(Bloomberg) — The world’s third largest economy recovered to its pre-pandemic size in the second quarter, as consumer spending picked up following the end of coronavirus curbs on businesses.
WASHINGTON — A portrait of a robust U.S. economy is sure to take centre stage Tuesday night when President Donald Trump gives his third State of the Union address. It is an economy that has proved solid and durable yet hasn’t fulfilled many of Trump’s promises.
Nine months before the election, the economy keeps growing steadily if only modestly. Unemployment is at a half-century low. And consumers, the lifeblood of the U.S. economy, continue to spend. Average pay is rising faster than when Trump took office three years ago, with the largest percentage gains now going to lower-wage workers. Some research has found that this trend, which began in 2015 before Trump’s election, partly reflects higher state minimum wages.
Economists warn, though, that the U.S. expansion, now in its record-long 11th year, faces an array of threats. Most immediately, China’s viral outbreak has paralyzed business with the world’s second-largest economy. Starbucks and Apple have closed stores in China, airlines have cancelled flights and companies like General Motors have halted production there.
All of that could shave one-half percentage point off annual growth in the first quarter, Goldman Sachs economists forecast, though they expect the slowdown to be offset by a rebound in the second quarter. Boeing’s decision to halt production of its 737 MAX should also weaken growth in the first six months of the year, economists say.
America’s manufacturing sector is struggling, a reflection of Trump’s trade conflicts. High corporate debt levels have sparked concerns. Some analysts also worry that the Federal Reserve’s ultra-low interest rates have helped feed risky bubbles in stocks or other assets.
And leading Democratic presidential candidates, especially Sens. Bernie Sanders and Elizabeth Warren, have built their campaigns to unseat Trump around the message that the economy remains rife with inequality, with many workers struggling to afford college, housing or health care.
Trump is unlikely on Tuesday night to let any such doubts temper his standard message that under his stewardship, the economy is thriving, unemployment is falling, the stock market is roaring and that the best days are still ahead.
“I’m proud to declare that the United States is in the midst of an economic boom the likes of which the world has never seen before,” Trump said last month in Davos, Switzerland. “America is thriving, America is flourishing, and yes, America is winning again like never before.”
Yet what Trump calls an unprecedented boom is, by many measures, not all that different from the solid economy he inherited from President Barack Obama. Economic growth was 2.3% in 2019, matching the average pace since the Great Recession ended a decade ago in the first year of Obama’s eight-year presidency.
During the 2016 campaign, Trump boasted that his tax cut plan would boost annual growth to 4% a year — a brisk pace not seen since the late 1990’s. Instead, Trump, along with Obama, is one of two presidents since World War II not to have presided over a year of at least 3% growth. And few economists think the economy will hit that target this year.
Most analysts do think Trump’s tax plan helped accelerate growth, just not the way he had promised.
“The Trump tax cuts were a sugar high that juiced the economy temporarily,” said Ryan Sweet, an economist at Moody’s Analytics.
It put more money in Americans’ pockets, boosting consumer spending. The economy grew 2.9% in 2018, a healthy pace though the same as in 2015, the year before Trump’s election.
The administration had vowed, though, that the tax cuts would do more than just encourage Americans to shop more. The president’s top economists had said the tax cuts would accelerate corporate investment in machinery, computers and plants and office towers. All the new equipment would make workers more efficient, the argument went, thereby boosting productivity — the amount of output for each hour worked.
Greater productivity is one of the two main drivers of growth; the other is an increase in the number of U.S. workers. Both have slowed in the past decade.
Most economists partly blame Trump’s trade wars, particularly with China. The trade conflicts have left American companies much less certain about the economic outlook and reluctant to expand and invest. Business investment shrank in the final three quarters of last year.
Nor have Trump’s business tax cuts and deregulation made the economy more dynamic. The growth of new companies has remained anemic since the 2008 downturn. Larger businesses continue to dominate many industries, from technology to retail to finance.
All this is occurring despite significant stimulus. Trump has assailed Fed Chairman Jerome Powell for not cutting rates more, though the Fed’s benchmark rate is now in a range of just 1.5% to 1.75%, a very low level historically and one that is considered stimulative.
And increased federal spending has also helped support the economy. The Congressional Budget Office last week projected that the government’s deficit will top $1 trillion annually for the next decade.
“The accelerator is on the floor, but the vehicle is moving surprisingly slowly,” Larry Summers, Treasury Secretary under President Bill Clinton and a top economic adviser to Obama, said in early January.
Trump has also recently highlighted what he calls a “blue collar boom,” pointing to solid wage gains for lower-paid workers and healthy hiring in construction and manufacturing. But manufacturing jobs barely grew last year as factories hunkered down in the midst of the trade wars. And since Trump’s inauguration, manufacturing jobs have grown more slowly than employment overall has.
Ernie Goss, an economics professor at Creighton University in Nebraska, said the Midwest’s job growth has amounted to only about three-quarters of the national pace since Trump took office. Farmers have also suffered from the trade war, he said, as retaliatory tariffs by China have clobbered exports of soybeans and other commodities. That, in turn, has hurt manufacturers of farm equipment, including Deere and Caterpillar.
“Everyone says the economy is going great guns, but that is everything except agriculture and manufacturing,” Goss said.
What’s more, most campaign battleground states in the Midwest, such as Michigan, Pennsylvania, Ohio and Wisconsin, have lost factory jobs in the past year. Most manufacturing job growth under Trump’s presidency has occurred in Southern and Western states, said Dean Baker, senior economist at the liberal Center for Economic and Policy Research. With fewer union members in those states, those factory jobs generally pay less. In fact, manufacturing jobs, once a bulwark of the postwar middle class, now pay less on average than private-sector jobs overall, Baker said.
Still, despite modest growth, the record economic expansion has endured under Trump. There is also evidence that its durability has, in recent years, finally started to benefit a broader swath of Americans.
More people have come off the sidelines and found jobs, defying most economists’ predictions. The proportion of Americans in their prime working years — ages 25 through 54 — who are employed is now higher than before the Great Recession.
And last year, wages rose nearly 5% for the poorest one-fourth of Americans, far more than for the richest fourth, whose pay rose just 3%, according to the Federal Reserve Bank of Atlanta. Still, richer Americans hold a far greater portion of the nation’s wealth, with the top 10% owning nearly 85% of the value of all stocks.
The moderate pace of growth has meant that so far, the economy isn’t showing evident signs of excess akin to the housing bubble that led to the 2008 financial meltdown.
“This expansion has been slow and steady, but it could run for a few more years,” Sweet said. “There’s no reason that it needs to die. Sometimes slow and steady does win the race.”
Christopher Rugaber, The Associated Press
(Bloomberg) — The world’s third largest economy recovered to its pre-pandemic size in the second quarter, as consumer spending picked up following the end of coronavirus curbs on businesses.
Gross domestic product grew at an annualized pace of 2.2% in the second quarter of this year, coming in below the median estimate of 2.6%, Cabinet Office data showed Monday. That lifted the size of the economy to 542.1 trillion yen ($4.1 trillion), above what it was at the end of 2019. First quarter GDP was revised to an expansion from a prior contraction.
“The economy managed to return to its pre-pandemic size, but its recovery pace has been slower than other nations,” said economist Takeshi Minami at Norinchukin Research Institute. “I expect growth to continue in the third quarter too, but it will likely be losing momentum down the road.”
The end of pandemic restrictions on businesses in late March helped spur the economy. Consumer spending, which accounts for more than half of Japan’s economic output, led the growth, as did capital expenditure. The relaxing of Covid rules resulted in increased spending at restaurants and hotels, as well as on clothes, according to the Cabinet Office.
Still, the gains were more limited than expected a few months ago, showing that pent-up demand among consumers has been moderate.
What Bloomberg Economics Says…
“Going forward, we expect growth to slow in 3Q. Persistent cost-push inflation and a surge in new Covid-19 cases point to downside risks to the recovery. These will probably outweigh any boost from inventory rebuilding.”
— Yuki Masujima, economist
For the full report, click here.
While the economy regained its pre-pandemic size, economists expect the central bank to stick to its current easing policy, and the government to continue providing support for households hit by both the pandemic and rising prices. Other developed economies are doing the opposite by raising interest rates to cool demand and rampant inflation.
Japan’s milestone also comes behind the US’s, which recovered its pre-pandemic economy size a year ago, while much of Europe regained it at the end of 2021.
The report came out as downside risks mount at home and abroad. Japan has been reporting record Covid infection cases with daily numbers continuing to top 200,000 this month. The government has so far kept economic activity as normal as possible without bringing back restrictions. But high-frequency data suggest people’s mobility is falling.
In Japan’s key trading partners, growth is slowing as the US and Europe fight inflation and China sticks to its zero-Covid policy. The war in Ukraine continues to disrupt food and energy supplies while the crisis in Taiwan is adding to geopolitical risks.
Inflation remains relatively moderate in Japan, but consumption may cool with prices rising faster than wages. After factoring in inflation, paychecks in Japan have been falling for three months in a row through June.
Prime Minister Fumio Kishida reshuffled his cabinet last week but signaled that the core parts of his policies will remain the same. Kishida also suggested he’ll remain flexible on fiscal support, although he’ll focus on spending existing reserve funds first before reaching for additional debt issuance.
Japan Kishida Orders Continued Wheat Prices Cap, More Grants (1)
Kishida ordered Monday another set of measures to contain inflation by early September, with a boost in funding for regional governments and a continued cap on imported wheat prices. He emphasized that wage gains need to be sustained, while saying that the additional support measures will concentrate on food, regional grants and energy.
For now, the measures will be supported by existing reserve funds, though Kishida said he’ll remain flexible in his approach.
“Inflation can cool consumption, although oil prices may stabilize with the global economy slowing down,” said Norinchukin’s Minami. “As downside risks mount in the world economy, there’s a risk that Japan’s economy could contract at some stage toward the end of the year.”
Bank of Japan Governor Haruhiko Kuroda has repeatedly said that the central bank must retain its easing program to support the economy until inflation becomes sustainable. He’s still seeking healthy wage gains, and price rises that go beyond a boom in commodities.
So far, economists expect growth in Japan to remain moderate for the rest of the year, slowing as the months progress. For the third quarter, analysts expect annualized gains of 3.2%.
(Updates with more details on additional price relief measures)
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I did a radio interview this week.
I don’t do a lot of these things because it’s just easier and more comfortable to talk about stuff on my podcast but this one sent me a great list of questions ahead of time that I liked.
Here are 6 of the best questions with some thoughts on each:
(1) What is your reaction to the latest CPI report and your outlook on inflation?
Inflation was basically flat from June to July.1
This is the first good news we’ve gotten on the price front in a while. You can see the energy components finally softened in a big way (via the BLS):
Inflation of 8.5% over the past 12 months is still uncomfortably high but it’s going to take a while for that rate to subside, even if prices do continue to slow in the months ahead.
Obviously, one data point does not make a trend but it does seem like the Fed’s moves along with some easing of supply chains have helped stop the uninterrupted rise in prices.
Gas prices are down like 60 days in a row. Oil prices are down. Used car prices are finally falling.
We can build on this (I hope).
(2) Where does the Fed go from here?
It’s difficult to know exactly what the Fed will do without knowing what the inflation data will look like in the coming months.
Back in the summer of 2020, the Fed said they were comfortable letting inflation run hot for a while if it meant a more robust recovery for the labor market.
The labor market is certainly in a better place than it was in 2020 but inflation is running just a smidge higher than their 2% target.
Fed officials say they’re not done hiking rates just yet and I tend to believe them (for now):
Minneapolis Federal Reserve Bank President Neel Kashkari on Wednesday said he is sticking to his view that the U.S. central bank will need to raise its policy rate another 1.5 percentage points this year and more in 2023, even if that causes a recession.
The Fed is “far, far away from declaring victory” on inflation, Kashkari said at the Aspen Ideas Conference, despite the “welcome” news in the consumer price index report earlier in the day that inflation may have begun to cool.
Kashkari said he hasn’t “seen anything that changes” the need to raise the Fed’s policy rate to 3.9% by year-end and to 4.4% by the end of 2023. The rate is currently in the 2.25%-2.5% range.
The Fed waited too long to act and they don’t want to look like idiots again.
They care more about inflation than the job market right now so they’ll likely keep raising rates until we get a number of lower inflation prints.
If they go too far that has to be a risk to both the stock market and the economy.
(3) What does a soft landing look like?
Let’s start with what a hard landing looks like and work backwards.
A couple of months ago I looked at what has happened to the unemployment rate during past recessions:
The average increase is more than a doubling off the lows. That would take us to more than 7% from the current 3.5% unemployment rate.
To me, a soft landing would see inflation below 4% or so without a commensurate rise in the unemployment rate. The lowest it’s ever increased to during past slowdowns is just over 6%.
I’d say anything 5% and under for the unemployment rate would be a win if we could get inflation back to 3% or so.
What’s the scenario that could make this happen?
The labor market is in a weird place right now since there are more jobs available than people who are looking for one:
Those openings have come down a bit from 11.7 million to 10.7 million. The dream soft landing scenario for the Fed would see these openings fall by 4-5 million but the unemployment rate doesn’t go much above 4-5%.
Is this actually possible?
History says no but employers have been dealing with a challenging hiring market since the start of the pandemic.
Sam Ro wrote a thought-provoking piece this week about the concept of labor hoarding that’s worth considering:
So what explains the current reluctance to shed workers?
Maybe recent experience has something to do with it.
Much of the ongoing economic recovery has come with persistent labor shortages. Employers haven’t been able to hire fast enough to keep up with the booming demand for their goods and services.
At least some of the employers seeing business slow right now remember how hard it was to recruit talent over the past two years and would rather just hang on to employees, even if it comes with carrying costs.
As a matter of convenience, of course it’s easier to just hang on to workers during a slowdown or recession if you expect the downturn to be brief and shallow.
Millions of people were either let go or put on the shelf in 2020 and that made it more difficult to re-staff once demand came back faster than companies are used to.
What if employers hold onto more employees than in past recessions if they assume the next one will be mild?
What if companies don’t want to go through the hiring process all over again following a recession?
That’s probably the best-case scenario for a soft landing if the Fed does cause a meaningful downturn in economic activity to get inflation under control.
(4) What is your general outlook on the markets and/or a recession?
I wish I had a good answer for this one. I don’t.
We could go into a recession while the stock market hits all-time highs.
Or we could see the stock market tank even if the economy improves from here.
Sometimes these things don’t make sense.
My macro outlook has never really helped my portfolio all that much.
Sometimes my thoughts on the economy/markets would have served me well. Other times my thoughts on the economy/markets would have destroyed my portfolio.
Here’s a little secret about investing the pros will never admit — you don’t have to predict the future to be successful in the markets.
Outlooks are more helpful for your ego than your performance in most cases as long as you have a reasonable investment plan in place.
(5) What can we learn from this downturn?
Since the start of 2020, the U.S. stock market has fallen 34%, risen 120%, declined 24% and now gained almost 17%.
In less than 3 years, it’s felt like we’ve lived through every cycle imaginable — 1918, 1929, 1999, the 1970s, maybe the 1960s and some other parallel I’m probably missing.
Everything in the markets is cyclical.
Stuff that has never happened before happens all the time.
The biggest risks are always the things you’re not thinking about or preparing for.
(6) Have we hit a bottom in the markets?
I took a stab at this one a couple of weeks ago and markets are up even more since then.
If inflation keeps improving and there isn’t some outside shock to the system it wouldn’t surprise me to see new highs by 2023 (maybe earlier?).
But the risk of a Fed policy error has probably never been higher so I wouldn’t be surprised to see more volatility in the months ahead either.
If that was the bottom, it will feel obvious once we know for sure.
If stocks roll over again, that will seem obvious too.
That’s the kind of market we’re in.
If stocks fall further that could present a good opportunity to rebalance into the pain.
If stocks keep rising you’ll just have to wait for the next correction to buy at lower prices.
Bottom or not, volatility is a feature of the stock market and it will return at some point.
Every Time Out it’s a Guess
1Technically it was 0.02% lower but I’m not a fan of decimal points with economic data.
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