NAM: Monday Economic Report

As expected, the Federal Open Market Committee (FOMC) ended its June 12–13 meeting by hiking short-term rates by 25 basis points. This action—the second increase so far in 2018—was widely expected, with markets already pricing it in. More importantly, the Federal Reserve’s economic projections signal that there could be four hikes in the federal funds rate this year, up from a consensus estimate of around three. With the Federal Reserve’s action, the target range for the federal funds rate is now 1.75 percent to 2 percent. The projections show that range rising to 2.4 percent by the end of 2018 and 3.1 percent in 2019. The latter would indicate three hikes next year. With that said, the FOMC will hinge future interest rate increases on incoming data.

The acceleration of rate hikes likely stems from expectations of faster growth, especially in the labor market. The Federal Reserve sees the U.S. economy growing by 2.8 percent in 2018, up from an estimate of 2.7 percent in its March projections. On the jobs front, the Federal Reserve forecasts the unemployment rate falling to 3.6 percent in 2018 and 3.5 percent in 2019. That was lower than the 3.8 percent and 3.6 percent predictions this year and next year, respectively, in the Federal Reserve’s March analysis. The Federal Reserve wants to stay ahead of any overheating in economic growth, particularly as the job market falls further into “full employment” territory. In addition, while consumer and producer pricing pressures have accelerated recently, they are not a concern at this time. The projections predict core personal consumption expenditure (PCE) inflation of 2 percent in 2018, with 2.1 percent growth in both 2019 and 2020.

There was encouraging news regarding on the consumer front, including increased optimism in preliminary data from the University of Michigan and Thomson Reuters. More importantly, retail spending jumped 0.8 percent in May, up from 0.4 percent in April and its fastest monthly gain since November. It was the third consecutive month of solid consumer spending after some softness earlier in the year, and as such, it is a sign that Americans have again accelerated their purchases after some hesitance to do so to start the new year. Indeed, retail sales remain a bright spot, with spending up 5.9 percent over the past 12 months, up from 4.9 percent year-over-year in the prior release. Moreover, with automotive sales excluded, retail spending rose by 0.9 percent in May, with year-over-year growth of 6.4 percent, a brisk rate not seen since February 2012.

Despite such strength in many macroeconomic trends, manufacturing production decreased by 0.7 percent in May, falling largely on a sharp pullback in activity in automotive activity. A fire at a supplier helped to reduce output in the motor vehicles and parts sector, but that segment has also been notably lower in each of the past two months, down 2.2 percent and 6.5 percent in April and May, respectively. Even with some softness in the latest figures, manufacturing production has risen a respectable 1.7 percent over the past 12 months, off from 1.9 percent year-over-year in April. Likewise, capacity utilization in the sector dropped from 75.9 percent, its highest rate since August 2015, to 75.3 percent. We would expect to see a rebound in many of these measures moving forward, including for motor vehicles.

Meanwhile, total industrial production edged down 0.1 percent in May, falling for the first time since January, but pulled lower by manufacturing. In contrast, mining and utilities production were both higher, up 1.8 percent and 1.1 percent for the month, respectively. Over the past 12 months, industrial production has risen 3.4 percent, pulling back marginally from the 3.6 percent pace seen in April. Mining and utilities output has risen by 12.6 percent and 4.0 percent year-over-year, respectively. In addition, capacity utilization ticked down from 78.1 percent to 77.9 percent.

At the regional level, manufacturing activity accelerated for the second straight month in June in the New York Federal Reserve Bank’s district, expanding at a relatively strong pace. In the latest Empire State Manufacturing Survey, the composite index of general business conditions rose from 20.1 in May to 25.0 in June, its best reading in eight months. The headline measure was stronger in May due to increased new orders, shipments, employment and the average workweek. As we have seen in recent months, pricing pressures remained highly elevated, even after inching down slightly in May from nearly a seven-year high. Nonetheless, manufacturers in the New York Federal Reserve Bank’s district were more upbeat in the latest survey about the next six months.

In addition, the National Federation of Independent Business (NFIB) said that the Small Business Optimism Index rose from 104.8 in April to 107.8 in May, the second-highest reading since July 1983, with owners upbeat about tax reform and the changed regulatory environment. More importantly, the percentage of respondents saying that the next three months would be a “good time to expand” increased from 27 percent to 34 percent, a new all-time high. In addition, the net percentage expecting higher sales in the next three months jumped from 21 percent to 31 percent, its best reading since 1995.

Coming up this week will be a handful of surveys reflecting confidence in the manufacturing sector. This includes preliminary purchasing managers’ index figures from IHS Markit for the United States and Eurozone. In previous releases, U.S. manufacturing activity was the best since September 2014, but there was slowing growth reported in Europe. In addition, the Philadelphia Federal Reserve Bank will highlight conditions in its district. Other highlights this week include updates on the housing market and leading indicators.

Chad Moutray, Ph.D., CBE
Chief Economist
National Association of Manufacturers