Weekly U.S. Economic Briefing-- Bank of America
For the Week of August 7th 1998
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I. Summary
One factor present in nearly every single economic release reported this week was the GM strike. The strike lasted seven weeks, starting in June and spilling over into July. It depressed manufacturing activity, employment and income growth, auto sales, and even the index of leading economic indicators. Cutting through these distortions, the U.S. economy continues to grow at a solid pace with very little inflation.
Although the GM strike has been settled, it will continue to influence the path of real GDP growth over the coming two to three quarters. Following a half percentage point drag in the second quarter, it will shave a tenth off growth in the third quarter. As GM works to catch up on lost production, expect a large boost to real GDP growth in the fourth quarter.
There are tentative signs that the second quarter s 1.4 percent annual rate of growth in real GDP will likely be revised down a touch. Inventories for June may be even less supportive than was assumed by the Commerce Department. (This piece of the GDP puzzle is always missing when Commerce releases its first estimate.) With much of the inventory correction now complete, the ongoing stimulative financial conditions, the now-settled GM strike, and some statistical momentum, will lift growth in the third quarter to a 2.7 percent annual rate.
Since real GDP growth has been averaging a percentage point above its potential over the past three years, the labor market has been getting tighter and tighter, so much so that labor costs have been accelerating. For example, average hourly earnings for July posted a near cycle-high increase of 4.2 percent (seasonally adjusted) from a year ago. This includes the restraining influence of the GM strike.
Despite the strength in the labor market, U.S. financial markets have been focusing their attention on the turmoil in Asia, and its spillovers. The closing yield on 30-year U.S. Treasury bonds fell nine basis points this week to 5.62 percent from 5.71 percent last week. Today s close is just above its record closing low of 5.57 percent on July 6.
Ailing overseas markets also kept the U.S. dollar up. The trade-weighted value of the dollar rose 0.2 percent this week to 101.5 from 101.3 last week. Talk of a possible devaluation of the Chinese yuan benefited the yen/US$ exchange rate, pushing it to an eight-year closing high of 146.2 yen.
The Dow Jones Industrial Average closed at 8598 today, a slide of 2.7 percent from last week s close of 8833. The Dow is down nearly 8 percent from its record high close of 9338 on July 17.
II. Recent Statistics and Their Implications
Nonfarm payroll employment rose a stronger-than-expected 66,000 in July, following June s revised gain of 196,000 jobs. The now-settled GM strike skewed July s increase down by about 141,000 jobs. Manufacturing took the brunt of the decline, falling 176,000 in the month. But even without the strike effect, factory job growth was still negative, highlighting the impact of Asia. Looking beyond these two effects, ex-manufacturing payrolls advanced 242,000 in July, versus an average increase of about 250,000 in the previous six months. Looking at the data in this way underscores the strength of the domestic economy.
The civilian unemployment rate was 4.5 percent in July, matching June s rate, up from 4.3 percent in May and April, its lowest since February 1970. Were it not for the GM strike, the jobless rates would have eased to 4.4 percent in July. The unemployment rate has been less than 5.5 percent for two years, which explains the acceleration in average hourly earnings.
Average hourly earnings rose an as-expected 0.2 percent in July, after rising a similar amount in June and May. During the past 12 months, earnings have increased 4.2 percent (seasonally adjusted), just shy of the cycle-high rate of 4.4 percent posted this past April. Overall, hourly earnings have shown an upward trend since bottoming out with a 2.2 percent increase during the 12 months ended September 1992.
The National Association of Purchasing Management index slipped to 49.1 percent in July from 49.6 percent in June. Contributing to the decline was the GM strike, reduced exports to Asia, and an inventory correction from the first quarter s massive run-up. July s decline marked the second consecutive month the index was below 50, indicating a factory sector that is contracting. In the 22 months before this period, the index was above 50, indicating expansion. Despite the two-month stumble, the index is comfortably above 43.5, signaling continued economic growth in the current quarter.
The index of leading indicators, a gauge of future growth, fell 0.2 percent in June, on top of a 0.1 percent drop in May. This was the first back-to-back decline since a five-month string of declines in the Spring of 1995. As was the case back then, the May/June dip may turn out to be a false warning of impending recession. This is because, in the June report, the largest negative contributor was the jobless claims componentitself adversely affected by the GM strike and auto plant-retooling efforts. Without it, the index would have recorded an unchanged reading. On balance, the recent performance in the index suggests an expanding economy in the months ahead, albeit at a slower pace.
Total vehicle sales (domestic and imported autos and light trucks) plummeted to a 13.9 million unit annual rate in July. This follows 16.9 million in June, the highest level since December 1996. It appears that the GM strike hampered sales in July while boosting them in June. Taking the average of these two months produces a 15.4 million unit sales pace, precisely the year-to-date average in 1998.
Domestic auto sales plunged to a seven-year low of 5.8 million unit annual rate in July, down from 7.4 million in June, the highest level since April 1996. The decline in domestic light truck sales was less pronounced. Sales here fell to a 6.1 million unit annual rate, down from 7.5 million in June, the highest level on record. Imported auto sales came in at 1.4 million, while imported light trucks came in at 0.6 million.
Depressed by the GM strike, personal income rose 0.2 percent in June, the smallest increase since April 1997. This follows an increase of 0.4 percent in May. During the past 12 months, personal income expanded by a robust 5.0 percent, little changed from the 5.2 percent rise during the prior 12 months. Real personal disposable income, the amount left over after taxes are paid and inflation is netted out, grew 0.1 percent in June. This measure expanded at a 2.9 percent annual rate during the second quarter, slower than the 4.0 percent rate posted in the first quarter.
Consumer spending moved up 0.6 percent in June, following a 0.9 percent advance in May. After adjusting for inflation, the pace of real consumer spending has been accelerating. This has occurred while real disposable income growth has been slowing, thus pushing down the rate of savings. Part of this reflects a methodological change in the way the savings rate is derived. Removing the steadily-increasing mutual fund capital-gains distributions from the income series, while counting the spending from these gains, has culminated in a 0.2 percent savings rate in June. Putting aside this technical caveat, a lower savings rate reveals the formidable wealth effect boosting consumption. As well, it suggests that this extra consumption is vulnerable to any rise in interest rates and/or a significant drop in equity values.
Spurred by low interest rates, construction spending jumped 1.7 percent in June, nearly reversing a 1.9 percent decline in May. June s gain was the largest since February 1997, and just shy of April s record level of $645.3 billion. It reflected a 1.2 percent increase in private construction and a 3.2 percent advance in public construction. In inflation-adjusted (real) terms, construction spending rose at a 1.2 percent annual rate during the second quarter, after powering ahead at a 7.7 percent rate during the first quarter, its fastest rate just over a year.
Factory orders, a highly volatile monthly series, rose a scant 0.1 percent in June, following a drop of 2.2 percent in May. Durable goods orders were down 0.1 percent in June, on top of a 3.3 percent plunge in May, while nondurable goods rose 0.3 percent, after falling 0.8 percent in May. During the past 12 months, the pace of orders decelerated to a 1.1 percent gain from a 6.6 percent increase six months ago. This deceleration reflects weakness in exports due to the appreciating dollar and the collapse of demand in Asia, and an unwinding of the first quarter inventory overhang here in the United States.
Consumer credit outstanding rose a modest $0.4B in May, after increasing a revised $5.6B in April. The May increase was composed of a $1.0B rise in auto credit, a $3.3B decrease in revolving credit, and a $2.6B gain in other credit. The growth rate of consumer credit outstanding eased to a 3.5 percent annual rate during the past 12 months from a faster 6.0 percent rate during the prior 12 months. Expectations are for a $3.5B increase in June.
III. The Coming Week s Statistics and Their Likely Impact on the Bond Market
Nonfarm business productivity for the first quarter of 1998 expanded at a 1.1 percent annual rate, following a 1.4 percent rate of increase in the fourth quarter. During the past four quarters, productivity has increased 2.1 percent, considerably higher than its 1.1 percent average of the past decade. Expectations for second-quarter productivity growth are centering on 0.5 percent.
The weekly Redbook Research index of chain store sales rose 0.9 percent in July from June, based on sales for the four weeks ended August 1. An estimate of the change for the one week ended August 8 compared to July is unavailable.
Retail sales, accounting for one third of GDP, rose a scant 0.1 percent in June, after a 1.2 percent advance in May. Among broad categories, durable goods were unchanged in June, while nondurable goods were up 0.2 percent. For the second quarter, retail sales expanded at an 8.0 percent annual rate, after an 8.3 percent gain during the first quarter. Owing to the GM strike, the market is expecting a drop of 1.0 percent in July. Excluding auto sales, retail sales edged up 0.1 percent in June, after surging 0.9 percent in May. The market median is for a 0.4 percent increase in July.
Unemployment claims rose 6,000 in the week ended August 1 to a level of 307,000, after a 16,000 drop in the previous week to a revised 301,000 new claims. Jobless claims have averaged 316,000 in the past four weeks. The median forecast for the August 8 week is an increase of 8,000 to a level of 315,000.
The producer price index fell 0.1 percent in June, largely due to a big 1.7 percent drop in energy prices. Still-soft oil prices in July point to continued modest energy price pressures. The PPI declined 0.8 percent during the 12 months ended June, after falling 0.1 percent during the prior 12 months. Deeper in the production pipeline, intermediate and crude goods prices are both in negative growth territory. The market is looking for an unchanged reading in July.
The PPI excluding its energy and food components was up 0.2 percent in June, matching the 0.2 percent increase in both May and April. As in the previous month, soaring prescription drug prices pushed up the core PPI in June. On a year ago basis, the core PPI has risen 0.8 percent, versus a 0.1 percent rise during the prior 12 months. The market median is for a 0.1 percent gain in July.
Industrial production plunged 0.6 percent in June, following a gain of 0.3 percent in May. The GM strike was the main reason behind the decline. Excluding motor vehicles and parts, output was flat in June, evidence that the U.S. economy slowed under the weight of an inventory correction and reduced exports to Asia. The expectation in the market is for a 0.5 percent decline in July.
Capacity utilization was 81.6 percent in June down from 82.4 percent in both May and April. June s operating rate was the lowest since October 1993 and well below its cycle-peak of 84.6 percent recorded in January 1995. Markets are anticipating a rate of 80.9 percent in July.
The University of Michigan s index of consumer confidence slipped to 105.2 in July from 105.6 in June, remaining below the record high of 110.4 set in February. Since confidence averages about 87 during economic expansions, the current high level is supportive of robust economic growth. Expectations are centering on 104.5 for early August.
Business inventories fell a modest 0.1 percent in May, after edging up 0.1 percent in April. The decline in May was the first since June 1996. About half of the big 1.0 percent drop in retail inventories was related to autos. The inventory correction is likely to be short-lived given that the inventory-to-sales ratio is quite low at 1.38, and not far off its record low of 1.37 set in February 1997. The median forecast is for an unchanged reading in June.
IV. Interest Rates and Foreign Exchange Rates
In the latest statement week (ended 8/5), the federal funds rate averaged 5.62 percent, above the Fed target of 5-1/2 percent adopted March 25, 1997 by the FOMC. During the 71 weeks the Fed has had the 5-1/2 percent target, the funds rate has averaged 5.53 percent. During the prior 60 weeks, when the Fed had a 5-1/4 percent target, the funds rate averaged 5.27 percent
The closing yield on 30-year U.S. Treasury bonds fell nine basis points to 5.62 percent from 5.71 percent last week. Today s 30-year bond yield is above its record closing low of 5.57 percent on July 6, the lowest yield-to-maturity since the Treasury began regular issuance of this maturity in 1977. Since December 10, the long bond yield has moved in a narrow range between 5.57 percent and 6.10 percent. During 1997, it moved in a wider range between 5.88 percent and 7.17 percent.
The Fed s trade-weighted value of the dollar rose 0.2 percent this week to 101.5 from 101.3 last week. The dollar was unchanged against the German market, but appreciated 1.1 percent against the yen to reach an eight-year closing high of 146.2. On June 15, this dollar index reached 102.4, its highest level in about eight and a half years. The stronger dollar evident since April 1995 has helped to hold down U.S. inflation rate by lowering import costs, but also tended to push up the U.S. trade deficit, and thereby depress the U.S. real GDP growth rate.
The forecast table below shows the bank s standard forecast on a quarterly basis, for 1998 and 1999. Actual values are shown for the fourth quarter of 1997, and the first quarter of 1998.
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This analysis is based on information available to the public; no representation is made that is accurate or complete. Opinions and projections contained herein reflect our opinion as of the date of the analysis and are subject to change without notice. This report is for information purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of an |
