Economic Outlook – 19 December 2021


• Retail sales rose just 0.3% in November, less than the median economist forecast calling for a +0.8% print. The previous month’s result, meanwhile, was revised up from +1.7% to +1.8%. Sales of motor vehicles and parts edged down 0.1%. Even without autos, sales still expanded 0.3% as advances for gasoline stations (+1.7%), food/beverages (+1.3%), sporting goods (+1.3%), and eating/drinking establishments (+1.0%) more than made up for sizeable declines for electronics (-4.6%) and general merchandise (-1.2%). In all, sales were up in 8 of the 13 categories surveyed. Core sales (i.e., sale s excluding food services, auto dealers, building materials, and gasoline stations), which are used to calculate GDP, retraced 0.1% in the month. For the first time in four months, consumer outlays on goods came in weaker than expected. Auto sales stayed roughly unchanged as inventories remained extremely depressed in the United States, the result of chip shortages that limited production worldwide. Excluding autos, sales continued to advance but it is difficult to say whether this performance merely reflected higher prices

• The Producer Price Index (PPI) for final demand jumped 0.8%, quite a bit more than the +0.5% print expected by consensus. This came after a +0.6% print the prior month. Goods prices rose 1.2%, with gains for both energy (+2.6%) and food (+1.2%). Prices in the services category, for their part, rose 0.7%. The core PPI, which excludes food and energy, climbed 0.7% on a monthly basis. Year over year, the headline PPI rose from 8.8% to an all-time high of 9.6%. Excluding food and energy, it went from 7.0% to 7.7%, another record. Higher input prices, long shipping delays, and rising labour costs are to blame for the recent surge in producer prices

• The Import Price Index (IPI) rose 0.7% in November, stronger than the +0.6% print expected by consensus. The prior month’s result, meanwhile, was upgraded from 1.2% to 1.5%. Contrary to average prices in recent months, energy prices were not to blame for November’s price hike. Indeed, the cost of petroleum imports rose a relatively modest 0.4%. Excluding this category, import prices rose 0.7%, the most in six months

• Housing starts jumped from 1,502K in October (initially estimated at 1,520K) to an eight-month high of 1,679K in November, overshooting the 1,567K print expected by analysts. The monthly gain reflected increases in both the single-family segment (from 1,054K to 1,173K) and the multi- family segment (from 448K to 506K). Building permits , for their part, rose from 1,653K to 1,712K, with gains in both the single-family category (from 1,074K to 1,103K) and the multi-family category (from 579K to 609K)

• After a slowdown in activity in the residential construction sector, groundbreaking bounced back strongly in November as homebuilders started addressing increasingly large backlogs. There were no less than 1,486K homes under construction in the month (the highest since 1973), while another 270K had been authorized but not yet started (the most in 47 years). Builders are certainly encouraged by resilient demand: The NAHB Housing Market Index stood at a 10-month high in December. However, against this positive backdrop, challenges remain. Supply chain delays, the high cost of building materials, and labour shortages could very well hamper builder capacity to build going forward. High prices may also dampen buyer enthusiasm

• Industrial production grew a consensus-matching 0.5% MoM, rising further above its pre-pandemic level. Manufacturing output sprang 0. 7% as production of motor vehicles/parts (+2.2%) continued to recover after being hit by semiconductor shortages earlier this year. (Despite this gain, auto output remained 5.7% below its level in February 2020.) Excluding this category, factory output advanced 0.6%. Output sagged 0.8% in the utilities segment but progressed 0.7% in the mining sector. In this last category, o il and gas well drilling sprang 0.7%. That said, production in this segment remained 22.8% below its pre-crisis level

• Capacity utilization in the industrial sector improved from 76.5% in October to 76.8% in November, its highest level since before the pandemic. In the manufacturing sector, it rose from 76.8% to a 35-month high of 77.3%.

• Markit’s flash composite PMI came in at 56.9 in December, down from 57.2 the month before but still consistent with a solid rate of expansion in the private sector. Operating conditions continued to improve in the manufacturing sector, albeit at a slower pace than in the prior month, as evidenced by a decline from 58.3 to 57.8 in the corresponding gauge. New orders (56.3 vs. 56.9 the prior month) at U.S. factories accumulated at a fractionally slower pace, while output (53.6 vs. 53.2) growth accelerated slightly. Payrolls expanded at the fastest clip since June but “numerous panellists stated that problems finding and retaining staff persisted.” Capacity constraints at suppliers continued in the month, which caused delivery times to lengthen the most since May. The rate of input price inflation, on the other hand, was the softest in seven months but remained elevated

• The Empire State Manufacturing Index of general business conditions rose for the second month in a row in December, creeping up 1.0 point to 31.9. This was comfortably ahead of consensus expectations (25.0) and indicative of a very healthy pace of growth at factories operating in New York State and surrounding areas. After strong progressions in November, the new orders (27.1 vs. 28.8 the prior month) shipments (27.1 vs. 28.2) and employment (21.4 vs.26.0) sub-indices pulled back a bit but remained far above their long-term averages (11.9, 8.1 and 4.4, respectively). Supply chain pressures were still evident in the report. Although delivery times (2 3.1 vs. 32.2 the prior month) lengthened at the slowest pace in five months, input prices (80.2 vs. 83.0) rose at the third-fastest clip ever

• The Philly Fed Manufacturing Business Outlook Index painted a less upbeat picture, as the headline index cooled from 29.1 to a 12-month low of 15.4. Both the shipments (15.3 vs. 32.1 the prior month) and the new orders (13.7 vs. 47.4) indices saw sizeable retreats, albeit from very high levels. The number of employees tracker (33.9 vs. 27.2), on the other hand, signaled the strongest pace of hiring in data going back to 1968.

• The NFIB Small Business Optimism Index crept up from 98.2 in October to 98.4 in November but remained significantly below the post-pandemic high reached in October 2020 (104.0). The net percentage of firms that expected the economic situation to improve sank further into negative territory, from -37% to a nine-year low of -38%. Net sales expectations, meanwhile, improved marginally, moving from 0% to 2%. Hiring prospects remained high but an elevated 48% of firms reported not being able to fill one or more vacant positions

• After plummeting to a multi-decade low of 188K, seasonally adjusted initial jobless claims rose to 206K in the week to December 11. This remained roughly in line with the indicator’s pre-COVID level. Continued claims, for their part, sank from 1,999K to 1,845K, their lowest level since March 2019

• The Federal Reserve’s highly anticipated pivot turned, out to be more hawkish than expected. The FOMC now see three rate hikes in 2022. While FOMC members only revised up its 2022 (Q4/Q4) inflation forecast somewhat, its “dot plot” of members’ policy assessments was lifted aggressively compared to the September forecasts. The Fed is speeding up the tapering of asset purchases, doubling the pace of reductions from USD 15 to 30 billion per month. Thereby the tapering process ends in March, which according to Fed Chair Jerome Powell sets the FOMC “in a good position to deal with the risk” of persistently high inflation. Indeed, this hawkish pivot seems to much about “risk management”, a theme Powell touched upon in November as well.

• At the press conference Powell outlined a series of events behind the hawkish pivot, with the unexpected inflation surge in the October CPI report being the main one. The FOMC now sees a real risk of persistent inflation, that could drive up inflation expectations and make high inflation entrenched.

• First of all, the switch to risk management mode resulted in the description of inflation as “transitory” being wiped from the Fed’s statement, despite inflation forecasts keeping the transitory profile.

• Secondly, the Fed now views the inflation target as achieved. Overall, the difference since November is stark: Going from “Inflation is elevated, largely reflecting factors that are expected to be transitory” and pointing out the FOMC’s “aim to achieve inflation moderately above 2 percent for some time” (to fulfill FAIT), all the way to the short “With inflation having exceeded 2 percent for some time…”.

• Lastly, it turns out the Fed’s employment goal could become a mere sideshow in 2022. While the FOMC expects it will keep the current near-zero policy rate “until labour market conditions have reached levels consistent with the Committee’s assessments of maximum employment”, Powell’s press conference delivered other scenarios. If inflation risks endure, but the labour market situation remains non-satisfactory the FOMC will prioritise the inflation target, as it is now further away from being achieved. Fortunately, Powell does not expect to be forced into living with such a trade-off, since the “all FOMC members forecast the maximum employment criteria to be met in 2022”

• Wholesale prices increased at their quickest pace ever in November, the US Department of Labor reported. The producer price index for final demand products increased 9.6% over the previous 12 months after rising another 0.8% in November. Economists had been looking for an annual gain of 9.2%, according to FactSet. Excluding food and energy, prices rose 0.7% for the month, putting core PPI at 6.9%, also the largest gain on record. The Labor Department’s record keeping for the headline number goes back to November 2010, while the core calculation dates to August 2014

• Stocks ended lower for the week, as the prospect of central bank tightening and fears over the impact of the omicron variant of the coronavirus sparked considerable volatility. As longer-term interest rate expectations increased, growth stocks and the technology-heavy Nasdaq Composite Index fared the worst. The latter touched an intraday low on Friday roughly 7% below its recent peak—still above the 10% threshold for a correction. Technology and consumer discretionary shares performed worst within the S&P 500 Index, while the typically defensive utilities, health care, and consumer staples sectors managed gains. Volatility to end the week was partly due to “triple witching,” or the expiration of three types of options and futures contracts on Friday. The Cboe Volatility Index (VIX) rose for the week but remained well below its levels early in the month

• In terms of data release, existing home sales are out on Wednesday. It is expected to grow another 5.2% in November. This additional growth builds upon the turnaround in sales this fall after cooling earlier this year and would bring the annual pace to 6.67 million units. Sales for existing homes have grown in four of the past five months. Demand from individual buyers has ramped up as well as from investors hoping to capitalize on the market’s strength. The onslaught of investors has come from the increasing popularity of iBuyer platforms, which aim to repair and resell homes and help facilitate buyers seeking rental income and those looking for a second home. The strong demand has meant inventories have remained low for both existing homes and new homes, which possibly netted a 5.1% gain in November and will be released next Thursday

• Personal & Income spending is out on Thuursday. Leading the pack of Thursday’s pre-holiday data dump is personal income and spending data for November. It is expected to rise 0.7%, marking its ninth consecutive month of positive growth. November’s increase is expected given the moderate 0.3% growth retail sales experienced over the month, but some sales were likely pulled forward by early shoppers. However, valuable information from this release is to what extent torrid inflation has been weighing on real personal spending


• UK Retail sales for Nov have come out at 1.4% MoM and 4.7% YoY, this takes overall retail sales 7.2% above their pre-covid (February 2020) levels. With the most recent GDP (albeit for October) disappointing, largely on the back of still sluggish demand for consumer services, it is good to see that the consumer confidence in the form of retail sales is doing well. This was of course the vital pre-Christmas rush for retailers and many people were probably trying to beat reported shortages, although December-footfall data is reported to be holding up. Looking at the detail, non-food stores sales volumes rose by 2.0% in November, because of growth in clothing stores (2.9%) and other non-food stores (2.8%) such as computer stores, toy stores and jewelry stores, with retailers noting strong trading related to Black Friday. Clothing stores sales volumes in November were 3.2% above their February 2020 level. Petrol and diesel sales volumes rose by 3.7% in November 2021 following some disruption to supplies in the previous two months; volumes were 1.9% below their February 2020 levels. Only food store sales saw any falling away, down by 0.2% in November; although that still left volumes 3.2% above February 2020 level

• The Monetary Policy Committee of the Bank of England faced a difficult choice raising rates to 0.25%, once again contrary to market expectations. It remains unclear, however, if this will have much impact on inflation. Since the surprise non-move of interest rates post the MPC meeting in early November, markets had been looking to February as being the most likely date for an interest rate rise. The reasoning initially was that February is when the next inflation report is due and the MPC and BoE generally will have had the opportunity to fully explain where they see rates going in the longer term and how they view the inflationary challenges. More recently, the expectation for the delay was based on the rise of Omicron which has further dampened the economic outlook (GDP rose by just 0.1% in October). While there is currently not an official lockdown, many people are, nevertheless, reacting in a similar manner to the second lockdown and are staying away from the office and social gatherings. The Flash Purchasing Managers Index for December came out this morning (during the MPC meeting), and is the first indication of the severity of the Omicron variant’s impact. The PMI plunged from 57.6 to 53.2, with services down from 58.5 to 53.2 indicating the extent to which consumers are curtailing their activity. Clearly these issues would have been reason for concern, but they were weighed against the need to be seen being alive to broader inflationary pressures

• UK inflation for November has come out at 0.7% MoM and 5.1% YoY. The Bank of England had expected that inflation would move to 5% in the first half of next year. However, the numbers signal that the hawks who have been predicting even higher inflation are likely to see their forecasts vindicated


• The eurozone flash Composite PMI fell to a nine-month low at 53.4 in December compared with 55.4 in the previous month. Manufacturing PMI held up better but still fell to 58, compared with 58.4 the month before, and Services PMI was 53.3 compared with 55.9. All indices except manufacturing were above expectations. Germany experienced a particularly large decline in activity, seeing the economy stall for the first time in one and a half years, with manufacturing falling further into contractionary territory. In contrast, France showed another month of strong growth, but the expansion in the services sector nonetheless hid a decline in manufacturing output

• In the ECB’s monetary policy statement, the bank left policy rate instruments unchanged as expected and reiterated its rates guidance relating to overall inflation, core inflation, and its tolerance to allow inflation to overshoot the target for a transitory target. The ECB further announced that PEPP purchases in the coming quarter will be conducted a lower pace than in previous quarters and that it intends to discontinue net purchases by the end of March 2022. The Governing Council also decided to extend the reinvestment horizon for the PEPP with the period extended at least through 2024. It further stated that “in the event of renewed market fragmentation related to the pandemic”, reinvestments “can be adjusted flexibly across time, asset classes and jurisdictions at any time”. It also added that “purchases of Greek bonds could be included “over and above rollovers of redemptions in order to avoid an interruption of purchases in that jurisdiction.” Finally, the ECB stated that “net purchases under the PEPP could also be resumed, if necessary, to counter negative shocks related to the pandemic.” As for the APP, the ECB announced it is increasing the APP purchasing pace to EUR 40bn in the second quarter, and EUR 30bn in the third quarter, and then revert back to EUR 20bn in the fourth quarter continuing “for as long as necessary to reinforce the accommodative impact of its policy rates.” The Governing Council also reiterated its rates and QE sequencing, noting that it “expects net purchases to end shortly before it starts raising the key ECB interest rates.” Greece appears to remain outside the APP, but this could be made moot but then announced flexibility with regards to reinvestments and potential reopening of PEPP regarding this jurisdiction. The new decisions have a dovish tint. The APP purchase pace for Q2 and Q3 next year was slightly above expectations (35 and 20 respectively). The open-ended policy horizon for APP was also a dovish surprise. That said, initial market reactions saw the euro appreciating and yields rising on both German and Italian bonds. One reason why peripheral bond yields sold off could be that adding only one year of additional reinvestment of PEPP as well as the emphasis on roll-off of the PEPP portfolio could have dominated the news on the boosted purchases in the APP

• Shares in Europe fell as governments tightened restrictions to curb the spread of the coronavirus and central banks became more hawkish. In local currency terms, the pan-European STOXX Europe 600 Index ended the week 0.35% lower. The main indexes also declined, with Germany’s Xetra DAX Index losing 0.59%, Italy’s FTSE MIB Index giving up 0.41%, and France’s CAC 40 Index dropping 0.93%


• The People’s Bank of China (PBOC) said it would raise the foreign exchange reserve requirement ratio, an action that took effect last week. The reserve ratio hike was viewed as Beijing’s attempt to rein in the yuan, which reached its highest level versus the dollar since mid-2018 earlier in December. Following the PBOC’s move, regulators granted fresh quotas worth USD 3.5 billion under the Qualified Domestic Institutional Investor scheme, a key outbound investment program. More signs of currency intervention appeared in data showing that the central bank recorded in November its biggest net purchase of foreign exchange in more than six years. China’s foreign exchange regulator is also reportedly involved in efforts to cap the yuan’s rise by speeding up the approval process for companies to convert yuan into dollars and remit the funds to pay offshore dollar debt

• Early in the week, Beijing pledged economic stability in 2022 at the government’s annual Central Economic Work Conference. China’s policy statements is viewed as dovish overall despite a number of hawkish statements. For now, China’s economic policy appears to be similar to its 2019 stimulus plan that aimed to stabilize activity as opposed to the massive stimulus package it deployed in 2016 to turn around the economy.

• In economic readings, data showed that China’s factory output grew faster than expected in November, but new pandemic curbs hit retail sales and fixed asset investment growth lagged forecasts. November data also revealed that new home prices suffered their biggest MoM decline in six years, with the country’s lower-tier cities and developers bearing the brunt of the downturn. Government revenue from land sales fell for the fifth straight month in November, another sign of stress for the beleaguered property sector

• Chinese markets fell for the week amid the resurgence in global COVID-19 cases and U.S.-China tensions after Washington placed investment and export restrictions on dozens of Chinese companies for their role in allegedly repressing China’s Muslim minorities and in supporting Beijing’s military. The CSI 300 index retreated 1.9%, and the Shanghai Composite Index eased 0.9%. Yields on China’s 10-year government bonds rose to 2.873% from the previous week’s 2.861%. The yuan to weakened to CNY 6.3714 per U.S. dollar from last week’s CNY 6.3672

• Sources: T. Rowe Price, Wells Fargo, National Bank of Canada, MFS Investment Management, M. Cassar Derjavets