Category: Uncategorized

By Paul Gomme and Peter Rupert

The BEA announced that real GDP for 2023Q3 rose 4.9% on an annualized basis, according to the advance estimate. This was the highest reading since the pandemic-related data in 2021Q4. Economists surveyed by Dow Jones expected 4.7%. Consumers continued to spend: real personal consumption expenditures increased 4.0% with consumption of durable goods increasing 7.6%.

Real domestic private investment rose 8.4%. Residential investment rose 3.9% after falling for 9 straight quarters.

Real government consumption spending continued to rise, with Q3 increasing 4.6%, the fifth consecutive quarter of increases after five consecutive quarters of decline.

One way to parse GDP growth is to compute the contributions made by its constituent parts. For example, in 2023Q3, real investment rose 8.4% on an annualized basis, far higher than GDP (4.9%). The contribution of the growth in investment is computed by taking its growth rate and weighting (multiplying) by investment’s share of output. The result is that investment contributed 1.5 percentage points to the 4.9% growth in output. The remaining major components are summarized in the figure below. The largest contributions to the headline 4.9% output growth were consumption at 2.8 percentage points, and investment, 1.5 percentage points.

The figure above can also be used to dissect the increase in GDP growth, from 2.1% in Q2 to 4.9% in Q3. By far, the largest contributor to this 2.8 percentage point increase in output growth was consumption at 2.2 (= 2.8 – 0.6) percentage points. Exports also made a sizable contribution, 1.8 (= 0.7 -(-1.1)) points, which was more than offset by that of imports, -2.1 (= -0.9 – 1.2) points. The contributions of investment (0.6 points) and government (0.2 points) were more modest. It is of interest to note that while some in the media talk about the decline in consumer confidence surveys, consumers were the largest contributors to the Q3 growth.

The personal consumption expenditure (PCE) price index climbed to 2.9%, up from 2.5% in Q2, the lowest readings since 2020Q4. In a sense, this uptick in inflation as measured by the PCE price index is old news: this series is also reported monthly, and our recent post on this index already noted that this measure of inflation, measured at the three month horizon, has been moving up and away from the Fed’s 2% inflation target.

Bottom Line

GDP growth was broadbased and the economy continues to defy the doom crowd. PCE inflation has moderated of late while consumption and investment show considerable strength. Will we enter a recession? You bet, see the graph below. When? Who knows…no one has been able to consistently forecast turning points.

The data remain unconvinced that we are currently in recession territory.

The recently released CPI (Consumer Price Index) numbers for September are a bit of a mixed bag for the inflation outlook. Our preferred 3-month annualized change in CPI rose from 4.0% in August to 4.9% in September. However, the monthly inflation rate fell from 7.8% to 4.9% at an annual rate. On a year-over-year basis, CPI inflation was essentially unchanged at 3.7%.

Those who prefer core CPI also confront a mix. On a 3-month basis, core CPI inflation rose form 2.4% to 3.1% (annualized) and the monthly inflation rate was up from 2.4% to 3.1%. On the other hand, the 12-month inflation rate was down from 4.4% to 4.1%.

Producer Price Index (PPI)

October 11 saw the release of PPI data for September. While the monthly rate of PPI inflation fell, from 9.4% to 6.3% at an annual rate, the 3-month rate rose from 5.6% to 7.7% while the 12-month change was up modestly, from 1.9% to 2.2%.

For what it’s worth, the monthly change in the personal consumption component of PPI fell from 39.2% to 16.9% (annualized) while its 3-month inflation rate rose from 15.2% to 19.3% (also annualized). On an annual basis, this measure of inflation rose from 1.4% to 2.1%.

Policy Implications

To be sure, there is good news from the CPI report: On a monthly basis, overall CPI inflation is down while the annual inflation rate is unchanged. Core CPI inflation is down at on an annual basis, but not at shorter horizons. However, both CPI and core CPI inflation are running hotter than the Fed’s 2% inflation target (granted, for (core) PCE inflation). PPI inflation tells much the same story as CPI inflation: down on a monthly basis, but up when measured over longer horizons. However, it’s not clear that PPI inflation signals future CPI inflation — particularly for the PPI for personal consumption. It seems unlikely that the PPI and CPI releases for September will change policyholders’ predilections.

By Paul Gomme and Peter Rupert

The BLS announced that total nonfarm payroll employment increased 336,000 of which 263,000 came from the private sector as the government sector added 73,000 more workers. In addition, revisions to the two previous months increased employment by another 119,000.

This was a very strong jobs report that seems to have taken those prone to making predictions by surprise:

Economists surveyed by Dow Jones expect that September will show a 170,000 net gain in nonfarm payrolls.

CNBC

Looking back at the January 472,000 number (was 517,000 before revisions) here is what economists forecast:

The January jobs report showed nonfarm payrolls increased by 517,000, far higher than the 187,000 market estimate.

CNBC

Evidently, forecasting the US economy, or any economy for that matter, is not a simple task.

Total nonfarm employment has rebounded strongly from the depths of the pandemic and is now close to where it would have been had it stayed on the trend line post Great Recession.

The service sector added the bulk of jobs, up 234,000; 96,000 coming from Leisure and Hospitality that was obviously slammed during the pandemic and is still below its pre-pandemic level by 184,000 employees.

Average weekly hours remained at 34.4 and so the increase in total hours of work came solely from the new employees. Average hourly earnings increased from $33.81 to $33.88.

The household survey was remarkable as there was very little movement in any measure. Employment increased by only 86,000, there was no change in the employment to population ratio (60.4) or in the unemployment rate (3.8%).

Looking forward, it appears that what policy makers consider “inflationary pressures” are still hanging around given the strength of the labor market and the overall economy pretty much running on all cylinders. Although many of the price numbers have declined they still remain above the Fed’s 2% target indicating that more weight is likely being put on another rate hike than a continued pause.

On September 29, the BEA released data for the August PCE price index. On an annual basis, PCE inflation was up marginally, from 3.4% in July to 3.5% in August. More concerning: the annualized monthly inflation rate rose from 2.6% to 4.8%. Even our preferred 3 month measure is up, from 2.0 (the Fed’s stated target value) to 3.1%.

Of course, our loyal readers know that the Fed focuses on core PCE inflation which excludes the volatile food and energy components. By this measure, the outlook is decidedly brighter: The annual inflation is down from 4.3% in July to 3.9% in August. At an annual rate, the monthly inflation rate dropped from 2.6% to 1.8% (below the Fed’s target). Finally, the somewhat smoother 3 month inflation rate also fell, from 2.7% to 2.2%.

What are we to make of this? First, this reading on inflation is nearly a month old. CPI inflation, released 2 weeks ago, already told us that August inflation was up. So, the PCE numbers are hardly a surprise.

Second, while we’re not big fans of core or even supercore inflation measures, there is useful information to be had by looking at these other measures. In particular, the increase in overall inflation is driven in part by higher food and energy price inflation. To the extent that these increases are driven by transitory factors (the reason to look at core or our 3 month average in the first place), the increase in overall inflation in August may prove ephemeral.

Was it wise for the Fed to hold rates steady at their last meeting? Certainly the headline number makes it more difficult to discern the underlying trend in inflation; however, the core measures have all come down. Given that the Fed looks past some of the transitory measures, it seems the core measures have responded to the rate increases.

August CPI

At an annualized rate, monthly inflation as measured by the Consumer Price Index (CPI) rose 7.8% in August, up from 2.0% in July. Our preferred measure of trend CPI inflation (the 3-month annualized) increased from 1.9% in July to 4.6% in August.

While we prefer to look at the overall CPI when looking to its trend, others prefer to look at core CPI inflation. Excluding food and energy, monthly inflation rose from 1.9% in July to 3.4% in August. However, the 3-month core CPI inflation rate actually fell, from 3.1% in July to 2.4% in August

What to make of all this? CPI inflation in August is up and well above the Fed’s 2% target for inflation. Comparing the overall CPI inflation with core CPI inflation shows that part of August’s increase in inflation is due to food and energy. The BLS specifically pointed to gasoline prices and the cost of shelter. Some commentators look at so-called `supercore’ CPI inflation, and that some of these supercore measures specifically exclude the cost of shelter. (What’s the end game for all these core measures? Will commentators be watching the price of bananas?)

August PPI

Producer Price Index (PPI) inflation for August similarly accelerated, from 4.9% in July to 9.3% in August (annualized monthly percent changes). The 3-month annualized PPI inflation rate also increased, from -0.1% (July) to 4.3% (August).

Looking instead at the PPI for personal consumption paints a more alarming picture: its monthly inflation rate rose from an annualized 4.3% in July to 40% in August! Its 3-month annualized counterpart also shows a marked increase, from -6.1% (July) to 15.4% (August).

It seems intuitive that producer prices should, eventually, be reflected in consumer prices. Looking across many years of data, the pattern that emerges is simply that inflation rates tend to move together. It seems difficult to make a case that higher PPI inflation is the harbinger of higher CPI inflation.

PCE for July

The PCE price index is released nearly a month after the CPI, and so August PCE inflation is not yet available. At an annualized rate, monthly PCE inflation rose slightly from 2.5% in June to 2.6% in July. On the other hand, the 3-month annualized PCE inflation rate fell from 2.5% (June) to 2.1% (July). Core PCE inflation shows a similar pattern.

Policy Outlook

Fed watchers know that its preferred measure of inflation is the PCE. The key question is: Will the large increases in CPI inflation in August also show up in the PCE inflation measures? It’s tempting to think that they must since the prices of individual items used in these indices are, presumably, essentially the same – the chief difference, then, being the weights associated with the prices of individual items. While PCE inflation generally tracks both CPI and core CPI inflation, these various measures of inflation exhibit considerable disparity.

Will the Fed take a pause, or continue raising its target for the Federal Funds Rate? If we knew the answer to this question, we’d probably be working on Wall Street. Answering this question probably means getting inside the heads of the voting members of the FOMC. Do they think that inflation is continuing to trend down? Or are the August CPI and PPI numbers the harbinger of an increase in inflation that needs to be nipped in the bud? Does the FOMC wish to avoid getting “behind the curve” as seems to have happened during the pandemic when they kept repeating that it was likely that the inflation was transitory due to supply chain issues?

By Paul Gomme and Peter Rupert

The BLS announced that the all items CPI increased 0.2% over the month and 3.2% year over year. It is interesting to observe the various measures of “inflation” that appear in the media. For example, Bloomberg highlights the monthly change:

CNBC highlights the year over year change:

A New York Times columnist spotlights food prices:

Of course there are many others including the median CPI, trimmed mean CPI and the new “supercore” measure. What all of these analysts are trying to decipher is whether “inflation” has slowed enough to warrant a pause in the FED’s tightening spree. While there are many ways to parse the underlying data, such as the cost of eggs, milk and chicken, the preferred measure of the Econsnapshot is to look at the CPI over a 3-month horizon. Month to month the data is very volatile (hence the notion of core CPI that removes two very volatile components, food and energy) and year-over-year is very slow moving. As seen in the graph below, the annualized 3 month inflation is a bit under the FED’s 2.0% target at 1.9%. The year-over-year ticked up slightly.

The BEA recently released the July PPI (Producer Price Index). While the annualized one month change popped up from -0.5% to 3.6%, this series is very noisy; the annualized 3-month change came in at -0.2% for July, up from -0.6% in June.

In our May post on prices, we noted that the BEA points to the PPI for Consumption Expenditures as being closest in coverage to the CPI. Over the past three months, the annualized growth in this index was -6.8% indicating that by this measure, consumer prices are falling. Looking back a year, the index grew at a rate of -2.7%.

However, as we noted in May, there does not appear to be a very tight relationship between the growth of either of the PPI measures and either the CPI or core CPI.

Both the CPI and PPI measures point to a moderation in prices. Given that, it seems likely that the Fed will take a pause and let the economy speak a little more before a move in either direction.

By Paul Gomme and Peter Rupert

The BEA release of the advance estimate of Q2 Real GDP showed an increase of 2.4% at a seasonally adjusted annual rate. The BEA noted:

The increase in real GDP reflected increases in consumer spending, nonresidential fixed investment, state and local government spending, private inventory investment, and federal government spending that were partly offset by decreases in exports and residential fixed investment. Imports, which are a subtraction in the calculation of GDP, decreased.

Bureau of Economic Analysis, July 27, 2023

The 1.6% increase in Personal Consumption Expenditures (PCE) represented nearly half of the contribution to overall growth, due to the fact that consumption is about 70% of total output. Real non-residential fixed investment increased 7.7% while real residential fixed investment declined 4.2%.

On a year-over-year basis, inflation as measured by the Personal Consumption Expenditures Price Index is the lowest since mid-2022, rising 3.0%, a full percentage point over the Fed’s 2% target. However, as emphasized in earlier posts to this blog, year-over-year measures are quite sluggish. Our preferred measure, the 3-month annualized inflation rate, is 2.5% in June, slightly higher than the 2.3% recorded in May. For what it’s worth, the 1-month annualized PCE inflation rate in June was 2.0%, up from May’s 1.5%.

As an aside, it seems curious to us that commentators are quite comfortable annualizing quarterly growth rates (as emphasized by the headline numbers for GDP growth), but are reticent to do the same with price data (for which headlines compute 12-month growth rates). Perhaps consistency is too much to ask.

What’s significant is that output growth accelerated from 2.0% in the first quarter of 2023 to 2.4% in the second quarter. In this context, the BEA’s discussion of the second quarter, quoted above, is strange. The BEA focused on the fact that GDP increased, listing off the major components that contributed to this increase (consumption, investment, government spending and imports) while noting those that detracted from the increase (exports and residential investment); see the following table.

But why did output growth increase? The answer lies principally in the swings in investment and imports growth. Investment growth rose from -11.9% to 5.7%, transforming it from a drag on output growth to a contributor. Drilling deeper into investment, the growth rate of residential investment was largely unchanged (-4.0% to -4.2%). The big increase in non-residential investment growth was driven principally by investment in equipment, rising from -8.9% to 10.8%. To be sure, the growth in non-residential structures was very strong (9.7%), but it grew even faster in the first quarter (15.8%).

The growth rate of imports fell from 2.0% to -7.8%. However, since imports enter with a negative sign in the output identify, Y=C+I+G+X-M, the lower growth rate of imports contributed positively to output growth.

As noted by the BEA, growth of exports was negative in the second quarter (-10.8%) while it was positive in the first quarter (7.8%). While growth of consumption and government spending were both positive, their growth rates fell which has the effect of lowering quarter two output growth relative to the first quarter.

Overall, the strong growth in GDP coupled with the subdued (though still above the 2% target) price change shows a still-resilient real economy that is disregarding the increases in the Fed Funds rate. Based on available data, it is hard to make the case for a nascent recession in the U.S.

Personal Income

On Friday, the Bureau of Economic Analysis released personal income data. Real personal income growth fell from 8.5% in the first quarter to 2.5% in the second (both at annualized rates).

Disposable income data is also available on a monthly basis. The chart below shows that the first quarter was driven by very strong growth in January (21.9%) while the second quarter was hampered by negative growth in April (-0.4%).

Employment Cost Index

On Friday, the Bureau of Economic Analysis also released updated employment cost index data. Growth in the wages and salaries component fell from 4.9% in the first quarter to 4.1% in the second.

Overall, the current data suggest that the real economy continues to chug along at a respectable clip and the price numbers indicate that Fed policy is helping push down inflation. The Fed has indicated that the round of tightening is not yet over and the strength of the real economy gives no reason to alter that view.

By Paul Gomme and Peter Rupert

The BLS announced the CPI and PPI for June. The CPI rose 0.18% from May to June on a seasonally adjusted basis, 2.18% when annualized, and was up 3.1% year over year. Rather than strip out a lot of goods that comprise the CPI, we look at the CPI on a three month average basis. As shown in the graph, the year over year continues to decline while both the annualized monthly and the 3 month ticked up slightly. The CPI-X (ex food and energy) differs, however. The annualized monthly rate grew 1.91%, below the Fed’s 2% target.

Of course, the question the Fed faces comes down to: What has been happening to the trend in inflation? Given the 2% target, the Fed hopes to see progress toward that goal. But, as we have commented on in several previous posts, what measure of inflation is the best indicator? Headline CPI (PCE)? Core CPI (PCE)? The Fed’s new Supercore CPI (PCE) (the price of services excluding energy and housing services)? Paul Krugman (NYT, July 11) has his own measure of supercore: “My preferred measure these days is “supercore,” which excludes food, energy, used cars and shelter (because official measures of housing costs still reflect a rent surge that ended a year ago.)” And goes on to say he is not a fan of the Fed’s measure, “The Fed has a different measure of supercore — non-housing services — but when you look at the details of that indicator, it’s a dog’s breakfast of poorly measured components that I find hard to take seriously.” Here is a graph of the Fed’s supercore measure:

So what are we to make of all of this? The main problem is that all of these measures are purely arbitrary; there is no underlying theory as to how, or what to measure. The BLS states, “Inflation can be defined as the overall general upward price movement of goods and services in an economy. The U.S. Department of Labor’s BLS has various indexes that measure different aspects of inflation.” These new so-called supercore measures omit various categories of goods that are purchased in the market. The overall CPI is comprised of 243 commodities and services measured in 32 different geographic areas. To show just how big these omissions are, the following table recreates a subset of the BLS table where the relative importance is the share of total expenditure used to weight the respective change and the May 2023-June 2023 column gives the monthly change:

The table above shows that the core CPI includes about 79.7% of all expenditures. Removing shelter from the core means the price measure includes only 45% of the things we buy. If only services prices are included that would vastly reduce the set of prices used to calculate inflation.

The BLS announced that the Producer Price Index (PPI) for final demand increased 0.1% from May to June or 1.65% annualized. Year over year it increased 0.24%. Our 3 month measure fell -0.69%, the third consecutive month with a decline.

Trend Inflation

What we (the writers of this blog) mean by “trend inflation” is a series that tracks the movements of actual monthly inflation but somewhat smoothed (taking out the more extreme fluctuations). As we’ve discussed before, this is a signal-extraction problem. Every month, we get a new CPI number from which we want to make an inference concerning the current trend inflation rate. Trend inflation is the “signal”. However, the news (the new CPI number) is a noisy indicator of this signal, both because the CPI is reported in levels and because of transitory factors affecting monthly inflation. Further, the nature of the data is such that we cannot easily extract the signal (trend inflation) from the data. With all of this in mind, the reason for looking at core or supercore CPI inflation is that it has a higher signal-to-noise ratio than CPI inflation. Both seem promising in that they omit the more volatile price components of CPI: in the case of core CPI, food and energy; in the case of super core CPI, lots of other stuff. However, the charts above show that over the past couple of years, core CPI inflation has been running well above actual CPI inflation while the Fed’s supercore inflation has been well below actual.

An alternative to slicing and dicing CPI is to compute inflation over a horizon longer than a month. The idea in this case is that the monthly noise is an independent draw (in the jargon of economics, it’s independently and identically distributed) while trend inflation has memory and changes relatively slowly over time. Consider headline inflation. Typically, it’s calculated as the 12 month percentage change in the CPI. But a different way to think about this calculation is as the average of the 12 one month inflation rates. If there is no change in trend inflation over this period of time, the 12 noise terms will have a mean of roughly zero, and the year-over-year inflation rate will provide a good estimate of trend inflation. The rub is that there have been changes in trend inflation over the past couple of years. Consequently, the year-over-year inflation rate also takes an average of trend inflation over the past year. This is why, in the chart above, year-over-year inflation has consistently exceeded the monthly inflation rate for the last year and a half.

But there’s nothing magic about year-over-year inflation rates, and we’ve previously advocated for annualizing the three month inflation rate as a good compromise between capturing changes in trend in a timely fashion, and seeing through the noise in monthly inflation rates. By construction, the three month inflation rate tracks movements in monthly inflation while removing much of the noise – as can be seen in the chart above. One thing that the three month inflation rate lacks is a fancy name like supercore; oh, and the NYT soap box.