Economic Outlook – 8 August 2021

• The ISM manufacturing index for July came in slightly below expectations at 59.5, the first sub-60 headline reading since January. Below the headline, there was some indication that supply and demand were coming back into balance. Supplier deliveries fell to a five-month low of 72.5, as the pace of new orders eased 1.1 points, but it is likely too soon to call the end of the supply-chain saga. Meanwhile, activity in the service sector expanded at record breadth in July. Despite their divergence this month, both sectors continue to suggest broad-based expansion, but operating in this environment has not come cheap, and the prices paid sub-index for both sectors remain historically elevated

• Labor supply has been a key obstacle for businesses trying to scale up to meet the rising tide of demand. The employment report showed that some of these constraints eased in July as employers added 943K net jobs. The strong gain was boosted by a 261K job gain in private and public education payrolls, due to fewer seasonal layoffs, but details elsewhere indicated that the labor market recovery heated up this summer. The reopening was on fully display, as the leisure & hospitality sector added 380K jobs, accounting for more than half of the gain in private sector payrolls. In the household survey, the unemployed rate fell by the most since last October to 5.4%, and the percentage of employed persons who teleworked due to the pandemic dropped to 13.2%, the lowest level since records began last May

• The employment report for July and healthy revisions to prior months marked a strong step toward the Fed’s desire for “substantial further progress,” before it starts tapering its asset purchases. That said, the report is somewhat backward looking. Cases have risen rapidly since the survey week in mid-July. The level of reported new cases now stands above the spring and summer waves of 2020 and is roughly on par with November 2020 before the pandemic’s winter peak in the United States. Thus far, visits to retail and recreation locations and seated diners at restaurants have rolled over only modestly, reflecting a further delay in the return to normal rather than a drop in activity. While Fed officials will certainly be pleased with this morning’s strong report and the lack of a clear reversal in activity measures, they are expected to wait and see if progress can be sustained and if constraints boil down to short-term frictions or longer-lasting damage before kicking off tapering

• Auto sales fell by 4.2% to 14.8 million (seasonally adjusted at annual rate) in July, marking the third consecutive monthly decline. Instead of demand, however, it is lean inventories – the result of supply chain disruptions – that are the primary culprit behind the down-ward trend. Constrained production from supply chain is-sues is acting as a drag on the rest of the economy

• US Securities and Exchange Commission Chair Gary Gensler gave a speech in which he said that investor protection informs his thinking on the topic of cryptocurrencies. In the address, he called on Congress to help protect the public from fraud and asked for more authority to ensure that products and platforms do not fall between regulatory cracks

• Stocks recorded gains for the week, helping the large-cap benchmarks and the technology-heavy Nasdaq Composite Index to new highs. A sharp rise in longer-term interest rates following Friday’s strong monthly payrolls report augured well for banks’ lending margins and boosted financials shares, and the small utilities sector also outperformed. Energy shares lagged within the S&P 500 Index.

• In terms of data release, CPI report is out on Wednesday. The underlying details of the report should continue to show price pressure broadening out beyond categories most acutely associated with the reopening. Shelter inflation, for example, likely continued to rise in June and will be a source of upward pressure on prices for some time to come as the run-up in home prices over the past year filters into the CPI and rents are quickly bouncing back. Similarly, food prices were still poised for some considerable strength in July based on the recent run up in food-related commodity prices and average hourly earnings at restaurants

• The Michigan Sentiment Report is out on Friday. July’s confidence data were mixed. Despite widespread expectations that inflation and a resurgence in COVID cases would weigh on sentiment, the Conference Board’s measure of consumer confidence rose in July to its highest level of the post-pandemic era. That was at odds with the University of Michigan’s Consumer Sentiment survey, which showed inflation fears pulling the measure lower in July. There have been mixed signals from the consumer side of the economy. The hard data have generally exceeded expectations, with the 11.8% annualized growth rate for second quarter consumer spending being one of the few bright spots in an otherwise underwhelming GDP report. The ISM services component for July released was the highest figure on record and signals the services economy was chugging along at full steam in July.


• The Bank of England’s Monetary Policy Committee has unanimously agreed to continue to hold rates at 0.1%, unanimously agreed to continue to hold the stock of debt under the QE program and by a 7-1 majority agreed to continue with the program of purchasing debt through the scheduled end of the program in Dec 2021. The current stock of debt is £821B, and there are approximately £3.3bn purchases a week. The MPC broadly endorsed markets’ expectations for a 50bp increase in Bank Rate over the next three years with its forecast that CPI inflation will return to the 2% target in the medium term if it acts as investors’ expect, having peaked at 4.0% in Q4 2021. The MPC has had policy guidance in place specifying that it does not intend to tighten monetary policy, at least until there is clear evidence that significant progress is being made in eliminating spare capacity and sustainably achieving the 2% inflation target. Some members of the Committee judge that, although considerable progress has been made in achieving the conditions of that guidance, the conditions are not yet met fully. The other members judge that the conditions of the guidance have been met fully, but note that the guidance made clear that these have only ever been necessary not sufficient conditions for any future tightening in monetary policy

• The UK (Final) Composite PMI was 59.6 (consensus 57.8), (50+=economic expansion) while this is down from the heights seen in May (63), these are still very positive numbers and indicate the recovery remains on track with the overall economy set to reach the levels seen at the end of 2019 in early 2022. Final Service PMI’s for July have come through at 59.6, above consensus of 57.8. While these numbers are down somewhat from their heights of the last few months, they are still well into positive territory and again the slowing is to be expected as the economy reaches its capacity. Looking at the ONS business survey, the PMI data were expected to continue to slow in the coming months. The main constraint seem to be staff shortages, particularly in lower paid occupations where there has been a significant dependence on workers from poorer parts of the EU. These people have often gone home during the pandemic and their return is not yet guaranteed (they will in general have visas to do so, but new workers who might have been tempted to come to the UK will not). These staff shortages are leading to increases in input costs (rising transport costs are also an issue) and naturally job creation remains robust. Businesses have also sighted the problems around the ‘pingdemic’, the highly sensitive NHS Track and Trace app, which is suggesting large swathes of people self isolate (the app has recently been slightly desensitised to lessen its impact), which is adding to staff shortages problems


• The latest economic bulletin from the European Central Bank says that the economic recovery in the eurozone remains on track but that the Delta variant is a growing source of uncertainty. There is a long way to go before the damage to the economy caused by the pandemic is offset, the report says

• Shares in Europe rose on strong growth in corporate earnings and optimism about an economic recovery. In local-currency terms, the pan-European STOXX Europe 600 Index ended 1.78% higher. Major stock indexes also gained ground: France’s CAC 40 Index advanced 3.09%, Italy’s FTSE MIB Index climbed 2.51%; and Germany’s Xetra DAX Index added 1.45%.

• The European Central Bank adopted a new, more flexible policy framework 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


• China’s official PMI readings for July pointed to slower economic momentum in the country’s manufacturing and services sectors. Analysts attributed this in part to the resurgence of COVID-19 cases in China and overseas, which has dampened business confidence. Additionally, stricter policies regarding residential real estate appeared to dampen momentum in the construction industry

• Foreign investors increased their holdings of Chinese government and policy bank bonds in July, though the pace of inflows has slowed since January. A relatively dovish quarterly policy meeting of the 25-member Politburo, China’s top decision-making body, on July 30 reinforced expectations that the central bank would keep liquidity reasonably ample

• Chinese stocks rose as the previous week’s steep declines attracted some buyers. For the week, the Shanghai Composite Index added 1.8% and the large-cap CSI 300 Index ended up 2.3%. Domestic investors appeared to avoid market sectors that have recently drawn criticism from the government in favor of areas with strong official support. Negative comments regarding online gaming from state media hurt investor sentiment and raised fears of tighter regulation for the industry. Investors also took profits in many property management companies following positive profit alerts and share buyback announcements

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