Economic Insights - May 7 - 11, 2018
- Is the deceleration over? Global growth shifted down at the start of 2018. But, that may be coming to an end.
- Inflation sputters: The April Consumer Price Index (CPI) report showed that inflation may not be rising as quickly as a lot of investors thought.
- Oil bulls have their day: Oil prices have been going up, and that’s not all bad for the U.S. economy.
Is the deceleration over?
World growth rebounded in 2016 and 2017 as the economy recovered from the commodity price collapse and the dollar’s surge. In 2017, much of the globe grew meaningfully above trend in a synchronized boom. But, as this year got started, trends shifted. First off, global growth lost a little bit of steam. Second, global growth diverged. Even though ex-U.S. growth momentum waned, the United States continued to pick up. Now there are some tentative signs that the mild growth slowdown may have reached its bottom.
J.P. Morgan’s Global Purchasing Manager Index (PMI) rebounded in April after falling in March. The Baltic Dry Index, which measures raw materials’ shipping costs globally, peaked last December, but looks to have bottomed in early April. Emerging-market export growth, another way to get a read on the underlying strength of the world economy, also peaked early last year and has been modestly decelerating since then. Chinese exports picked up in April, but we’ll have to wait until more data is released to see if the broad slowing is over.
European economic data sharply disappointed in the first quarter. GDP grew 1.7% versus 2.7% in the fourth quarter. Business surveys broadly declined as well. But, things may be looking up. The dramatic declines in PMIs that started earlier in the year likely ended in April. The manufacturing PMI declined 2.0 points from February to March, but declined only 0.4 points from March to April. German industrial production picked up 1% in March, the best pace in four months. Italian industrial production also rebounded. and German exports gained ground in March too. We expect GDP growth to reach the 2.0% to 2.5% range. With growth set to rebound, investor and business sentiment should stop falling. Economic surprises, which plunged at the start of year, may have bottomed as well. Lastly, the recent weakness in the euro should help trade and sentiment.
Japan’s economy may have contracted in the first quarter. Wintry weather likely dragged down manufacturing and retail sales. The strength of the yen weighed on trade while export growth slowed. Now there are some signals of a turnaround. According to Cornerstone Macro, warmer than usual spring weather likely supports retail sales and housing. The PMI rebounded to 53.1 from 51.3 last month. Industrial production rebounded in February and March after collapsing in January. The Economy Watchers’ Survey Index improved in March and April after sharply declining in the first two months of the year. The labor market remains a strong support for domestic demand. In fact, wages grew 2.1% in March, the fastest pace since 1997. Going forward, we expect growth to reaccelerate to the 1.0% to 1.5% range for the year.
Global growth decelerated at the start of the year. Now that slowdown may be coming to an end. While we don’t expect growth to be as strong as 2017, growth should remain above trend for the rest of the year. Investors worried about a broad deceleration should be relieved. But going into 2019, the slowdown may wind up once again. At that point, higher interest rates could start to eat into corporate profits and growth.
Inflation in the United States has strengthened significantly in recent months. But a couple of the April measures lost steam. As discussed in last week’s commentary, average hourly earnings are flattening out. The Consumer Price Index (CPI) report released last week also broadly disappointed.
Headline CPI inflation increased 2.5% year-over-year, versus 2.4% year-over-year last month. But core, or ex-food and energy, inflation was soft, growing only 0.1% month-over-month. This means that the three-month annualized growth rate of core inflation declined from 2.9% to 1.8%. Less than 50% of the CPI’s subcomponents had accelerating year-over-year gains. Used car prices dropped by the most since 2009, recreation costs also declined by the most since 2009, and air fare fell the most in four years. Shelter inflation was up a robust 0.3% month-over-month. But, according to Societé Générale, without the gains in rent or owner-equivalent rent, core CPI would have declined month-over-month in April.
A lot of analysts expected core inflation to increase, especially because the base effects from wireless plan pricing rolled off the data in March. But, the latest CPI report showed that some wind has come out of core inflation’s sails. Fewer upward inflation surprises may constrain interest rates and keep the Federal Reserve on the path for two rate hikes this year instead of three.
Oil bulls have their day
Oil prices have increased in 2018, with West Texas Intermediate (WTI) finishing above $70 per barrel (/b) this week. That’s the highest since the collapse in prices that took WTI from above $100/b in mid-2014 to almost $20/b in early 2016. That’s surely a negative for economic growth because higher gasoline prices hurt consumers. However, the impact may be smaller than some expect. That’s because the oil industry could boost investment spending.
Rising oil prices have been thought of as a tax on consumers. Crude oil prices are the main determinant of gasoline prices, and drivers must buy gasoline. When the price goes up, less money is available for consumers to buy other products. However, it’s no longer the end of the story.
What about capex?
The U.S. oil industry is now the largest it’s ever been. Estimates from the Energy Information Administration (EIA) show that U.S. oil production was above 10 million barrels per day at the end of 2017. That’s more than at any point in U.S. history. The EIA expects production to grow further in 2018 and 2019.
Oil companies are now an important offset to the harmful effects of higher gasoline prices. Drilling for oil – and transporting, refining, etc. – is a hugely capital-intensive effort. An oil rig is essentially a construction site, and a refinery is a large manufacturing facility. Higher crude prices should bring more production, which should lift investment spending in GDP.
We’ll adjust our GDP forecast, if it’s impacted at all, in the monthly commentary. But we wanted to flag the positive implications recent oil price moves could have on investment spending in the United States.