Economy: Continued Steady But Slightly Slower Growth
Economic reports released in April 2018, largely reflecting economic activity in March, showed continued solid economic growth in the U.S. Growth did slow some in the first quarter, consistent with the historical seasonal trend, but showed signs of an April rebound.
The U.S. economy grew at 2.3% in the first quarter, based on the advance estimate of gross domestic product (GDP); better than the consensus estimate of 2.0%, but below the near 3% growth of the prior three quarters. Persistent problems with seasonal adjustments of first quarter data and a lull in consumer activity after some spending was pulled forward into the fourth quarter, likely due to post-hurricane recovery and anticipated tax gains, weighed on first quarter growth.
Data reported through the month of April, including the components of the GDP report, were consistent with accelerating economic growth at the start of the second quarter. As of April 30, Bloomberg consensus for second quarter GDP growth stood at 3.1% (quarter over quarter annualized), supported by the roll-off of the aforementioned temporary factors in addition to fiscal stimulus that has been put in place, mostly from the new tax law. A healthy job market and strong global demand also help provide support for a pickup in growth in the coming months.
Inflation continued to rise in April, but generally met expectations. The core Consumer Price Index (CPI), excluding food and energy, increased 2.1% year over year; the Federal Reserve’s (Fed) preferred inflation gauge, the core Personal Consumption Expenditures (PCE) deflator, increased 1.9%; and the prices paid component of the Institute for Supply Management (ISM) manufacturing survey rose. Wage pressures accelerated on the margin, as the year-over-year increase in average hourly earnings in the March jobs report held steady at 2.6%, below January 2018 levels and within the recent range. Though inflation ticked higher, it remains within the Fed’s target range, while temporary factors may limit further near-term increases. We believe the Fed is unlikely to alter its path of gradual rate hikes based on these data.
Higher wages were accompanied by weaker than expected job growth. The economy added 103,000 jobs in March, well below consensus expectations of 185,000, as some temporary factors that boosted job growth in February unwound. Some slowing was expected after February’s unusually strong number of 326,000. The two-month average of over 200,000 remained strong for this point in the economic cycle, and leaves the solid overall job growth trend intact. Meanwhile, jobless claims approached 50-year lows.
Steady job gains and rising wages help provide a solid foundation for consumer spending, evident in the strong retail sales report for March. Consumer confidence readings remain high, individual tax cuts have started kicking in, tax refunds arrived, and interest rates remain low by historical standards despite their recent rise. All in all, the macroeconomic environment is supportive of consumer outlays, even though consumer spending slowed to start the year.
Manufacturing activity remained robust based on data released in April, though data revealed a slight slowdown from recent peaks. The ISM Manufacturing Index, at 59.3, fell slightly shy of consensus expectations and decelerated from the prior month’s reading. Based on history, the prior reading of over 60 was not sustainable. This data signaled continued expanding factory activity and suggested solid growth in corporate profits. Based on high business confidence readings, strong earnings, and incentives for capital spending in the new tax laws, the outlook for capital investment remains favorable.
The Conference Board’s Leading Economic Index (LEI), an aggregate of 10 leading indicators, rose 0.3% in March, and 6.2% year over year, in line with consensus expectations and consistent with continued strength in the U.S. economy in 2018. The biggest contributors were interest rate spreads and ISM new orders. Strength in leading indicators in recent months suggests the odds of a recession in the next year remain low.
The Fed did not meet in April, but market expectations did move slightly toward four rate hikes rather than three in 2018 due to higher inflation readings. At month-end, three total rate hikes in 2018 remained the consensus view, though the bond market has started to reflect nearly the same probability of four hikes this year.
The European Central Bank (ECB) made no change to its monetary policy, as expected, when it met in late April. ECB Chief Mario Draghi characterized the European economy as solid but moderating, and reiterated the central bank’s confidence that inflation would converge toward its target. Draghi left the door slightly open for a more dovish stance down the road if economic conditions deteriorate, possibly due to trade tensions or a strong euro, while also reminding markets that the plan to exit quantitative easing this fall remains in place.
The Bank of Japan left its median forecast for inflation unchanged in April, while also removing their timetable for achieving that target for the first time. No change to the Bank of Japan’s policy is expected until well into 2019 at the earliest.
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