currently in place but we could see another partial shutdown in mid-February. In addition, separate from the shutdown, the debt ceiling is set to return to the forefront: the most recent legislation was passed on February 9, 2018 and suspends the limit until March 1, 2019. Historically, the Treasury created enough borrowing headroom to continue functioning normally for three to six months additionally so this will not be an immediate issue but another topic to fight over politically.
- Key Economic Barometers were muddled by the government shutdown. Employment numbers were generally strong, with payrolls up 304,000 positions, much higher than the 165,000 expected. Unemployment stayed low at 4.0% but the real change was the pop in the underemployment rate, which went from 7.6% to 8.1% – people got jobs but were part-time or underutilized. They will need to transition into higher quality work for the labor statistics to be truly supportive. As the graph to the right indicates, workers in their prime years (25- to 54-years-old) are finding jobs while younger and older workers have dropped off. Wages are still climbing year-on-year (roughly +3.25%) in a similar trajectory to the prime worker participation above. New home sales rebounded to an eight-month high in November but overall home sales fell by 11% in December. Mortgage rates have been declining so there may be a recovery further into 2019.
- A positive indication is the manufacturing production growth, where the left graph indicated that the most recent monthly data handily beat expectations (+1.1% versus +0.3%). Capacity utilization (a measurement of how busy factories are) is close to the post-financial crisis high of 79%. US student loan debt outstanding reached a record $1.5 trillion last year, double that of 2009. Why is this
important? Over 90% of student loans are guaranteed by the US Department of Education, meaning that if a recession causes a rise in youth unemployment and triggers mass defaults, this contingent liability could undermine US government finances at a time when income tax revenues would also be declining and expenses (unemployment insurance, food stamps, etc.) would be increasing.
- The US Federal Reserve pledged to continue its balance sheet reduction but guided the markets to expect a slower pace. Fed Chair Powell said that he was not committed to further rate increases or balance sheet decreases: “If we came to the view that the balance sheet normalization plan — or any other aspect of normalization — was part of the problem, we wouldn’t hesitate to make a change.” We will have to wait until the March 19th/20th meeting to see if there is any Fed reaction to the ongoing US government fiscal and trade issues.
- Europe’s Distraction Continues as the Brexit standoff with the March 29th deadline loomed closer. Personally, I feel that a “hard Brexit” or no-deal result is the most likely as both sides have set conditions that appear impossible for the other to live with. Someone will otherwise have to give, and that will send shockwaves in all directions. Setting the politics aside, continental Europe is not looking particularly attractive right now as industrial production has fallen off a steep cliff with the China economic slowdown (see graph right) with more to come as Germany’s new factory orders have declined 10% year-on-year. ECB’s Draghi said “the near-term growth momentum is likely to be weaker than previously expected” at their January 24th meeting, implying that a reintroduction of stimulus is being considered, despite just halting their last program a month ago. Underscoring this change of heart, the European Commission lowered its growth estimates to +1.3% for 2019 and +1.6% for 2020, down from its previous guidance of +1.9% and +1.7% respectively. While citing global trade tensions and China’s slowdown, it also recognized internal factors had weakened, notably car production in Germany, social tensions in France and fiscal uncertainty in Italy. Meanwhile, UK wages are growing at the fastest pace since 2008 (+3.4% year-on-year) and unemployment fell to 4.0%, the lowest level after the 2009 financial crisis. UK industrial production has fallen like Europe’s (see above), but at less than half the rate (-1.5% versus -3.3%). The EU does not have any carrots to induce the UK to stay – only sticks.
- More Signs of China’s Deceleration appeared as the US-China trade conflict looked to be taking a greater toll than what Xi’s government is willing to admit. December imports in USD terms fell -7.6% year-on-year versus the survey increase of +4.5% and exports fell -4.4% on the twelve-month look-back versus +2.0%… despite the highest annual trade surplus with the US since 2006. China National Petroleum Corp said it expected diesel demand to fall by -1.1% in 2019. That would likely be China’s first annual demand decline for a major fuel since its industrial ascent started in 1990 (Reuters). Officially, the economy expanded +6.6% in 2018, the slowest pace since 1990 and in line with estimates. China’s industrial production came in at +5.7% versus +5.3% expected for December, fixed asset investment at +5.9% versus +6.0% forecasted and retail sales at +8.2% versus +8.1% surveyed. These government figures were more and more at odds with independent data – not just trade. As the WSJ graphic to the right summarized, publically acknowledged defaults increased dramatically. The FT reported that bad debts may accumulate to above $3 trillion (CNY 22 trillion) as $258 billion were disposed of by banks in 2018. Meanwhile one in five homes in urban areas are empty while the population is expected to shrink going forward. Annual passenger vehicles sales reversed for the first time since 1990, falling 4% to 23.8 million. Total smartphone sales fell 10% in 2018 with iPhone sales down 20% (annualized) with high prices cited (Huawei phone sales grew +23% in comparison)! Also iPhone sales in India collapsed 25% on the year, reducing total sales in 2018 to 1.7 million units from 3.2 million a year earlier, while smartphone shipments grew 10%. China has responded with two cuts in the financial reserves required to be held by its main banks (in other words, allowed for greater bank leverage), CNY 10 billion to help buy bad debts and CNY 570 billion ($84 billion) in QE-style bond buying. China’s securities exchanges have asked banks to extend agreements on loans in which shares have been pledged up as collateral, pushing extend and pretend to the stock market. Finally, reportedly, China fiscal deficit target will be hiked to more than 3% of GDP in 2019 vs 2.6% last year – not a large increase on the face of it, but similar to the US, there are a number of other off-budget liabilities (social security, local government financing, etc.) that will add another four to five percent in deficit spending. Simply put, just repeating the same kick-the-can avoidance decisions that Europe, the US and other countries made.
David Burkart, CFA
Coloma Capital Futures®, LLC
Special contributor to aiSource
*Additional information sources: Bloomberg, Financial Times, JP Morgan, Reuters, SouthBay Research, Wall Street Journal and Zerohedge