Payroll employment rose 175,000 in February, with a little more than a third of the gains in business services, including temporary hires. The weather imprint was also evident in the composition of employment gains, with the leisure and hospitality sector adding jobs because those of us who could, migrated to ski resorts and sunny destinations, Read More
Real GDP was revised down to a 2.4% annual rate from an initial estimate of 3.2% in the fourth quarter. Consumer spending showed less momentum than initially reported, while underlying inflation ran a little hotter than initially reported. Exports were also weaker; inventory accumulation was not as large as initially reported (which at least means less to liquidate in the first quarter) and spending by state and local governments contracted.
On the bright side, business investment was revised up substantially, as companies scrambled to take advantage of expiring tax incentives for new equipment purchases. Imports were also a little weaker than initially reported although there is concern that we will see more competition from imports, particularly in the vehicle industry from Japan and Korea as we move into 2014. When I walked the floor of the Chicago auto show and saw the extraordinary pricing advantage some foreign producers now have over domestically made vehicles, it felt like slipping back in time; at least now, we are competing better on quality, something that seemed to fall on deaf ears in my Michigan-based, auto industry family during the 1980s.
The stage is set for even weaker first quarter growth as everything, from unusually severe winter weather to the overhang in inventories, takes a toll on overall growth. As Federal Reserve Chair Janet Yellen underscored in her testimony before the Senate Banking Committee on Thursday, we can’t be sure how much of the weakness we are currently seeing can be attributed to the weather and how much is more fundamental. The recent weakness in existing home sales is particularly worrying, given the sharp drop in first-time home buyers, who are the backbone of any strong housing market. That said, we are beginning to see where the catch-up from poor weather is likely to occur. Disney World raised prices in February, four months earlier than last year, as bookings for sunny vacations surged in response to the harsh cold and snowy conditions so many of us have had to endure this winter. Demand for batteries, car parts and tires has also picked up in response to weather damage. The potholes are some of the worst I have ever seen and doing substantial damage to tires. This is to say nothing of the pent-up demand created by months of hibernation and an inability to walk dealer showrooms or look for new homes. Vehicles sales and construction activity are expected to be particularly strong once spring temperatures return, whenever that may be. We are still stuck in the Polar Vortex in Chicago.
Bottom Line: We are likely to remain in the cold on how well the underlying fundamentals of the economy are holding up until April at the earliest. That Federal Reserve, however, has to make a decision about policy at the end of March. The most likely scenario is that the new chair stays the course and the Federal Open Market Committee (FOMC) votes to continue tapering asset purchases at a pace of 10$ billion per month. A very disappointing employment report could shave pace of tapering to $5 billion in treasury bonds only, but that still seems a long shot. The Fed is growing increasingly uncomfortable with the risks associated with the size of its balance sheet and would like to rely more on communications, or “forward guidance,” than asset purchases to anchor long-term rates.
Durable goods orders fell 1% in January from December, but all of that weakness was concentrated in the volatile transportation sector. Durable goods orders ex-transportation rose 1.1% in January after being revised down in December. Moreover, most of the drop in transportation orders was concentrated in aircraft orders which have very long lead times. Vehicle orders were also down, but that is more reflective of unusually harsh winter weather than waning demand. Few people walked dealer showrooms in January, but a surge in vehicle scrap rates over the winter is fueling pent-up demand for vehicles and setting the stage for a substantial snap back in sales this spring.
Capital goods orders excluding aircraft and defense, which more closely track business investment, rose 1.7% in January, after downward revisions to December. Communications equipment showed some strength which could mean more investment in productivity enhancing information technology. Shipments in the same category were off a bit after posting gains at the end of the year, which means that it may take until the second quarter to see a rebound in actual business investment.
Bottom Line: Upside surprises are welcome news even when they are accompanied by downward revisions. They confirm that the weather deferred but didn’t destroy economic activity. Indeed, damages created by the weather may have even added to pent-up demand. Underlying strength in the economy, however, remains less than stellar at the start of the year.