The Bureau of Economic Analysis will report its advance estimate of 3Q17 GDP growth on Friday. The figures will be revised, but investors should be aware that hurricane effects are likely to distort many of the GDP components. Looking ahead, October releases, including the employment report, will soon begin to roll in, likely unwinding the hurricane impact on the economic data. In other news, we now have some legislative progress on tax cuts. However, much of that may be already factored in. Foreign trade policy and Federal Reserve personnel decisions are important near-term risks to the outlook.
Hurricanes Harvey and Irma have distorted many of the economic data releases, but the impacts are transitory and should unwind without any significant effect on the underlying trends. Weekly claims for unemployment benefits rose, as they do after every major hurricane, but have since fallen back. The headline claims figure recently dropped to its lowest level in 44 years, which may reflect noise in the data. However, the September payroll data showed a large hit to travel and leisure in September, and Irma may have pulled forward seasonal job losses (which reflect the end of the summer travel season). If that’s the case, adjusted payroll figures could be a lot higher in October. Note that, beyond the hurricane effects, the tightness in job market conditions appears to be having an impact on economic growth. The Fed’s Beige Book, the summary of anecdotal reports from around the country, noted that worker shortages were “restraining business growth.”
Consumer spending growth had been on a soft trajectory in the third quarter (positive, but not very strong). Motor vehicle sales, which had been trending lower this year, jumped sharply in September, enough to lift the pace of consumer spending growth in 3Q17. However, the surge in vehicle sales was due to inventory clearance promotions, and is not expected to be repeated. Retail payrolls have been weakening since the start of the year. Some of that may be due to the continued rise in online sales, but it also may reflect increased balance sheet strains for low- and middle-income households (higher rents and healthcare costs, among other issues).
Business fixed investment was strong in the first half of the year. A large portion of that was the recovery in energy exploration. Oil and gas well drilling is capital intensive. The contraction that followed the drop in oil prices from late 2014 subtracted from overall GDP growth. The rebound added to business structures and GDP growth in the first two quarters of 2017. Hurricane Harvey restrained oil and gas well drilling in August and September, which should limit the 3Q17 GDP contribution from business fixed investment (expected to be positive, but not as robust as in the first half of the year).
The Federal Reserve’s September report on industrial production showed a sharp downward revision to figures for July. As a consequence, factory output fell at a 2.1% annual rate in the third quarter. That’s a sharp contrast to the strong ISM manufacturing survey results reported in September.
The increase in vehicle sales will reduce inventories, but the hurricanes will add, making it difficult to gauge the overall contribution to 3Q17 GDP growth (in addition, one also needs to consider price changes in the inventory calculation).
If, as expected, the monthly data show an unwinding of hurricane effects, any distortions in the 3Q17 GDP figures should unwind in 4Q17. However, the underlying trend is expected to be largely the same. Moreover, job market constraints are expected to become even more binding in the quarters ahead, limiting the pace of GDP growth
Last week, the Senate passed it budget plan, which paves the way for tax cuts. The Council of Economic Advisors is pitching this as a middle-class tax cut, but the analysis has come under criticism from economists on the right and the left. We’ve seen some of this misdirection in the past. There’s a big difference between the average tax cut and the median tax cut (what a typical worker would see). The CEA argues that corporate tax cuts will lift wages by $4,000 per year, but it’s hard to see how given that we are already at or near full employment.
Initial negotiations on the North American Free Trade Agreement began last week. If we nibble around the edges, changes to NAFTA need not be too disruptive, but tearing up major portions (or all) of the agreement would prove to be destabilizing to a number of industries.
The “Trump agenda” has had three parts. The infrastructure spending plan is nowhere to be found. Tax cuts appear to be on the way, although this will be a far cry from large-scale, revenue-neutral tax reform. The third part is regulatory reform. Beginning with President Carter, regulatory policy has been based on cost benefit analysis. For Democratic administrations (Carter, Clinton, Obama), the question has been whether benefits meet the costs. For Republican administrations (Reagan, Bush), the benefits needed to vastly exceed the costs. The Trump administration has thrown all that out. Any new regulation requires that two other regulations be eliminated.
The choice of Fed chair is reported to have been narrowed to five candidates. Gary Cohn is not a monetary policy expert. John Taylor and Kevin Warsh are seen as hawkish. Jerome Powell is low-key and competent, and would be a welcome choice for the financial markets. A Yellen reappointment would provide stability to the markets. A decision is expected by November 3. Who will it be? Your guess is as good as mine.
The opinions offered by Dr. Brown should be considered a part of your overall decision-making process. For more information about this report – to discuss how this outlook may affect your personal situation and/or to learn how this insight may be incorporated into your investment strategy – please contact your financial advisor or use the convenient Office Locator to find our office(s) nearest you today.
All expressions of opinion reflect the judgment of the Research Department of Raymond James & Associates (RJA) at this date and are subject to change. Information has been obtained from sources considered reliable, but we do not guarantee that the foregoing report is accurate or complete. Other departments of RJA may have information which is not available to the Research Department about companies mentioned in this report. RJA or its affiliates may execute transactions in the securities mentioned in this report which may not be consistent with the report's conclusions. RJA may perform investment banking or other services for, or solicit investment banking business from, any company mentioned in this report. For institutional clients of the European Economic Area (EEA): This document (and any attachments or exhibits hereto) is intended only for EEA Institutional Clients or others to whom it may lawfully be submitted. There is no assurance that any of the trends mentioned will continue in the future. Past performance is not indicative of future results.
© Raymond James
Read more commentaries by Raymond James