US Economy – June 2013

In general, the US economy is continuing to recover, with improving consumption supported by a healing labour and housing market. Some weaker-than-expected signals from the manufacturing sector, however, have recently underscored the fact that recovery remains fragile and that challenges lie ahead. A relatively significant uncertainty is still the outcome of fiscal negotiations in Congress, first on the budget for 2014 and second on the subject of the debt ceiling; these have been postponed so far and are expected to re-emerge somewhere in the second half of the year.

The impact of the fiscal contraction — which is estimated to drag down GDP by around 1.5% this year, according to the non-partisan Congressional Budget Office (CBO) — might be lower next year, but uncertainty remains. This has already and may continue to influence investment into the economy by what is actually a very cashrich business sector, which is still relatively reluctant to invest on a larger scale.

The biggest topic of the past weeks has been the potential of the Federal Reserve Board (Fed) to decide to reduce extraordinary monetary measures. After the Fed’s chairman mentioned this possibility in his congressional testimony, capital markets around the globe reacted largely negatively, since the current momentum in equities and bonds is significantly supported by the monetary policy of the large central banks. He stated that given the low inflation expectations, the magnitude of improvement in the labour market will be the guiding principle for any changes in monetary supply. May’s labour market numbers seem to be ideal in the sense that while they improved, they did not signal a swift recovery, hence seeming to guide the Fed not to withdraw its extraordinary monetary supply very soon.

Moreover, the Fed had reconfirmed that it will continue to keep its monetary policy accommodative as long as required.

The most recent labour market report provided mixed signals, showing a slight increase in the unemployment level to 7.6% from 7.5% over the last month, although other important indicators improved. Non-farm payrolls rose considerably again by 175,000 in May after climbing 149,000 in April. The share of long-term unemployment declined to its lowest level since November 2009 to 37.3%, slightly lower than the April number of 37.4%. With improvements in the labour market, consumer confidence has also started to increase. The consumer confidence sentiment index of the Conference Board moved from 69.0 in April to 76.2 in May, the highest indicator level since March 2008. The other very important University of Michigan consumer sentiment indicator recorded a similar change, improving to 84.5 from 76.4 in April. The May level is the highest since August 2007.

While this paints an encouraging picture, the manufacturing sector is still feeling the drag from fiscal consolidation and it should therefore be expected that the economy’s momentum will continue to remain below growth potential. The purchasing manager’s index (PMI) for the manufacturing sector, as provided by the Institute of Supply Management (ISM), declined again to 49.0, pointing to a contraction in this important sector. Moreover, relative weakness in the manufacturing sector has been confirmed by manufacturing order numbers — also a very important lead indicator — which increased only slightly by 0.6% y-o-y in April, after seeing a decline of 1.3% in March. The ISM for the services sector — which constitutes more than two-thirds of the economy — increased to 53.7 in May from 53.1 in April.

The very important housing sector improved significantly over the past months, and while momentum has been slower recently, the trend is still improving nicely. After pending home sales rose by 1.5% m-o-m in March, they again posted a slight increase of 0.3% in April, according to the National Association of Realtors. Pending home sales are considered a leading indicator of progress in real estate because they track contract signings. Positively, the Federal Housing Finance Agency (FHFA)’s yearly house pricing index change has continued on its upward trend with a monthly price rise of 7.2% y-o-y in March, following 7.1% y-o-y in February, the largest increase since June 2006.

This year’s fiscal drag is forecast to lead to muted growth in 2013. GDP is expected to expand by 1.8%, unchanged from the previous month’s estimate. While the positive trends in the labour market and the housing sector are encouraging, it remains to be seen if the momentum will continue. Currently, it is too early to consider an upside, particularly in the face of ongoing fiscal uncertainty.