Economic Outlook – 23 September 2018
- Housing starts rebounded in August but building permits dropped. Home sales also came in below expectations, as resales of existing homes were unchanged. Despite housing remaining in a soft patch, real GDP is expected to remain solid and grow 3.1% during Q3 and stay close to that pace through the remainder of the year.
- Homebuilding remains subdued. Housing starts rose 9.2% in August; however, building permits dropped 5.7% during the month. Much of the improvement in starts arose from a 29.3% increase in multifamily units. Apartment construction is proving resilient, as affordability and supply concerns are preventing many renters from buying. Single-family starts rose 1.9%. Overall, housing starts came in above consensus, but that is not likely a sign that homebuilding will significantly pick up. Single-family and multifamily starts remain below the pace seen earlier this year.
- Home sales also continue to fall short of expectations. Sales of existing homes were unchanged in August at a 5.34 million unit annual pace, following four consecutive months of declining sales. The supply of affordable homes remains exceptionally lean. The total inventory of available homes was unchanged at 1.92 million homes, up from 1.87 million a year ago. Unsold inventory now equates to a 4.3-month supply at the current sales pace. The long-term norm for supply is around 5.5 months.
- The lack of turnover in the housing market has contributed to the sustained run-up in home prices, as homes in desirable locations are tending to draw multiple bids and sell very quickly. The median price of an existing home rose 4.6% year-over-year to USD 264,800 (up from 4.5% a month earlier). According to the National Association of Realtors (NAR), homes typically stayed on the market for 29 days, down from 30 days last August, with 52% of all homes on the market selling in less than a month.
- The Leading Economic Index (LEI) climbed 0.4% higher in August. The largest contributing factor was a 0.2 point gain from the ISM manufacturing new orders index. A majority of components were also positive contributors to the index, further evidence that economic growth should remain solid in H2-2018.
- Weekly jobless claims, reported last Thursday (fell to 201,000) the lowest level in half a century. Regional manufacturing indexes were also strong. Housing data were more mixed, with housing starts jumping in August but new permits falling, suggesting some weakness ahead.
- Fiscal stimulus is helping to boost real GDP growth to 2.9% this year. Growth well above potential is expected to push the unemployment rate to the lowest level since Woodstock. With the economic party raging, the Federal Reserve is widely expected to drain some more punch from the bowl next Wednesday. A 25 basis point rate hike will raise the fed funds rate to 2.0% to 2.25%, marking the eighth rate hike since 2015. The Fed is expected to hike four more times over the next year, placing the fed funds target at a peak level of 3.25% in 2019.
- The administration of US president Donald Trump imposed additional tariffs this week on a list of imports from China worth USD 200 billion, bringing the total tally of tariffed goods to USD 250 billion. President Trump threatened to impose levies on an additional USD 267 billion worth of Chinese goods (essentially tariffing all US imports from China) if the country retaliates against the latest duties. Markets took the move in stride, and showed some relief that the tariff rate will be 10% through the end of 2018 before rising to 25% in 2019. China retaliated against Washington’s move by imposing 5% to 10% duties on USD 60 billion in imports from the US, and has now placed tariffs on a total of USD 110 billion of US goods compared with total US exports to China of USD 135 billion last year. Given the escalation in the conflict, it remains unclear if high-level trade talks between the US and China, scheduled for next week, will take place.
- The major US benchmarks were mixed for the week. The large-cap Dow Jones Industrial Average and the S&P 500 Index outperformed and reached all-time highs, while the technology-focused Nasdaq Composite Index and the smaller-cap benchmarks recorded modest losses. A sharp increase in longer-term bond yields early in the week boosted financials stocks by improving bank lending margins but weighed on real estate investment trusts and utilities shares, whose relatively high dividends became less compelling in comparison. The strong performance of the financials sector and relatively weak performance of technology stocks helped value stocks outperform their growth counterparts for the first week in over a month, although growth stocks remained well ahead of value stocks for the year to date.
- The yield on the benchmark 10-year Treasury note touched 3.1% on Thursday, its highest level in four months, before falling back a bit on Friday. (Bond prices and yields move in opposite directions.) The Federal Reserve looks like all but certain to raise short-term interest rates when it meets on 25 September.
- The most important event this week is the FOMC meeting with the rate announcement due on Wednesday. The Fed is expected to hike the target range to 2.0% to 2.25%. It seems on track to deliver two more hikes this year (next week and in December). Growth is strong, optimism is high, the unemployment rate is low, wage growth is increasing (although at a gradual pace) and core inflation is running near the 2.0% target.
- UK consumer prices rose more than expected in August. CPI inflation increased to 2.7% year-on-year in August from 2.5% in July. The consensus expectation was for a slight decline to 2.4%. The Bank of England had expected CPI inflation of 2.4% in August and 2.6% in July. Core CPI inflation rose to 2.1% in August from 1.9% in July, while the consensus expectation was 1.8%. While consumer price inflation surprised on the upside, cost pressure, as reported by producer price indices, was in line with or slightly softer than the market expectation. The PPI Input index increased by 8.7% year-on-year in August, down from 10.3% in July. The August reading was slightly lower than the consensus of 9.1%. The PPI Output index increased by 2.1% year-on-year in August, down from 2.3% in July, and matched consensus.
- No closer to a Brexit divorce deal with Europe, embattled British prime minister Theresa May returned to London after an informal summit with European Union leaders in Salzburg, Austria. Reviving fears of no-deal outcome, European Council president Donald Tusk all but dismissed the prime minister’s Chequers plan for economic cooperation, saying the proposal would undermine the common market. On Friday, May acknowledged that the talks are at an impasse and that the United Kingdom will continue to make preparations for an outcome that does not include an agreement.
- Britain’s budget deficit unexpectedly widened in August, driven by subdued tax receipts, a rise in the state pension and higher EU budget payments, but Chancellor Philip Hammond probably still has room to ease his grip on spending later this year. The deficit last month stood at 6.753 billion pounds, almost double the median forecast in a Reuters poll and higher than a shortfall of 4.345 billion pounds in August 2017, the Office for National Statistics (ONS) said on Friday.
- There are no market movers in the UK this week.
- In the Euro area, the flash composite PMI index decreased to 54.2 in September from 54.5 in August. This was marginally weaker than expectations. As a result, the index is still relatively stable and indicates that GDP growth in Q3 will probably not fare much better than the somewhat disappointing slow-moving H1 of 2018, although the PMI level continues to point to slightly higher growth. Weakness’ was again especially visible within eurozone manufacturing, where the PMI fell to 53.3 in September from previously 54.6. This was a two-year low. Hence, the earlier stronger EUR combined with recent trade jitters seems to continue to weigh on the sentiment here. Some stabilisation ahead is expected as the currency effect wanes, and as global PMI’s has seen a more stable development in recent months. The eurozone Service PMI climbed marginally (to 54.7) for a second month, but overall has been flattish over the past seven months. It’s positive that the waning consumer confidence and weaker stock markets and the disappointing summer retail sales haven’t harmed the service sector optimism more clearly.
- European stocks brushed off trade tensions and Brexit woes and rode the coattails of the US stock rally. The pan-European STOXX Europe 600 Index rose about 1.6%, lifted by financials, mining, and oil stocks.
- HICP figures for September will be released on Friday. In August, headline inflation fell to 2.05% year-on-year and the September print is expected to slow further to 2.01% year-on-year, still driven by lower contribution from both food and energy prices. Although negotiated wages apparently picked up in Q2, core inflation disappointed at 0.96% year-on-year in August from 1.07% year-on-year in July and September’s figures are expected to linger at 0.97% year-on-year, as the feed through from higher wages materialises only gradually.
- China’s main stock indexes rallied as promises from Beijing to stimulate domestic consumption outweighed the next round of US tariffs set to go into effect later in September. For the week, the benchmark Shanghai Composite Index rose 4.3%, its best weekly gain since March 2016, according to Bloomberg. The large-cap CSI300 Index surged 3.0%, also its largest weekly gain in more than two years. Both gauges rebounded from multiyear low levels from the previous week. Sentiment was boosted after China’s cabinet issued a document earlier in the week detailing measures to boost consumer spending on the mainland. Buying by China’s state-controlled funds also supported the market, according to media reports.
- New US tariffs on Chinese goods worth USD 200 billion will be implemented on Monday. Otherwise in the trade war, an official response has not been sent to the US invitation for high-level talks sent on 12 September. Since the invitation was sent, Trump announced the new US tariffs and it seems unlikely China will agree to talks given these circumstances.
Sources: Wells Fargo, T. Rowe Price, Reuters, Handelsbanken Capital Markets, MFS Investment Management, TD Economics.