Year: 2023

Why the April Inflation Report Reinforces the Fed’s Plans to Pause Summer break appears likely as officials monitor effects of banking stress

Nick Timiraos has the Fed on pause:

(…) because it [the CPI report] showed price pressures aren’t worsening and might soon be slowing as muted growth in rental-housing costs feed through to official inflation gauges.

More important, Fed officials have focused more on the impact of recent banking-system strains, which will take time to slow economic activity, including hiring and inflation.

To be sure, inflation isn’t showing the kind of convincing slowdown that would quell central bankers’ anxieties about it running at more than double their 2% target.

But Fed Chair Jerome Powell said six months ago that, on their way to raising rates rapidly to a 16-year high, officials didn’t necessarily view a string of slower inflation readings as a prerequisite for a pause.

“We do need to see inflation coming down decisively, and good evidence of that would be a series of down monthly readings…But I’ve never thought of that as the appropriate test for…identifying the appropriately restrictive level that we’re aiming for,” he said at a news conference last November. (…)

Wednesday’s report showed inflation was 4.9% in April, down from a recent peak of 9.1% in June 2022. Core inflation, which excludes volatile food and energy prices and is seen as a better predictor of future inflation, was 5.5% in April, down from its recent 6.6% peak in September.

The Fed has hinted that at key turning points, however, the individual data releases aren’t as useful in determining what it will do at its next meeting. (…)

“We feel like we’re getting closer or maybe even there,” he said.

The Fed has hinted at greater caution in moving rates up because of the lagged impact of stresses in the banking system that resulted from the sudden failure of Silicon Valley Bank in mid-March, which contributed to the collapse of Signature Bank and First Republic Bank. Those strains are expected to tighten lending standards for a swath of the banking industry that serves many small and midsize businesses and real-estate owners.

Put differently, the Fed thinks it has a reasonable understanding of how interest-rate increases slow down the economy, but it doesn’t have the same comfort in forecasting a potentially sharper, bank-lending-induced slowdown. “It does complicate” matters, Mr. Powell said. “Credit tightening is a different thing.”

There were several other notable examples in how Mr. Powell hinted at the outlook last week:

• When discussing how Fed officials had stopped telegraphing future rate increases in their post meeting statement, Mr. Powell volunteered that this was “a meaningful change.”
• While some Fed officials have pointed to the so-called “separation principle” in which the Fed uses tighter monetary policy to combat inflation and emergency lending programs to address bank stress, Mr. Powell allowed that this approach “ultimately…has its limits.”
• Finally, Mr. Powell noted officials had raised rates by 5 percentage points, which he said gave them the luxury of waiting to see if they had done enough. “You’re going to want to see that a few months of data will persuade you that you’ve got this right,” he said. Then, Mr. Powell offered his view that “policy is tight.”

Those hints might have been subtle, but they were reinforced Tuesday when New York Fed President John Williams spoke at the Economic Club of New York. Each time Mr. Williams was asked whether the Fed had decided to pause, he demurred—but then offered up reasons that the Fed could, in fact, consider a pause.

While the Fed hadn’t decided on a pause, Mr. Williams allowed that “we’ve made incredible progress over the last year or so” in raising rates.

Instead of pointing to the importance of fresh data in determining the Fed’s next moves, he stressed the harder-to-quantify and even-more-lagged effect of tighter lending conditions. “Clearly it’s going to have an impact,” he said.

All of this adds up to a likely Fed summer vacation from raising rates at their June and possibly July meetings before deciding this September whether they have done enough to slow down the economy.

By then, officials could have a better understanding about how much trouble the banks face and whether the fallout will do enough—or even too much—to achieve the controlled slowdown of the economy and labor market that the Fed has been seeking.

So long data dependency.

A pause would be smart given what’s been done so far but the April CPI provided little comfort that the job is done.

• core CPI is stuck at 0.4-0.5% monthly increases since last December;
• core goods inflation has turned back up with +0.6% in April after 0.2% in March;
• core services came in unchanged at +0.4% after 0.6% in February;
• rent is showing no inclination to behave “as widely expected”: +0.6% in April after 0.5% and 0.8%;
• “All items less food, shelter, and energy” went from +0.2% in February to +0.3% in March and +0.4% in April;

True, used cars jumped 4.4% in April after 6 monthly declines and if you exclude them (2.6% CPI weight), “All items less food, shelter, energy, and used cars and trucks” inflation was only 0.2%, a nice number after +0.4% and +0.3% in the previous 2 months. Such micro analysis got most people and the whole FOMC in trouble in recent years, didn’t it?

If used car prices jumped as much may be because demand was strong.

The Cleveland Fed measures of median and trimmed-mean CPI are showing stability at a still uncomfortably high level.

BTW, the Cleveland Fed’s inflation nowcast for May is at +0.45% mid-month (core PCE at +0.38% vs +0.36% in April).

As to rent, which everybody see slowing enough to bring overall inflation below 3%, April’s +0.5% was a bummer:

Tuesday, Tricon Residential (36k single-family homes in the U.S. Sun Belt) updated investors with rent data through April 23 showing renewal rents up a steady 6.5% YoY compared with ~5% pre-pandemic. Tricon said that its demand indicators have been strong this year and even better in April. (CPI-rent is up 8.8% YoY in April reflecting the lags in the BLS data)

True, “super-core CPI” (core services ex-rent and OER) was only +0.11% in April vs its prior three-month average +0.42%. But such super-micro analysis can be myopic. Should we also exclude airfares which dropped 2.6% in April after rising 4.0% in March.

Importantly, energy has been very cooperative in the past 6 months but that may not last forever. Energy costs are high up there with wages for service providers. This chart shows the very tight correlation between wages and services inflation. Service providers are still in a catch up mode on both wages and energy.

When Mr. Powell says ““We feel like we’re getting closer or maybe even there”, beware of feelings, heed the data.

On the now widely expected credit crunch, the bi-weekly data of loans and leases trough May 3rd suggest there is no secondary wave to the SVB earthquake so far, even among small banks:

Deposits are still moving out of the banking system but post SVB trends are no worse than pre SVB:

Here’s Goldman’s rendition of the 6-m annualized rates:

Microsoft Freezes Salaries to Navigate Economic Uncertainty Yet another tech company is tightening its belt.

A Record Number of Canadians Are Trying to Restructure Their Debts

Consumer proposals, or alternative arrangements to settle debts with creditors, rose 36% from a year earlier, according to data released Wednesday by the Office of the Superintendent of Bankruptcy Canada. That brings the monthly total to 9,337, the most since at least 2011.

Total insolvencies, which also include bankruptcies, jumped to 11,768, the highest since the end of 2019. While that’s in part a rebound from near historically low levels, the jump may add to evidence that restrictive borrowing costs are starting to weigh on Canadian households as debt payments eat up a greater proportion of incomes. (…)

It’s also possible the larger share of proposals stays elevated relative to bankruptcies this time around. Canadian financial institutions are increasingly working with clients to renegotiate loan agreements, including extending amortization periods.

BoE raises key interest rate to 4.5% and forecasts higher inflation

China’s Weak Inflation, Borrowing Show Economic Recovery Waning

Consumer inflation weakened to a two-year low of 0.1% in April, the National Bureau of Statistics said Thursday, as food and energy costs eased. The figures were partly affected by the low base of comparison from last year. Producer prices fell 3.6%, largely due to lower commodity costs.

Core CPI, which excludes volatile food and energy costs, was unchanged at 0.7%, suggesting there’s very little demand-driven inflation in the economy. Food inflation weakened to 0.4% in April from 2.4% in March.

@C_Barraud

Separately, data from the People’s Bank of China showed credit and new loans were much worse than expected in April as consumers and businesses curbed their borrowing.

“China’s credit data came in well below estimates, reinforcing the concerns over the sustainability of post-Covid recovery,” said Zhou Hao, chief economist at Guotai Junan International Holdings Ltd. Overall growth momentum “has been slowing significantly,” he said. (…)

SoftBank Vision funds post record $39bn annual loss Tech conglomerate in ‘defence mode’ as it halts new investments and sells down Alibaba stake

NFIB

• Low and declining sales…

• …but not a major concern:

• Inflation still a concern…

• …but profits are improving.

• Inventories now in good shape.

• Employment needs fulfilled.

• Credit markets not worsening, actually improving a little in April

Wendy’s, Google Train Next-Generation Order Taker: an AI Chatbot

Wendy’s is automating its drive-through service using an artificial-intelligence chatbot powered by natural-language software developed by Google and trained to understand the myriad ways customers order off the menu.

With the move, Wendy’s is joining an expanding group of companies that are leaning on generative AI for growth.

The Dublin, Ohio-based fast-food chain’s chatbot will be officially rolled out in June at a company-owned restaurant in Columbus, Ohio, Wendy’s said. The goal is to streamline the ordering process and prevent long lines in the drive-through lanes from turning customers away, said Wendy’s Chief Executive Todd Penegor.

“It will be very conversational,” Mr. Penegor said about the new artificial intelligence-powered chatbots. “You won’t know you’re talking to anybody but an employee,” he said.

To do that, Wendy’s software engineers have been working with Google to build and fine-tune a generative AI application on top of Google’s own large language model, or LLM—a vast algorithmic software tool loaded with words, phrases and popular expressions in different dialects and accents and designed to recognize and mimic the syntax and semantics of human speech. (…)

The application has also been programmed to upsell customers, offering larger sizes, Frosties or daily specials. Once the chatbot takes an order, it appears on a screen for line cooks. From there, prepared meals are relayed to the pickup window and handed off to drivers by a worker. (…)

“It’s at least as good as our best customer service representative, and it’s probably on average better,” Mr. Vasconi said, adding that part of the goal of the pilot rollout is to show Wendy’s franchisees that the technology works and can improve service speed and consistency. 

Up to 80% of food orders at Wendy’s are made at the drive-through lane, compared with roughly two-thirds before the Covid-19 pandemic, the company said. (…)

Spending in the global generative AI market is expected to reach $42.6 billion by the end of the year, growing at a compound annual rate of 32% to $98.1 billion by 2026, according to market analytics firm PitchBook Data.

Home Prices Drop in a Third of the U.S. Prices fell in more parts of the U.S. than they have in over a decade during the first quarter.

Home prices fell in more parts of the U.S. than they have in over a decade during the first quarter, when nearly a third of metro areas posted annual price declines, the National Association of Realtors said Tuesday.

During the peak of the housing boom, home prices surged in practically every corner of the U.S. Now, the housing market is split down the middle of the country, with prices still rising in many parts of the Midwest, South and Northeast while sliding in Western states. (…)

Prices declined on an annual basis in 31% of the 221 metro areas tracked by NAR, the highest percentage in 11 years. (…)

Western markets that were already expensive or where prices climbed the most during the pandemic-driven housing boom are now the ones where prices are falling the fastest. In much of the rest of the U.S., limited inventory continues to drive prices higher.

Nationwide, the median single-family existing-home sale price fell 0.2% in the first quarter from a year earlier to $371,200, the first year-over-year price decline since the first quarter of 2012, NAR said. (…)

In the first quarter, the typical monthly mortgage payment for a single-family home rose to $1,859, a 33% increase from $1,397 a year earlier, NAR said. (…)

DON’T FEED THE BEARS!

“This bear market has been an absolute wealth destroyer Household net worth is now contracting for the 4th time in the past 3 decades” (@GameofTrades):

…But Americans are still 27% richer than in 2019 and 110% better off than in 2007.

CRE

“Offices account for nearly a quarter of commercial real estate debt maturities this and next year, or about $250B.” (@Mayhem4Markets)

BTW: Canada’s banking sector has not experienced the declines in bank deposits seen in the US. (The Daily Shot)

Source: Scotiabank Economics

Data Dependency In Real Terms

• Premature for Fed to call end to rate hikes with inflation still high, Williams says

(…) “We haven’t said we are done raising rates” and Fed officials have not yet decided what lies ahead with possible increases in short-term borrowing costs, Williams said at an Economic Club of New York gathering. “We’ve made incredible progress” in taking action to lower overly high levels of inflation, but “if additional policy firming is appropriate, we’ll do that,” he said. (…)

“In my forecast I see a need to keep a restrictive stance of policy in place for quite some time to make sure we really bring inflation down from 4 percent all the way to 2 (percent). I do not see in my baseline forecast any reason to cut interest rates this year,” Williams said.

As the head of the New York Fed, Williams also serves as vice chair of the central bank’s rate-setting Federal Open Market Committee, and he is a key voice on the monetary policy and economic outlook. (…)

Williams also said “although we have seen some signs of a gradual cooling in the demand for labor – as well as for some goods and commodities – overall demand continues to exceed supply.” (…)

Williams said the aftermath of the banking stresses will figure prominently in his thinking about the future of monetary policy. “I will be particularly focused on assessing the evolution of credit conditions and their effects on the outlook for growth, employment and inflation,” he said. (…)

In his speech, Williams said he expects inflation, which was running at an annual rate of 4.2% in March as measured by the personal consumption expenditures price index, to fall to 3.25% this year and back to the 2% target by 2025. He noted there have been signs of slowing price pressures but core services inflation stripped of housing factors remains persistent.

He also said he sees the economy growing moderately this year and that the jobless rate, at 3.4% as of April, should rise to between 4.0% and 4.5% this year.

• ECB Is Near the End of Its Interest-Rate Hiking, Stournaras Says

(…) “We can’t yet say how many more rate hikes will happen,” Stournaras said, observing that this will depend on projections for inflation, economic growth and financial conditions. “As things stand today and if nothing dramatically changes, we can say that in 2023 rate hikes will end.”

• ECB Still Has ‘More Ground to Cover,’ Lagarde Tells Nikkei

(…) While inflation is well down from its double-digit peak, the outlook could face “significant upside risks,” Lagarde told Japan’s Nikkei newspaper in an interview published Wednesday. The ECB must be particularly attentive to wage pressures, she said. (…)

“We’re not yet done with rate hiking,” Bundesbank chief Joachim Nagel told German radio earlier Wednesday, though he said policymakers are “coming to the home stretch. (…)

Speaking Tuesday evening, Executive Board member Isabel Schnabel said the ECB will continue lifting borrowing costs “with full determination until there are signs that core inflation is also falling on a sustained basis.”

(…) Latvia’s Martins Kazaks, who told Bloomberg this week that investors are wrong to bet on reductions early next year.

Druckenmiller Says US on Brink of a Recession, Sees Hard Landing

The downturn will occur at some point during the current quarter — even earlier than he previously expected, the billionaire founder of Duquesne Family Office said Tuesday during the 2023 Sohn Investment Conference. Druckenmiller, 69, said a variety of factors including a decline in retail sales and the upheaval gripping the nation’s regional banks prompted him to accelerate his forecast for a recession. (…)

He defined a hard landing as unemployment exceeding 5%, corporate profits slumping at least 20% and rising bankruptcies. (…)