On November 30, the Bureau of Economic Analysis (BEA) released PCE (Personal Consumption Expenditure) data for October 2023. The BEA notes a small monthly change in the PCE deflator (0.6% at an annual rate, down from 4.5% in September), and that the 12-month PCE inflation rate came in at 3.0% (down from 3.4% in September). These numbers largely mirror the earlier CPI (Consumer Price Index) release: the annualized monthly change fell from 4.8% to 0.5%; the 12-month rate from 3.7% to 3.2%. We prefer to look at the 3-month annualized inflation rate which also fell, from 3.7% to 3.2%; CPI inflation fell from 4.9% to 4.4%.
The cognoscenti know that the Fed’s preferred inflation measure is so-called core PCE inflation (taking out the food and energy components). By this measure, the monthly inflation rate fell from 3.8% to 2.0%, a larger decline than recorded by core CPI (3.9% to 2.8%). The 12-month inflation rate fell by 0.2 percentage points, to 3.5%; core CPI inflation fell by 0.1 percentage point to 3.0%. While our preferred 3-month annualized inflation rate fell, it was essentially unchanged at 2.4%. In contrast, the 3-month annualized change in core CPI rose in October, from 3.1% to 3.4%
In summary, the PCE inflation numbers for October confirm what was seen in the CPI inflation reported about two weeks earlier: inflation is down. How much depends on which series you focus upon. Keeping in mind that CPI inflation tends to run about 0.5 percentage points higher than PCE inflation, the data for October suggest that the US economy is approaching the Fed’s 2.0% inflation target.
Gross Domestic Product (Second Estimate)
On November 29 the BEA announced that real GDP for Q3 was revised up from 4.9% to 5.2%. While revisions to nonresidential fixed investment and state and local government spending were the leading causes of the increase, consumer spending was revised down.
Policy outlook
Given the continued decline in the inflation numbers and the continued strength in the output numbers, it appears the economy has digested the record increases in the Fed Funds rate without roiling the real side of the economy. There seems little doubt at this point that Fed policy is achieving its inflation reduction goal and may have reached the peak of the Fed Funds rate during this cycle. That is, nothing in the data points to the need for further increases in the rate and the market is suggesting some rate declines in 2024.
The BLS announced that payroll employment increased by 150,000 according to the establishment survey. As we have argued about inflation, the one month change can be quite volatile. Looking at the three month average change, the picture shows a slowing trend for employment growth. The private sector added only 99,000, meaning the the government sector was responsible for about 1/3 of the overall gain. The payroll numbers for the previous 2 months were revised down 101,000; down 62,000 in August and 39,000 in September.
Private sector average weekly hours fell from 34.4 to 34.3. That, along with the jobs number drove total hours of work down by 2.6%, that largest decline in over a year.
Private sector average hourly earnings rose from $33.93 to $34.00, a 0.2% increase. Real wages continue to rise as the year over year wage increase is outpacing CPI inflation.
The household survey data paints a slightly darker picture. Employment fell 348,000 and the employment to population ratio fell from 60.4 to 60.2. The labor force declined 201,000. The number of people unemployed rose by 146,000. Those changes combined to increase the unemployment rate from 3.79% to 3.88%. The unemployment rate for men has increased faster than that for women since the beginning of 2023.
CPI
On an annualized basis, monthly CPI inflation plunged from 4.9% in September to 0.5% in October. As we have previously noted, monthly inflation is extremely volatile. One way to smooth out these fluctuations is to look at the annual inflation rate which fell from 3.7% (September) to 3.2% (October). However, the 12-month inflation rate sluggishly reflects changes in underlying inflation which is why we prefer to look at the three-month inflation rate. The good news is that this measure also dropped, from 4.9% to 4.4%.
Others prefer to look at core CPI inflation (removing the volatile food and energy components). The annualized monthly change in core CPI inflation is down, from 3.9% to 2.8%; the annual core CPI inflation rate dropped marginally, from 4.1% to 4.0%. However, the three-month annualized core CPI inflation rate rose, from 3.1% to 3.4%.
Remember that we at econsnapshot prefer the annualized three-month inflation rate over both the monthly inflation rate (too noisy) and the annual (12-month) inflation rate (too smooth and sluggish). Those who look to core inflation measures presumably think that it’s a better measure of trend inflation. But, what exactly is trend inflation? A minimal requirement is that over longer horizons, it tracks actual inflation, sort of like drawing a line through the monthly inflation numbers. One issue with core CPI inflation is that it often persistently deviates from overall CPI inflation.
Policy Outlook
The employment report did little to suggest either an increase or decrease in the Fed funds rate at the next meeting. Employment growth shows a slight decreasing trend over the last year or so. For the most part, CPI inflation for October was down relative to September; however, it is still well above the Fed’s stated 2% target. Keep in mind that the Fed’s target applies to core PCE inflation, not CPI inflation. At the end of the month, the BEA will release the October PCE price index data. However, there’s useful information to be gleaned from the CPI numbers. Since 1990, headline CPI inflation and core PCE inflation have outstripped core PCE inflation by roughly half a percentage point. This suggests that CPI inflation of around 2.5% is consistent with core PCE inflation of 2%. That CPI inflation is down in October suggests that PCE inflation will also be down. Given the current levels for CPI inflation, it seems doubtful PCE inflation will be close to the Fed’s target. The case for further tightening of monetary policy is that inflation remains stubbornly above target. The case against lies in Milton Friedman’s observation that the effects of monetary policy operate with long and variable lags — suggesting that the Fed should wait to see whether they have already built in sufficient tightening. Only time will tell whether Jerome Powell will manage the elusive soft landing.
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.
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.
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.
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?
It was a pretty busy week for incoming data. Bottom line: The economy continues to reveal strong economic growth and maybe we have not “landed” at all, we are still flying.
Employment Situation
The BLS establishment survey showed that employment rose 187,000 in August. Although the gain was higher than in the previous two months, the June employment numbers were revised down by 80,000 and July down 30,000…employment was 110,000 less than previously reported entering August. The gain was less than the 271,000 average gain over the previous 12 months. Private employment gains led the charge at 179,000 with the service sector adding 143,000. The biggest gain came in health care, up 97,000.
Average hours of work increased from 34.3 to 34.4. That, combined with the 179,000 increase in private employment led to a large increase in total hours of work.
The household survey showed an increase in the unemployment rate from 3.50% to 3.79%. The number of people unemployed did rise by 514,000, however, there was also a 736,000 increase in the labor force. The labor force participation rate has been steadily increasing but is still below the pre-pandemic level. Basically, once the effects of the pandemic have receded there has not been much of a change in the reasons for showing up as unemployed.
Since the unemployment rate is the ratio of the number of people unemployed divided by the labor force (the number of people employed and unemployed), the unemployment rate can increase either because the numerator (the number unemployed) increased, or because the denominator (the labor force) decreased. Which one accounts for the 0.29 percentage point increase in the unemployment rate in August? According to the Household Survey, the number of unemployed rose by 514 thousand in August while employment rose 222 thousand. In other words, the labor force increased by 736 thousand. For August, the increase in the unemployment rate came about due to an increase in the number of individuals unemployed.
The figure below digs deeper into the labor market flows. The arrows reflect flows of people between employment (E), unemployment (U), and not-in-the-labor force (N). The change in employment is obtained by adding the numbers with arrows pointing into E, and subtracting the flows associated with arrows out of E: a net increase in employment of 146 thousand. This number is different from the 222 thousand obtained directly from the employment data from the Household Survey. The reason being that there are some additional inflows and outflows found in this table that have to do with adjustments to population, teenagers turning 16, etc. We can similarly compute the change in the number of unemployed by looking at the flows in and out of U: an increase of 512 thousand (rather closer to the actual change of 514 thousand obtained from the number unemployed with the adjustments). Relative to the flows in and out of unemployment, 512 thousand is not a huge number: the total flows (regardless of sign) sum to 6,180 thousand, and so 512 thousand is 8.3% of the total flows.
The charts below show that the number unemployed rose by 99 thousand due to an increased number of people out of the labor force moving into unemployment, by 75 thousand owing to a decrease in those transiting between unemployment and out of the labor force, by 175 thousand by virtue of more employed people becoming unemployed, and by 281 thousand as a result of fewer unemployed shifting into employment.
Job Openings and Labor Turnover Survey
The JOLTS data came out 8/29 and showed the number of job openings declined to 8.8 million in July from 9.2 million and 11.4 million in July of 2022. Having said that, the difference between the number of people unemployed and the available jobs are still much higher than any time pre-pandemic. The quit rate has come down somewhat, but, like the openings rate, still higher than its pre-pandemic level. One interpretation of the quit rate is that quitting and moving to better jobs helps one climb the job and income ladder. Said differently, quit rates fall during recessions as there are fewer opportunities to move. Layoffs remain very subdued as well. The rate of job hiring as fallen considerably over the past year or so and now back to the average rate since 2014 (excluding the pandemic).
Output, Income and Consumption
The second estimate for Q2 real GDP was released by the BEA on August 30, and showed a downward revision from 2.4% to 2.1%. Consumption was revised up from 1.6% to 1.7%.
While the downward revision in Q2 real GDP was not small, the monthly consumption data released on 8/30 by the BEA showed a large increase in consumption for July. Consumption expenditures increased 0.8% in current dollars (9.9% annualized) and 0.6% in chained 2012 dollars, the largest increase since January. The personal savings rate as a fraction of disposable income declined by nearly a full percentage point, from 4.3% to 3.5%
Takeaways
The data describe a growing economy with little, if any, signs of braking. Looking at the headline numbers and article titles, such as this in the 9/1 WSJ: “Job Gains Eased in Summer Months; Unemployment Increased in August,” might suggest a faltering labor market. However, a deeper dive into the underlying data suggests no such thing.
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.
The BLS announced the employment situation for July. The establishment data showed a 187,000 increase in total nonfarm employment, 172,000 of which was in the private sector. Private service producing employment gained 154,000. Employment gains in May were revised down by 25,000 to 281,000 while June was revised down by 24,000 to 185,000.
Roughly 1/3 of July’s employment gains were in health care (63,000); the rest was fairly evenly distributed across sectors. There were a few declines in employment: nondurable goods, transportation and warehousing, information, to name a few, but the largest came in temporary help services that has seen eight out of the last nine months with a decline.
Average hours of work fell from 34.4 to 34.3 and combining that with the smallish increase in employment led to a fall in total hours of work. Average hourly earnings rose by $0.14 to $33.74
The household survey data from the BLS revealed a 268,000 increase in employment and 116,000 fewer people unemployed. There was almost no change in the labor force participation rate and the employment to population ratio increased slightly. The unemployment rate declined from 3.57% to 3.50%.
The Jobs Openings and Labor Turnover Summary showed almost no change in the rate of job openings, hires and separations. The number of job openings is still much higher than the number of people unemployed. There are roughly 1.64 job openings for each unemployed person.
The fairly weak recent jobs data does not provide much guidance as to how the Fed might respond. Had the reports been very strong it would have likely given reasons to continue to jack up the funds rate. Conversely had the reports been really weak, a pause would be likely. The decision will become clearer as the price data come in.
