Economic Outlook – 28 August 2022


• The S&P Global flash composite PMI sank from 47.7 in July to 45.0 in August, marking a second consecutive contraction in private-sector activity and the sharpest since May 2020. Outside of the pandemic period, this was also the lowest reading recorded in data going back to 2009. New orders fell the most in 27 months owing to tepid foreign demand. “Material shortages, delivery delays, hikes in interest rates and strong inflationary pressures all served to dampen customer demand,” mentioned the S&P report. As a result, work backlogs shrank for a third month running and employment advanced at the slowest pace this year. “[A] growing number of firms stated that uncertainty and rising costs led them to delay the immediate replacement of staff,” indicated the report. Input price inflation, meanwhile, was the softest in a year and a half but remained acute by historical standards, with firms linking increases in cost burdens not only to rising interest rates and higher prices for a range of raw materials and transportation, but also to wage increases, which were putting additional pressure on expenses. The rise in output charges also softened, something panelists linked to “efforts to pass through any concessions to customers to encourage the placement of orders”. Rather surprisingly under the circumstances, business confidence for future output rose to a three-month high

• The manufacturing tracker sank from 52.2 to a 25-month low of 51.3 as output contracted for the second month in a row and demand suffered from inflationary pressures in key export markets. Supply chain constraints continued to ease as evidenced by the weakest lengthening in supplier delivery times since October 2020. As for input/output price inflation, it let up slightly but continued to run at a high rate.

• The services sub-index, for its part, plunged from 47.3 to a 27-month low of 44.1, which was consistent with a sharp decline in activity. Incoming new business contracted, a development survey respondents attributed to hikes in interest rates and inflation, which were squeezing disposable income. As work backlogs shrank the most since May 2020, firms operating in the services sector trimmed hiring plans. As a result, employment growth was the weakest this year

• Nominal personal income rose 0.2% in July after increasing 0.7% the month before. As the labour market continued to recover, the wage/salary component of income progressed 0.8%. Income derived from government transfers, meanwhile, edged down 0.1%. All this translated into a 0.2% gain for disposable income. Nominal personal spending, for their part, crept up 0.1% as a 0.3% gain in the services segment was partially offset by the 0.2% decline for goods. As spending expanded at roughly the same pace as disposable income did, the saving rate stayed unchanged at a 13-year low of 5.0%

• The Fed’s favorite inflation measure, the core personal consumption expenditures price index, eased to 4.6% in July from 4.8% in June. Core PCE peaked in February at 5.3%, well above the Fed’s 2% target

• Durable goods orders stayed flat in July instead of expanding 0.8% as per consensus. This came after the figure for June was revised up to 2.2% (initially estimated at 2.0%). Orders in the transportation category contracted 0.7% as gains for civilian aircraft (+14.5%) and vehicles/parts (+0.2%) were more than offset by a 49.8% drop in the volatile defence aircraft segment. Excluding transportation, orders advanced a consensus-topping 0.3%, marking the 26th increase in 27 months for this indicator. The report showed, also, that orders of non-defence capital goods excluding aircraft, a proxy for future capital spending, increased 0.4% MoM. On a three-month annualized basis, “core” orders were up a solid 7.7%, suggesting business investment in machine and equipment had room to improve in Q3 despite slowing growth and rising interest rates

• In July, sales of new homes fell for the sixth time in seven months, sinking 12.6% to a six-and-a-half-year low of 511K (seasonally adjusted and annualized) and bringing the total drawback since December to 39.1%. The monthly retreat, combined with a rise in the number of homes available on the market (from 450K to a 14-year high of 464K), pushed the inventory-to-sales ratio up from 9.2 to 10.9, its highest level since March 2009. It is worth noting that a high proportion of the houses available on the market were either under construction or awaiting construction. Completed houses represented only 9.4% of the total inventory, one of the lowest proportions ever recorded. This statistic reflects not so much the current health of the market as its past strength. Recall that, faced with severe labour shortages, homebuilders were unable to meet the explosion in housing demand that took place during the pandemic. As a result, construction backlogs swelled. The current context, which is much less effervescent, should allow homebuilders to quickly make up for lost time

• The Pending Home Sales Index cooled 1.0% in July to its lowest level since 2011 (89.8). After falling in eight of the past nine months, the index now sits 26.6% below its October level. Year on year, pending transactions were down 22.5%. Outside of the pandemic period, this was the steepest drop registered since March 2011

• In the week to August 20, initial jobless claims dipped from 245K to 243K. Continued claims, meanwhile, slid from 1,434K to 1,415K. This number remains very low by historical standards, which suggests that unemployed workers were finding new jobs quickly. This assumption is supported by BLS data that show a steady decline in the median duration of unemployment spells in the United States

• The second estimate of Q2 GDP growth pegged in at -0.6% in annualized terms, a stronger result than both the advance estimate (-0.9%) and the median economist forecast calling for a -0.7% print. Household consumption was revised upward (from +1.0% QoQ annualized to +1.5%) as the contraction in goods spending was not as big as expected (-2.4% instead of -4.4%). Inventories, too, proved less of a drag on growth than initially reported, while trade’s contribution remained roughly unchanged. Business investment in structures (from -11.7% to -13.2%) and residential investment (from -14.0% to -16.2%), on the other hand, were even softer than first estimated. On the inflation front, the 12-month increase in the personal consumption expenditures price index excluding food and energy remained unchanged at 4.8%

• Fed Chair Powell spoke for little more than nine minutes on Friday morning and kept his message simple: restoring price stability will likely require maintaining a restrictive policy stance for some time and the historical record cautions strongly against prematurely loosening policy. In recent months, markets anticipated sharp rate hikes but also expected rates to fall back from their peak quite quickly as the economy slowed. Powell pushed back hard on that notion on Friday. He welcomed improvement in the July inflation figures but noted that one month’s improvement falls far short of what the FOMC needs to see before it is confident that inflation is moving lower. Powell acknowledged that while higher interest rates, slower growth and softer labor market conditions will bring pain to some households and businesses, those are the unfortunate costs of reducing inflation

• A National Association of Business Economists survey shows that economists are not at all confident that the Fed can bring down inflation without causing a recession. A combined 73% of respondents say that they are “not very” or “not at all” confident in the Fed’s ability to avoid recession

• US President Joe Biden announced on Wednesday a plan to forgive up to $10,000 in student loan debt for individuals earning less than $125,000 and up to $20,000 for Pell Grant recipients. He will also extend the student loan repayment moratorium, in place since March 2020, through the end of the year. Some have questioned the program’s impact on inflation and the president’s authority to pass on the cost of the loans to taxpayers. According to the Wall Street Journal, the cost of the loan forgiveness and extension of forbearance is estimated to be $500 billion

• Stocks moved sharply lower—if in a week of mostly light summer trading—as investors became less optimistic that the Federal Reserve will be able to tame inflation without causing a significant economic slowdown. Technology and other high-growth stocks fared worst in this environment, and the tech-heavy Nasdaq Composite Index fell to its lowest level in a month. Rising oil prices fed into inflation worries but also boosted energy stocks

• On Tuesday, the S&P CoreLogic Case-Shiller Home Price Index is out. Several measures of housing market activity and output have contracted in recent months. New home sales have fallen 39% since December, housing starts nearly have fallen back to pre-pandemic levels, and pending home sales have declined in eight of the past nine months. Yet so far, home prices have not shown nearly the same degree of retrenchment. The S&P CoreLogic Case-Shiller 20-city home price index, which covers 20 major metropolitan areas in the United States, increased 1.3% in May and was up 20.5% YoY. For context, the average monthly increase for the index in 2019 was slightly above 0.2%

• On Thursday, the ISM Manufacturing is released. Like numerous other economic indicators, the ISM manufacturing index has been signaling an economic slowdown in recent months. In July, the headline reading of 52.8 was still consistent with expansion, but it was the slowest pace of expansion since June 2020, when the economy was still emerging from the COVID lockdowns. The new orders component was in contractionary territory for the second month in a row, and backlog of orders was its weakest since July 2020. One bright spot was the prices paid component, which fell to its lowest reading since August 2020


• Latest PMI figures suggest that the UK’s private sector is approaching a state of stagnation, with the Flash PMI Composite Output Index down from 52.1 in July to 50.9 in August (consensus: 51.1). While registering at an 18-month low, activity in the services sector held relatively steady at 52.5 (previous: 52.6) but the manufacturing sector has taken a major hit: UK Manufacturing PMI is at 46 in August (consensus: 51.1), firmly below 50 and therefore indicating contraction of the sector

• UK manufacturers have signalled a sharp and accelerated fall in production during August, citing reduced customer demand, the delayed delivery of inputs and labour shortages. Given the manufacturing sector is typically more energy-intensive than the service sector, rapidly rising energy costs will also undoubtedly serve to weigh down on the sector in the coming months. The services sector is reporting mild growth as new order levels were sustained in August, but GfK’s latest consumer confidence reading of -44 suggests that these levels will not be sustained

• On Friday, the United Kingdom’s energy regulator raised the price cap on annual household energy and gas bills to more than £3,500 from just under £2,000. The Financial Times reported that industry forecasts suggest the cap could rise to more than £6,000 by spring


• The Eurozone flash Composite PMI was 49.2 in August, and slightly above expectations, compared with 49.9 the previous month. The Manufacturing PMI fell less than expected to 49.7, compared with 49.8, and the Services PMI fell more than expected to 50.2, compared with 51.2 the month before

• In France, both manufacturing and services contributed to push composite activity into contraction. Demand deteriorated, particularly via new business intakes, and employment growth softened as well. In Germany, business activity contracted for a second month in a row, as the already weak manufacturing sector was compounded by services contracting at a faster pace than last month. Employment growth weakened as well

• The continued drop in business activity in August was another indication of how cost of living pressures are taking their toll on businesses, suggesting that a significant proportion of the boost from the lifting of pandemic restriction appears to be receding. The manufacturing sector remains in a downturn and there were also signs of slowing employment growth. New orders and incoming businesses remain below their historical median, and despite a small increase in future expectations, this remains at historically low outturns. Price, as well as supply chain, pressures continue to recede although they still remain at high levels

• The minutes from the European Central Bank’s (ECB) July policy meeting suggested that more interest rate hikes could be forthcoming to subdue persistently high inflation that “posed an increasing risk of longer-term inflation expectations becoming unanchored.” At that meeting, policymakers sanctioned a larger-than-expected 0.5 percentage point increase in key rates and “cautioned that a continued anchoring of inflation expectations was dependent on the Governing Council acting decisively on the worsening inflation outlook.” Rate-setters also stressed, however, that the size of the rate increase did not “constitute an upward shift in the interest rate path but, rather, a frontloading of the policy normalisation.” They said that signs of an economic downturn had increased, but “there were no indications of a major recession in the euro area so far.”

• Shares in Europe fell as fears intensified that the efforts of key central banks to subdue inflation could deepen an economic downturn. In local currency terms, the pan-European STOXX Europe 600 Index ended the week 2.58% lower. Major stock indexes also declined. Germany’s DAX Index tumbled 4.23%, France’s CAC 40 Index declined 3.41%, and Italy’s FTSE MIB Index slid 2.84%


• In property sector news, developer Longfor Group raised CNY 1.5 billion (USD 219 million) through selling onshore bonds fully guaranteed by the government. The guarantee from China Bond Insurance was the first under a scheme that Beijing unveiled earlier this month to support the stricken real estate sector. CIFI Holdings, another developer, also plans to sell an onshore bond with a state guarantee, Bloomberg reported. Despite the recent show of official support, some state-backed financial institutions have resisted Beijing’s calls to support the country’s debt-laden developers over concerns about the impact of such exposure on their balance sheets, Reuters reported

• Beijing announced several measures to prop up the economy last week. The State Council, China’s cabinet, outlined a 19-point policy package adding CNY 300 billion to state policy banks’ investment in infrastructure projects, on top of CNY 300 billion announced in June. The cabinet also allocated CNY 500 billion of special bonds from previously unused quotas to local governments

• The People’s Bank of China (PBOC) cut two key interest rates as the central bank stepped up efforts to revive the economy. The central bank cut the five-year loan prime rate (LPR), a reference for mortgages, by 15 basis points to 4.30% and trimmed the one-year LPR by a smaller-than-expected five basis points to 3.65%. Last month, China reported its economy narrowly avoided contracting in the second quarter amid repeated coronavirus lockdowns and a nationwide property crisis

• China’s stock markets declined as extreme temperatures and power shortages in some provinces raised concerns about the growth outlook. The broad, capitalization-weighted Shanghai Composite Index eased 0.67%, and the blue chip CSI 300 Index, which tracks the largest listed companies in Shanghai and Shenzhen, fell 1.05%, Reuters reported

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