Fed’s Beige Book Points to Modest Growth in US Economy, Prices Business contacts say consumers pushing back on higher prices

The US economy expanded at a “slight or modest” pace across most regions since early April and consumers pushed back against higher prices, the Federal Reserve said in its Beige Book survey of regional business contacts.

“Retail spending was flat to up slightly, reflecting lower discretionary spending and heightened price sensitivity among consumers,” according to the report released Wednesday. “Overall outlooks grew somewhat more pessimistic amid reports of rising uncertainty and greater downside risks.”

Employment rose at a slight pace with eight of twelve districts reporting “negligible to modest job gains.” Several districts reported wage growth at, or moving toward, pre-pandemic levels.

Prices increased at a “modest pace” over the period with business contacts noting consumers pushed back against additional price increases.

June BoC Preview: A Clear Case for a First Cut

From Goldman Sachs:

• The April CPI report was soft for the fourth straight month, thereby confirming that disinflation is well underway in Canada. A wide range of underlying inflation measures have fallen below the BoC’s 2% target on a three-month annualized basis (and stand only slightly above 2% on a six-month annualized basis), and inflation progress in Canada is well advanced relative to its DM peers. We therefore expect that the BoC will determine that downward inflation momentum has been sustained and cut its policy rate by 25bp to 4.75% at next week’s June meeting.

• The main arguments against cutting next week are that 1) improving activity data might lower the urgency to ease and 2) the BoC might prefer to cut for the first time when they update their forecasts at July’s Monetary Policy Report (MPR) meeting. While these factors raise some risk that the BoC could delay cutting, activity levels remain subdued and the BoC has been willing to pivot policy at non-MPR meetings in the past, so we see only modest risks of a delay.

• Looking ahead, we expect that the BoC will provide only weak guidance on future cuts, perhaps noting that they are conditioned on further evidence that downward inflation momentum is sustained. Given our expectation that inflation progress will continue and that growth should recover to near-trend pace in 2024H2, we forecast that future cuts will proceed at a quarterly pace (with 75bp of cumulative easing by end-2024) until reaching a terminal rate of 3.25%. Our baseline forecast is dovish relative to market pricing, as is our risk-adjusted forecast that accounts for different policy scenarios.

This Record Stock Market Is Riding on Questionable AI Assumptions Just four giant technology stocks added more market value than the rest of the S&P 500 put together this month. More than half of the gain came from Nvidia.

Nvidia, Microsoft, Apple and Alphabet between them have added over $1.4 trillion this month, more than the other 296 stocks that rose put together. Half of the gain was just one company, chip maker Nvidia.

Behind the rises in the biggest stocks this month and this year are two trends, which have already run a long way: Artificial intelligence and higher-for-longer interest rates. Any trend can always go further, but there are challenges to both.

To see what could go wrong, note that this isn’t the usual speculative mania (though there was a mini-AI bubble last year). Nvidia’s profits are rising about as fast as its share price, so if there is a bubble, it’s a bubble in demand for chips, not a pure stock bubble. To the extent there is a mispricing, it’s more like the banks in 2007—when profits were unsustainably high—than it is to the profitless dot-coms of the 2000 bubble.

The threat to Nvidia’s share price is therefore about threats to its earnings. There are four risks:

1) Demand falls because AI is overhyped. The International Monetary Fund says AI will “transform the economy.”President Biden says AI is “the most consequential technology of our time.” And leading suppliers of AI—including the chief executive of OpenAI—said in a joint letter that “Mitigating the risk of extinction from AI should be a global priority.”

Yet, large language models remain limited. I’ve yet to meet someone who is pleased to be faced with a customer-service chatbot—the main use case of which seems to be to try to figure out how to get past it to speak to an actual human.

It helps programmers, but few outside the coding community got excited when, for example, GitHub transformed software development, long before ChatGPT came along. Microsoft’s Copilot can help beginners improve PowerPoint presentations, which might make office life a little less dull. And helping users with Excel is important. But again, a better “Help” function wouldn’t normally get investors’ pulses racing.

Don’t get me wrong. I’m deeply impressed by the progress of large language models, the technology behind ChatGPT. But all of my attempts to use it for work came with errors that took more time to fix than if I had just done it myself. It’s like having a 12-year-old help out.

Many LLMs fail basic tests, often in amusing ways—Google advises adding glue to pizza, for example. Copilot highlights the risk of being eaten by a cabbage when asked how to cross a river with a goat. Are they really ready for prime time? Perplexity is a great AI-assisted search engine, but the promise of AI goes a lot further than a better Google. The technology has yet to live up to the hype, and the risk is it takes much longer than buyers of Nvidia chips believe.

2) Competition reduces prices. Nvidia rules supreme in the high-end graphics processing units used for AI. But it faces competition from well-funded customers such as Alphabet and Meta Platforms, a slew of startups, and traditional rivals such as Intel trying to catch up. Even if they aren’t as good, they should limit Nvidia’s ability to charge pretty much what it likes.

3) Nvidia’s biggest supplier, Taiwan Semiconductor Manufacturing, might want a bigger slice. TSMC actually makes the chips. If it jacked up the price it charges Nvidia, no one else could step in to replace it in any reasonable time period. It might not want to risk its long-term relationship. On the other hand, it might want some of the cash pouring into Nvidia.

4) What if scale doesn’t matter? The designers of AI models think there is an advantage to getting big quickly. More use gathers more data, which makes the models better, which attracts more users, in a virtuous circle. The big should get bigger. Such a frenzy fuels the demand for AI chips.

If the argument is right, a lot of people who invested in the models that prove to be the losers will have wasted their money. The current boom in demand for chips should also die down once the also-rans give up. That is a way off but is a threat to future Nvidia sales.

If the scale-matters argument is wrong, and what businesses actually want are smaller, dedicated AI models trained in large part on their own data, or that startups can do AI just as well as the giants, a lot of money will have been wasted.

Investors assume continued rapid growth from Nvidia, with the stock on a multiple of 38 times forward earnings. Superfast commercialization of LLMs has become the baseline for investors who have pushed up other stocks that should benefit, such as suppliers of electricity, cables and data centers. It is another sign of just how much investors have swallowed the hype that they are willing to bet on such distant potential beneficiaries of the AI boom.

I fear the market is paying too little heed to the risks. AI may be a big deal, but it’s unlikely to pan out the way people seem to think.

Today only:

• Klarna Marketing Chief Says AI Is Helping It Become ‘Brutally Efficient’
• PwC Set to Become OpenAI’s Largest ChatGPT Enterprise Customer
• Palantir Wins $480 Million AI Computer Vision Deal With US Army
• OpenAI Strikes Licensing Deals With The Atlantic and Vox Media
• OpenAI CTO Says Generative AI’s Economic Impact Only Starting

OpenAI’s latest GPT-4o model, which helps users generate content such as text, presentations and videos, is becoming more intuitive to use and that’s spurring its adoption, Murati told Singapore’s Asia Tech X conference via video on Thursday. People are increasingly using AI tools for tasks such as coding, writing and administrative work, she said.

“We don’t quite realize the impact that this is going to have in businesses and at work because it is just starting,” she said. “But what we’ve seen so far is that over a very short amount of time, these AI systems have entered the workforce as collaborators.” (…)

Gleaned in 10 minutes:

• 10 startups harnessing the power of AI The 2023 MIT Digital Technology and Strategy Conference featured startups that help companies anticipate disruptive technologies, boost customer service metrics, and improve last-mile deliveries.
• New work from MIT Sloan researchers shows how generative AI can be deployed in the enterprise today.
• Workers with less experience gain the most from generative AI
• How generative AI can boost highly skilled workers’ productivity
• 15 Unexpected Ways AI Technology is Being Used Today

I spent 3.5 weeks in Singapore watching my son and some of his associates use AI helping various clients in industries such as energy, mining, retailing, coding, finance, etc. and it was amazing how efficient they were, yet only beginning to fully use rapidly evolving AI tools.

BTW, here’s one way Bloomberg uses LLMs in finance, courtesy of Apollo’s Torsten Slok::

Quantifying Fed Sentiment

The Bloomberg natural language processing model analyzes Fed speeches and currently shows FOMC members moving toward a tightening bias. Note how the model never predicted rate cuts in 2024. Instead, Fed sentiment has simply been less hawkish in 2024 than in 2022 and 2023.

The bottom line is that this Fed sentiment model using data back to 2009 shows that Fed communication continues to favor Fed hikes rather than Fed cuts.

Xi Lays Out Vision for Greater Cooperation With Arab States

Chinese leader Xi Jinping outlined a range of areas including finance and technology in which his nation can enhance cooperation with Arab nations, underscoring Beijing’s push for greater influence in Middle East.

“China will work with the Arab side as good partners to make our relations a model for maintaining world peace and stability,” Xi said Thursday in a speech to the China-Arab States Cooperation Forum in Beijing. He listed artificial intelligence, green tech and finance as sectors open for greater collaboration. (…)

Beijing-based Lenovo Group Ltd. has announced a deal to sell $2 billion of convertible bonds to Saudi Arabia’s sovereign wealth fund, and build research and production facilities in the kingdom. State oil firm Saudi Aramco is in talks to buy a $1.5 billion stake worth in a Chinese petrochemical firm, while carmaker China FAW Group is part of a push to make electric vehicles in Egypt. (…)

As the Biden administration backs Israel in the conflict, China supports an immediate cease-fire and recognition of a Palestinian state. That alignment with Arab states is helping Beijing to extend its political sway in countries that until recently saw China chiefly as an economic partner — and win new allies in its global contest for influence with the US.

Under Xi, China has pushed to build an alternative world order to challenge the US, embracing Russia and emerging economies in the so-called Global South. Beijing has cast itself as the leader of the BRICS bloc, which it has worked to expand. Iran, the UAE, Ethiopia and Egypt all accepted invitations to join this year. (…)

China also said it would expand industrial investment in Egypt in areas including electric vehicle and solar panel manufacturing.

Speaking on the sidelines of the forum, the Palestinian envoy to China, Fariz Mehdawi, described Beijing as friendly with nearly every nation in the region.

It “has no problem with anybody, not like our American friends, unfortunately, I’m sorry to say that,” he said. “But this is what makes China more eligible to play a constructive, positive and not controversial role.” (…)

China gets more than one-third of its crude from members of the six-nation Gulf Cooperation Council, with the lion’s share coming from Saudi Arabia. (…)

LABOR MARKET EASING

The Conference Board’s “survey shows that the “jobs plentiful” response is falling, but remains relatively high. The “jobs hard to get” response remains low. We expect that consumers will continue to increase their spending as long as labor market indicators continue to be sunny even if consumer sentiment remains relatively dark. The “hard” data on consumers should continue to trump the “soft” data based on surveys, in our opinion.” (Ed Yardeni)

Notice that jobs are much less plentiful than before the pandemic.

Indeed Job Postings, available through May 17, are down 4.2% since the latest Job Openings stats were released for March.

The labor market indicators were much “less sunny”in April. Employment growth is clearly slowing, along with wages (black).

S&P Global’s May flash PMI was quite sunny, however:

US business activity growth accelerated sharply to its fastest for just over two years in May, according to provisional PMI survey data from S&P Global, signalling an improved economic performance midway through the second quarter. The service sector led the upturn, reporting the largest output rise for a year, but manufacturing also showed stronger growth.

But:

Employment fell for a second successive month in May, contrasting with the continual hiring trend seen over the prior 45 months. The overall reduction in workforce numbers was only very marginal, however, and less than witnessed in April, as an upturn in manufacturing payrolls was accompanied by a slower rate of job shedding in services.

While factory jobs grew at the fastest rate for ten months in May, buoyed by rising order books and improved business prospects, services employment has now fallen for two successive months, albeit in part due to staff shortages.

(…) companies remain cautious with respect to the economic outlook amid uncertainty over the future path of inflation and interest rates, and continue to cite worries over geopolitical instabilities and the presidential election.

Wells Fargo:

It is an anomaly or perhaps even an advantage of human nature that we can hold seemingly conflicting views about something in our heads. It is rare that this capacity is on display in survey data. In today’s report, some specific survey questions revealed that consumers are simultaneously upbeat about the stock market even as a growing share see a recession as more likely. The release noted “the Perceived Likelihood of a US Recession over the Next 12 Months rose again in May, with more consumers seeing a recession as ‘somewhat likely’ or ‘very likely’. Consumers were nonetheless upbeat about the stock market, with 48.2 percent expecting stock prices to increase over the year ahead, compared to 25.4 percent expecting a decrease and 26.4 expecting no change”

Perception can be more potent than reality. At a near all-time low of 3.2%, half its pre-pandemic level, the savings rate provides little buffer to any shock in either spending power or confidence. The pandemic “excess savings” are spent or eroded by inflation. The U.S. consumer will be much more volatile from now on.

IMF Raises China Economic Growth Forecasts The IMF now projects 2024 gross domestic product growth at 5%, up from its prior forecast of 4.6% made in April

The organization also raised China’s growth forecast for next year by 0.4 percentage points to 4.5%. (…)

The IMF’s revisions also follow one-week visit to China during which staff met with the People’s Bank of China governor, the finance minister and other officials. (…)

Looking ahead, the IMF sees China’s economy slowing to 3.3% by 2029, dragged by an aging population and slower productivity growth. (…)

The IMF expects core inflation to rise but remain low as output remains below potential. It projects core inflation will average 1% in 2024. Against that backdrop, it sees scope for further monetary policy easing. (…)

Gopinath in the statement acknowledged the efforts policymakers have made to rebuild the housing market, but signaled that more needs to be done.

A more comprehensive policy package, including mobilizing central government resources to protect buyers of presold unfinished homes and accelerating the completion of unfinished presold housing, would be more efficient and less costly, she said. (…)

Bloomberg adds:

The Fund is still assessing the effects of the recently announced US tariffs on China, according to Gopinath, who said policies that exacerbate fragmentation are negative for the whole world.

“There has been an increase in more restrictive trade policies across countries,” with about 3,000 new trade restrictions imposed in 2023 — triple the number in 2019 — Gopinath said.

“There has been an increase in risks to the global trading system and we are seeing early signs of fragmentation,” she said. “Trade across countries that are more geopolitically aligned is holding up better than trade across countries that are less geopolitically aligned.”

Countries are also increasingly relying on industrial policies, which can lead to misallocation of resources and could create spillovers that affect other trading partners, Gopinath said.

“When any of these three regions — the US, the European Union or China — puts a subsidy in place, we’ve seen that within the next 12 months, there’s a 75% probability that the other country also retaliates with another subsidy,” she said.

Yuan Weakens to Lowest Since November as China Allows Declines

China’s onshore yuan dropped to the weakest level since November as signs mount that policymakers are slowly letting the currency decline against a resilient dollar.

The yuan fell to as low as 7.2487 per dollar as the People’s Bank of China gradually cut its daily reference rate for the managed currency to a level unseen in four months. The move came as a gauge of the greenback edged higher for a second day on bets the Federal Reserve is still not close to kicking off its rate-cut cycle. (…)

The yuan is not alone in struggling with depreciation pressures in Asia. The currency of its neighboring country Japan just hit the lowest since 2008 against the pound. The likes of the Thai baht and Indonesian rupiah are also inching close to multi-year lows touched recently.

Asian currencies are being weighed by their wide yield discount to the US, which favors the dollar. The rate gap concern is being exacerbated by bets Fed won’t be slashing rates anytime soon due to surprisingly resilient growth and sticky inflation. (…)

The United States used to have cachet in China. Not anymore.

There was a time not so long ago in China when anything American was automatically seen as better. In the 1990s, weddings were held at a McDonald’s near Beijing’s Tiananmen Square. By the 2000s, Nike sneakers, iPhones and dates at Pizza Hut were the badges of middle-class achievement.

America, which is called mei guo or “beautiful country” in Chinese, was the bastion of wealth and ease. Even the moon hung larger in the United States than in China, people used to joke.

Now, Chinese media and commentators mockingly refer to the United States not as mei guo but as mei di — “the beautiful imperialist.” And Chinese shoppers are more likely to be sipping a drink from Luckin, a Chinese coffee chain, than Starbucks or lining up all night to buy Huawei’s Mate 60 Pro than the latest Apple device. Today, no one says the moon is any different when seen from the United States.

“Back in the day, you looked at American brands, you just felt they were cooler,” said Tracy Liu, a 30-year-old translator in Shanghai. “Now people chase after domestic brands.”

For decades, this soft power was one of the United States’ most potent weapons in China. But over the last few years, the United States has lost hearts and minds in China as its cultural luster has faded.

The shift comes as Beijing is expanding its military and technological prowess — and as China’s reputation in the United States has plummeted dramatically amid concerns that it will use underhanded tactics to achieve leader Xi Jinping’s vision of a world where the United States and China are equal.

Together, these two trends push the countries further away from each other and closer to conflict.

“If you want to avoid war and you want to manage a competition or you want manage a common problem like climate, a degree of soft power helps both countries,” said Joseph Nye, former dean at Harvard’s Kennedy School of Government who first popularized the term “soft power” in the 1990s and served as U.S. assistant secretary of defense, often dealing with China.

“If there’s mutual desire to accomplish those objectives, then the extent to which China is attractive in the U.S., and the extent to which the U.S. is attractive in China, can be beneficial to both countries because both countries want an atmosphere that encourages cooperation,” he said. (…)

“It’s a paradigm shift,” said Da Wei, director of the Center for International Security and Strategy at Tsinghua University. “The U.S. image in China is so bad today. It’s probably the worst in the past 40 years since the establishment of diplomatic relations,” he said.

The weakening of American soft power in China coincides with a China that is growing stronger and richer, and is working to create its own cultural cachet. (…)

“One of the central claims the CCP makes to legitimate its rule is that only the CCP can save China and make China strong again, and a big part of that is anti-Americanism,” said Peter Gries, a professor of Chinese politics at the University of Manchester. “So China being better than America has become central to the CCP’s claim to rule.”

Today, Chinese media opine on the “myth of American democracy” and extensively cover U.S. mass shootings, police violence, political polarization and public security problems. (One popular genre on Douyin, the Chinese version of TikTok, is “zero-dollar shopping” in the United States, which features videos of stores being robbed at gunpoint.)

By losing its soft power advantage in China, the United States also loses an important source of leverage: its ability to appeal directly to the Chinese people.

“A Chinese populace that is broadly sympathetic to the United States is a … brake on some of the more aggressive measures that the Chinese government would consider taking,” said Jude Blanchette, who holds the Freeman chair in China studies at the Center for Strategic and International Studies.

“It works in Xi Jinping’s favor if the United States is seen in the eyes of the Chinese people as deteriorating and implacably hostile to China,” he said. (…)

The idea of American atrophy began gaining traction after the global financial crisis eroded faith in the U.S. economic model. During the Trump administration and the chaos of the early years of the coronavirus pandemic, Chinese leaders began boldly proclaiming that “the East is rising and the West is declining.”

“That event really put the next to final nail in the coffin of Chinese admiration for the U.S.A. The final nail was hammered in by the Trump administration,” said David Shambaugh, director of the China Policy Program at George Washington University, referring to the 2009 financial crisis.

“To my knowledge, there is very little residual appeal of the U.S.A. among either the Chinese urban public, among intellectuals or among officials,” he said by email. (…)

These tensions, as well as the steady flow of reports of America’s domestic problems, mean today’s Chinese citizens “no longer regard the United States as some moral high ground or even the future as before,” the popular Chinese blogger Chairman Rabbit wrote. “The United States has shot itself in the foot and destroyed the soft power that it worked so hard to build in China. Not only that, it has created the most difficult rival for itself.”

*******

Thanksgiving Week

Memorial Day reminds me to thank donators to Edge and Odds, something I too often neglect to do, buried in my rather busy schedule, which includes self-imposed leisure time away from the laptop to keep some level of sanity.

I am embarrassed to say that this neglect seems to go back to the spring of 2022. Sincere apologies. Time does fly, even more than we think. My late mother-in-law used to say “the slower I get, the faster time goes by”. So true.

I know I will not be able to find time to personally thank all of you, so here’s my public thank you to (in no particular order):

Hopefully, I did not forget anybody for whom I have the basic info. Others I will need to contact directly (or you send me your full names to edgeandodds [at] gmail.com).

Sincere thanks.

Denis