Economic Outlook – 11 July 2021


• Nonfarm employment finally broke out to the upside, with employers adding 850,000 jobs in June. Revisions to the prior two months’ data were fairly small, resulting in 15,000 more jobs. Job gains were fairly broad based during June, but the reopening of public schools at a time that they would normally be closing for the summer led to an outsized gain in state (74,500) and local education jobs (155,200). Without these gains, which were exaggerated by seasonal adjustment, nonfarm payrolls would have added 620,300 jobs and marked the third disappointment in a row.

• Much of the growth in jobs has come from the industries hit hardest during the lockdowns at the start of the pandemic. The leisure & hospitality sector added back 343,000 jobs, while hiring in retail trade (67,100), administrative services (40,000), social services (32,400) and other services (56,000) all rose vigorously. These five sectors lost 14.5 million jobs at the onset of the pandemic, accounting for roughly 65% of the overall job loss. The five sectors have since recovered 75% of those losses. From a broader perspective, the overall economy lost 22.4 million jobs from February to April 2020 and has since recovered 70% of those job losses.

• Manufacturers added 15,000 jobs in June, with all the gain coming in durable goods. Steel and fabricated metals both rose sharply, while furniture & related products saw industry payrolls add 8,500 jobs. Employment in the motor vehicle industry fell sharply, with payrolls declining by 12,300 jobs. The shortfall likely reflects the fallout from the semiconductor shortage, which has limited motor vehicle assemblies. The chip shortage is reportedly easing somewhat, which may lead to outsized gains in July and August, when assembly plants usually shut down for model year changeovers. Construction payrolls declined by 7,000 jobs with big losses in nonresidential specialty contractors (-14,800) and heavy & civil engineering (-10,900) more than accounting for the overall drop. By contrast, hiring among residential and specialty trade contractors (12,700) and residential builders (2,500) remains strong

• The ISM manufacturing index fell slightly in June, but remains consistent with strong economic growth. The ISM manufacturers index is a diffusion index that tells us more about the breadth of the strength in the factory sector rather than the magnitude. The latest data show manufacturers are struggling to keep up with demand. The production index rose 2.3 points in June to 60.8, while the more leading new orders index fell 1.0 point to a still exceptionally high 66.0. That reading suggests two-thirds of manufacturers saw orders increase in June. The proportion of manufacturers with rising order backlogs fell 6.1 points to 64.5. Again, the monthly drop is far less important than the still historically high proportion of manufacturers that report rising order backlogs. Manufacturers report shortages of a growing list of components and also noted persistent challenges finding and retaining the workers they need. The prices-paid index rose 4.1 points to 92.1, which marks the highest proportion of manufacturers reporting paying higher prices since July 1979. The breadth of price increases and intransigence of supply-chain bottlenecks suggest the recent spike in inflation will likely prove to be sharper and more persistent than the Fed has expected

• Weekly first-time unemployment claims fell sharply during the latest week. Most of the states that have opted to pull out of the expanded federal unemployment benefits program early have seen sharp declines in initial claims in recent weeks, suggesting more workers shall return to the workforce in coming months, paving the way for stronger job growth and some easing in wage increases

• Quit rates are high relative to history, although they fell from April to May. This points to increased churn in the labor market as workers move to jobs with higher wag-es or better working conditions. The pandemic has been a massive disruption to most sectors, leading to big swings in employment flows. Demand for workers has increased in many sectors, but the biggest increases are in those that were hardest hit by pandemic-related closures. At the same time there remains a high number of people on the sidelines. In May, there were 9.2 million job openings, compared to 9.5 million officially unemployed in June. That number doesn’t include the 1.6 million people who weren’t able to look for work due to Covid. The bottom line is that demand for workers in many sec-tors is much stronger than prior to the pandemic, but 42% of people who are unemployed have been so for more than six months, and many will find it difficult to return to work until pandemic-related constraints have fully eased. Even with strong demand, the process of matching workers with jobs will take time

• Pending home sales came in surprisingly strong in May, rising 8%. Consensus forecast had called for 1% decrease. The rise in pending sales, which reflect signed purchase contracts, suggests the recent slide in existing home sales is coming to an end. This past week also showed home prices continue to rise rapidly across most of the country, with the S&P CoreLogic Case-Shiller National Home Price Index rising 1.6% in April and 14.6% over the past year, which is the largest year-over-year gain ever recorded. The 20-City index rose an even larger 14.9% year-over-year. Phoenix, which has seen strong population and employment growth this past year, again posted the largest year-over-year gain, with prices soaring 22.3%. Five metro areas—Charlotte, Cleveland, Dallas, Denver and Seattle—also posted their largest year-over-year gains this past month

• The minutes of the June meeting of the Fed’s Federal Open Market Committee showed that “various” (an undefined term in the closely watched world of Fedspeak) members said they expect the conditions for beginning to taper asset purchases “to be met somewhat earlier than had been anticipated.” Market observers expect the Fed to begin dialing back bond buying in late-2021 or early-2022. The minutes show that inflation has run hotter than members expected but that it has been concentrated largely in sectors impacted by the economic reopening. The FOMC still expects inflation pressures to be transitory, though a substantial majority of members now see inflation risks as skewed to the upside. Since the committee’s meeting in mid-June, the market has come to expect early rate hikes, but fewer of them than they did before the meeting

• Much of this week was spent trying to decipher the cause of the recent plunge in Treasury yields. Various narratives have been offered but no consensus thesis has emerged. Among the factors cited are increasing concerns over the spread of the Delta variant of the coronavirus, signs that global growth and inflation may have peaked near term, fears of a slowdown in China’s credit growth, and a flatter US yield curve due to renewed US Federal Reserve inflation vigilance. Many expect a choppy ride for rates market over the next several months but anticipate higher yields over the medium term. Near-term, investors are grappling with the implications of lower yields. While they tend to be supportive of risk assets as they are forced to seek higher-yielding assets, lower yields may be a signal that the global recovery may not proceed as smoothly as expected

• US President Joe Biden signed an executive order promoting increased US economic competition. The order contains 72 initiatives targeting practices the administration says have driven up prices, disadvantaged workers and stunted economic growth. One focus of the order is increased antitrust scrutiny of the technology sector; pharmaceutical pricing is another

• The major benchmarks closed mixed, with large-caps and growth stocks outperforming for the second consecutive week. Within the S&P 500 Index, the interest rate-sensitive real estate sector performed best as longer-term Treasury yields decreased sharply. Energy stocks fared worst on concerns that disagreements among major oil producers would result in some violating output restrictions. Weakness among media firms also weighed on the communication services sector. Markets were closed Monday in observance of Independence Day

• In terms of data release, the ISM Service Index is out on Tuesday. The service sector is soaring as further vaccination progress is made and more of the U.S. economy reopens. The ISM services index jumped to 64 during May, which is the high-water mark since records first started in the late 1990s. Like many other areas of the economy, supply has not kept pace with skyrocketing demand for services, which has resulted in upward price pressures. The prices paid component of the index rose to the second-highest reading on record. The hiring index declined 3.5 points in May, which is a reminder that service providers are also having trouble filling open positions. Looking ahead, service sector activity is likely to remain strong

• The FOMC Meeting Minutes are out on Wednesday. They made no substantive policy changes during the June 16-17 meeting. The committee maintained its target range for the fed funds rate between 0.00% and 0.25%, and kept its monthly pace of asset purchases unchanged. Despite leaving monetary policy essentially untouched, officials indicated that initial discussions took place on how and when to potentially start tapering bond purchases. Market participants will likely be looking through the minutes of the meeting for clues on when this process might get started. The FOMC also raised its inflation forecast for 2021, and the minutes may provide additional insights on just how “transitory” members view recent inflationary trends. Similarly, seven of the 18 committee members indicated through the “dot plot” that they expect rates to be higher at the end of next year, and 13 members look for higher rates at the end of 2023


• The Halifax House Price Index for June shows a 0.5 percent decline m-o-m for the UK housing market, although prices are still up 8.8 percent annually. Given that the stamp duty holiday (the first phase of which ended in June) will have pulled sales forward to the first half of the year, expectation was for the price to rise moderately from July onwards. The slight decline seen in June does not alter the view that the market remains buoyant

• It has been difficult to discern evidence that people are looking to move out of big cities and into homes with more space, although numbers provide some support to that argument. The prices of detached family homes have been leading the market, whereas London property prices lagged (albeit from quite high levels). Consensus is that while working patterns will change after the pandemic, the value of being in the office is being too heavily discounted and that people may not be able to work from home as much as anticipated. This will eventually feed through to the housing market, and city centre prices are expected to reflect this, although such a reflection is unlikely before 2022

• UK productivity and monthly GDP data have been released. Monthly GDP has come through at 0.8 percent for May, taking overall GDP to being 3.3 percent short of where it was at the beginning of 2020. The pivot to social spending was readily apparent, with accommodation and food service growing by 37.1 percent as restaurants and pubs welcomed customers back indoors following the easing of coronavirus restrictions. The second-biggest gains were also in social spending, namely in arts and entertainment. The big negatives to output were in the manufacture of transport equipment, which fell by 16.5 percent, its largest fall since April 2020, as microchip shortages disrupted car production. This should ease as the microchip shortage is corrected (although when that might be is an open question). The construction sector contracted for a second consecutive month in May 2021, by 0.8 percent, but remains 0.3 percent above its pre-pandemic level in February 2020. Consensus is that the overall economic slack, defined as consumer spending that has been devoted to savings, has now largely been redirected to consumption. Moreover, while normal consumer debt levels have not yet been reached, the repayment of debt has more or less ceased


• Euro Area June Flash Inflation was a disappointment for ECB’s inflation hawks.The decline in headline HICP (1.92%; May 1.98%) was driven by both lower contribution from energy prices as well as lower core inflation (0.91%; May 0.95%). The decline in core HICP appears to be related to a drop in German package tours, while rise in NEIG prices compensated for part of the fall

• The European Central Bank adopted a new, more flexible policy framework this week that echoes a similar structure implemented by the Fed around a year ago. The ECB shifted its inflation target from close to, but below, 2% to 2% while allowing for periods of overshoot. The ECB also announced it will move to incorporate owner-occupied housing costs into inflation calculations and support efforts to tackle climate change via its asset purchase programs and other operations. As a result of the strategy shift, investors expect the central bank to maintain its exceptionally loose policy stance for even longer

• In detail:

1) The new strategy adopts a symmetric 2% inflation target over the medium term. The ECB press statement noted that the “target is symmetric, meaning negative and positive deviations of inflation from the target are equally undesirable”. In addition, the statement also added that “this may also imply a transitory period in which inflation is moderately above target”, especially when the economy is close to the lower bound, as “this requires especially forceful or persistent monetary policy measures to avoid negative deviations from the inflation target becoming entrenched.”

2)Whereas the Governing Council confirmed that the Harmonised Index of Consumer Prices (HICP) remains the appropriate measure for assessing price stability, it also recognised that “the inclusion of the costs related to owner-occupied housing in the HICP would better represent the inflation relevant for households and that the inclusion of owner-occupied housing in the HICP is a multi-year project.” Therefore, in the meantime, the ECB will, in its monetary policy assessments, “take into account inflation measures that include initial estimates of the cost of owner-occupied housing to supplement its set of broader inflation measures.”

3) The ECB also released a climate-related action plan, for which it will announce a more detailed plan in 2022. It stated that the Governing Council is “committed to ensuring that the Eurosystem fully takes into account, in line with the EU’s climate goals and objectives, the implications of climate change and the carbon transition for monetary policy and central banking.” In addition, “the Governing Council will adapt the design of its monetary policy operational framework in relation to disclosures, risk assessment, corporate sector asset purchases and the collateral framework.”

• German industrial production defied forecasts for an increase in May, falling 0.3% sequentially due to a drop in production of capital goods and energy. Production rose 17.3% on the year compared with 27.6% in April

• Shares in Europe ended little changed, recovering from a sharp pullback stemming from concerns that a surge in coronavirus cases might hobble global economic growth. In local currency terms, the pan-European STOXX Europe 600 Index ended the week 0.19% higher. Major indexes were mixed. Germany’s Xetra DAX Index ticked up 0.24%, France’s CAC 40 Index declined 0.36%, and Italy’s FTSE MIB Index dropped 0.91%


• The People’s Bank of China unexpectedly lowered its reserve requirement ratio (RRR) on banks by 0.5%, freeing up an estimated $150 billion in long-term liquidity. Analysts had expected a more narrowly focused move targeting liquidity for smaller enterprises. China spent the early part of 2021 curbing credit growth, but fears of slowing growth have prompted a reversal. Government efforts to cool a rise in commodity markets appeared to bear fruit as producer prices slipped from a 13-year high in June

• Policy analysts said that the RRR cut was less about monetary easing and more about the government trying to reallocate credit to China’s small and medium-sized enterprises. Still, the timing and size of the reduction—days before China reports its second-quarter GDP on July 15—suggested that Beijing was worried about flagging economic growth. For the week, the yield on China’s 10-year sovereign bond fell eight basis points to 3.02%. The renminbi currency shed 0.2% to close at 6.487 against the U.S. dollar

• The private Caixin services Purchasing Managers’ Index (PMI)—the last of China’s four PMI readings for June—was regarded as disappointing. Analysts said the drop in the June PMI to 50.3 from May’s 55.1 reading reflected the resurgence of coronavirus cases in the southern province of Guangdong

• In other economic readings, the producer price index appeared to have peaked, easing to 8.8% in June from a year ago versus May’s 9.0% year-over-year increase. Meanwhile, the consumer price index (CPI) rose a lower-than-expected 1.1%. Core CPI inflation, which excludes food and energy prices, has remained consistently below 1.0% year over year in recent months

• Chinese stocks were mixed for the week, with the benchmark Shanghai Composite Index edging slightly higher and the large-cap CSI 300 Index recording a modest loss. Selling was pronounced in technology stocks amid heightened regulatory risk on reports that Beijing will tighten oversight of U.S.-listed Chinese companies, many of which are in the tech sector, as well as the government’s continued crackdown on domestic tech companies

Sources: T. Rowe Price, TD Economics, MFS Investment Management, Handelsbanken Capital Market, M Cassar Derjavets