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US Economic Outlook

 
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Sifting Through the Noise

July 8, 2015

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In the past few weeks, Greece has taken center stage and overshadowed the rest of the global economy. Buried in the flood of economic reports is growing evidence that the U.S. economy continues to hold a favorable position relative to its peers.

The Bureau of Economic Analysis will publish the much-awaited second-quarter gross domestic product report on July 30, inclusive of annual revisions. It will be particularly interesting because the data will indicate how much the economy has recovered after the weak first quarter caused by bad weather, technical factors and the West Coast port strike. We continue to predict above-trend growth for the remaining three quarters of 2015.



Key Elements of Forecast:

  • Consumer spending is projected to grow at a strong pace in the second quarter after only a 2.1% increase in the first quarter. Non-auto retail sales advanced 1.0% in May after a slow performance in April. Auto sales rose at an annual rate of nearly 12% in the second quarter, following a decline in the first quarter. Overall, lagged benefits of lower oil prices, reduced leverage of households and improving labor market conditions will continue to drive consumer spending.

  • Housing starts fell in May, but they were possibly a payback following a sharp jump in April. The April and May average of single-family housing starts has reversed the weather-related weakness of the first quarter and now matches the level seen in the last three months of 2014. Sales of new homes rose in April and May, which puts the level at a new high for the recovery. Existing home sales moved up in May, with the sales pace hitting 5.35 million units. This also is a new high for the cycle, excluding the brief increase related to the first-time home buyer tax credit program in 2009. The nearly 50 basis point increase in mortgage rates does not appear to have created a large setback in housing market activity.

  • Business equipment spending was lackluster during the six months ended March 2015 and has yet to show signs of a pickup. Part of the weakness is most likely the result of the drop in oil prices that led to a significant decline in activity in the oil-related sector. The dollar's strength is another factor that could be at play.

  • Labor market data stand out on several fronts. Hiring trends are impressive (the 3-month moving average is 221,000) and the 5.3% unemployment rate is close to the Federal Reserve's estimate of full employment. A range of indicators – long-term unemployed, employed part-time for economic reasons, and median duration of unemployment – indicates that slack has diminished. Strong and sustained wage growth is the only missing element.

  • Inflation remains subdued in the United States. The headline personal consumption expenditure price index is up only 0.2% from a year ago and the core price measure, which excludes food and energy, rose 1.2% in the same period. These readings are far below the Fed’s 2.0% inflation target. The Fed does not need to see 2.0% inflation but requires consistently higher readings from the current level to consider a rate hike.

  • The 10-year Treasury note trading at 2.22%, as of this writing, stood at 2.49% prior to the announcement of a referendum in Greece. A safe-haven rally has erased part of the impact of bullish U.S. economic data. U.S. economic fundamentals should bear on bond yields if the situation settles down in Greece.

  • A threat to the eurozone's economic activity from the Greek debacle appears contained, for now, with bond yields of Italy and Spain showing only modest gains. The eurozone is in a stronger position today to address severe ramifications of continued stress from Greece compared with the situation five years ago.

  • Nonetheless, the uncertainty associated with Greece and the performance of the Chinese economy, especially the recent decline in Chinese equity prices, is moving markets. In this context, lower oil price quotes of the past few days reflect possibly weak demand for oil from the eurozone and China. The likelihood of an Iran nuclear deal plays a small role.

  • Fed Chair Janet Yellen's speech on July 10 should offer insights about the Fed’s latest views. The next Federal Open Market Committee (FOMC) meeting on July 28-29 is expected to conclude without any change to the current stance of Fed policy. The September FOMC meeting is the most likely candidate for the first hike of the policy rate since 2006. The FOMC will have two more data points for major economic indicators to obtain the "decisive" tone of economic data to justify its actions. Developments in Greece are not expected to sway the Fed unless spillovers are disorderly and present a threat to the solid fundamentals of the United States.
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