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Economic data released in May suggest the U.S. economic recovery is losing steam. While manufacturing, the workhorse of the recovery, continues to expand, the pace of expansion is slowing. Meanwhile, consumer spending remains soft, government spending is contracting, though business investment remains steady. Headline inflation is elevated, due in large part to energy and food prices, while core inflation levels remain relatively benign. The labor market remains weak, though the private sector has steadily been increasing payrolls. Because initial jobless claims have remained above 400,000 for seven consecutive weeks, there is a greater amount of employee churn, rather than robust job growth. As the Federal Reserve prepares to end the QE2 asset purchase program, market participants will want reassurance that the economic recovery is self-sustaining in the face of tighter fiscal policy (i.e., less government spending and/or higher taxes) as well as slightly less accommodative monetary policy. Thus far, the data do not provide a strong reassurance.
Spending In the second reading of Q1 GDP, the government reported that the economy expanded at a 1.8% annualized pace, which matched the initial estimate and trailed economists’ estimate of a 2.0% increase. Consumer spending was revised down to 2.2% from 2.7%, while business spending was bumped up to a 1.2% increase from a 0.9% increase and exports surged 9.2% from a previous estimate of 4.9%. Personal spending rose by 0.4% in April, marking the tenth consecutive monthly gain, as higher energy and food prices forced consumers to spend more. Retail sales grew 0.5% in April after a 0.9% increase in the previous month while sales excluding autos, gasoline and building materials grew just 0.2%. Consumer credit expanded in March by $6.0 billion due to 3% increases in both non-revolving and revolving credit levels. The Conference Board’s index of consumer confidence fell to 60.8 in May largely due to weakening conditions in the labor market, economic growth and higher inflation. Consumer sentiment measured by the University of Michigan rose in May as consumer expectations increased amidst lower fuel prices. Recent data from the manufacturing sector has shown the pace of growth remains steady, although slightly slower than previous months. The Chicago Purchasing Managers Index fell in May to 56.6 from April’s 67.6 reading and the Philadelphia Fed’s survey of manufacturing expanded for the 8th straight month in April, but at a remarkably slow pace and well below expectations. Industrial production was unchanged in April, and factory output, which makes up about 75% of total industrial production, fell 0.4% after a 0.7% increase in March. Orders for durable goods dropped 3.6%, following an upwardly revised 4.4% increase in March. The ISM ISM manufacturing index marked its 16th consecutive month of expansion in April despite slowing from March’s pace, which was the fastest in nearly 6 years. The ISM’s non-manufacturing index is said to capture nearly 90% of U.S. economic activity. The ISM Manufacturing Index decreased to 60.4 in April from 61.2 in March. Residential After a brief rebound in the March, the housing market faltered in April. Existing home sales fell by 0.8% and current inventory represents 9.2 months’ worth at the existing pace of sales. Of note, distressed properties accounted for 37% of sales and 31% of all sales were cash transactions; both figures were down from March levels. New home sales jumped 7.3% in April after hitting a record low in February; sales rose in all four regions, led by a 15% increase in the West. The median sales price of a new home jumped 4.6% on a year-over-year basis and the inventory of new homes for sale hit a new 44-year low. Applications for building permits, an indicator of future construction activity, dropped 4% to a 551,000 annualized pace. Housing starts decreased by 10.6% in April to a seasonally adjusted annualized rate of 523,000, led by a 23% increase in the South. Labor The turnaround in the labor market continues to be excessively soft and the ranks of disenfranchised workers are growing. April non-farm payrolls grew by 244,000 as the private sector created 268,000 jobs (up from 231,000 the previous month). The unemployment rate climbed unexpectedly to 9.0% from 8.8%, the lowest level in nearly two years, but the underemployment rate, which includes people who have given up looking for work and those working part-time for economic reasons, remained stubbornly high at 15.9%, erasing the previous months decline to 15.7%. First time claims for state jobless benefits rose the week ended May 21st to 424,000 from 414,000 in the previous week, and the four-week average of initial jobless claims, which reduces volatility inherent in the weekly number, decreased to 438,500 from 440,250. Technical factors caused a spike in claims at the end of April, though current claims remain above levels seen in early April. Inflation Headline inflation pressures continue to trend upward even as retail gas prices have dropped over the past three weeks. Energy prices remain elevated amidst ongoing political unrest in multiple locations in Northern Africa and the Middle East; however core prices have remained subdued. The core personal consumption expenditures gauge, reportedly the Fed’s preferred inflation measure, grew 0.2% in April and the index is up a mere 1.0% over the past 12 months. The overall producer price index grew by 0.8% in April, but for the past 12 months core PPI has gained only 1.9%. In April, the headline consumer price index (CPI) jumped by 0.4%, pushed higher by energy costs, which have climbed 39% on an annualized basis year to date. Compared to a year earlier, core CPI has increased a slight 1.3%. The next regular FOMC meeting will be held on June 21st and 22nd. Market participants do not currently anticipate changes to the overnight lending rate until mid-2012. Furthermore, investors fully expect an end to QE2, though the Fed is expected to continue reinvesting principal payments for the foreseeable future.
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