The Economy That The 45th US President Will Inherit
08 November 2016 by Gerard Lyons
So what type of economy will the US President inherit? The outlook for the US economy matters for us all, given its importance as the world's largest economy. Moreover, the future direction of both US interest rates and the dollar will have global significance.
The election campaign itself told us something about the state of the economy. While the data shows a steady pace of economic growth, this is not being seen across the whole country, with many feeling that they have not shared in economic success. Just take wages: until recently wage growth has been modest, although there are now signs that it may be trending higher. All this helps explain why both candidates have talked of the need to boost growth, albeit in different ways (see US Election: Summary of Key Policies by Simon McConnell). The outlook for the US will naturally be influenced heavily by the policies of whoever becomes President and also by the relationship between the White House and the Senate and the House.
Recent economic data has been mixed. Indeed, in many respects it has been a continuation of what we have seen throughout 2016. This helps explain why the Federal Reserve Board has kept interest rates on hold since they hiked last December, which was the first increase in this cycle. At that time, the Fed indicated that they wanted to raise rates four times this year. That, in turn, influenced market expectations. In the event we have had no increase in rates, but one is expected by the market in December. In recent weeks, it has seemed that the only obstacle to a December hike would be if there was a fresh bout of market turbulence in the wake of the election.
Economic growth, as measured by Gross Domestic Product (GDP), grew at below its trend rate during the second half of last year and the first half of this. But recent GDP figures show an acceleration in growth to 2.9% in the third quarter. But, within this, consumer spending slowed to 2.1% from 4.3% in the previous three months.
One of the big current issues is whether US domestic demand can gather momentum? Two of the most interesting indicators to look at are those for the most expensive spending items: autos and housing.
Auto sales appear strong, although the message from the industry about what lies ahead is more cautious. After weakness during the 2008-09 recession, there was a rebound in sales that continued, helped by solid jobs growth. Auto sales rose to 15.5 million units in 2013, 16.4 million in 2014 and 17.4 million last year. By this October, sales had reached a seasonally adjusted annual rate of 17.9 million units. Although strong, in previous months inventories had risen and larger price discounts are now having to be offered to attract new buyers. It appeared that the market had reached saturation, and thus the momentum seen in recent years might not be sustained, without prices staying down.
Meanwhile, the housing data also is mixed. Housing starts were very weak in the latest data for September, although building permits were much firmer. Earlier this year concern was expressed about sluggishness in the housing sector. Existing home sales have averaged 5.4 million units this year, versus 5.23 million last and 4.92 million in 2014. So the trend is clearly up. Also more recently, first time buyers are up to 34%, the highest since 2012. All this is explained by low mortgage rates, solid jobs growth and also by a recent acceleration in wages.
Monetary data is consistent with steady overall economic growth. But much attention is on what happens to jobs and in turn to wages. The unemployment rate has fallen steadily from a high of 9.9% at the end of 2009, and is at 4.9% in October, which has been its average rate over the last year. However, as many people may not be looking for work, the unemployment rate may be overstating the strength of the labour market. The labour force participation rate is only 62.8%, and while above this time last year is not particularly high. The closely watched non-farm payrolls rose by 142,000 in October. Although these figures may have been depressed by weather related factors, and can often be revised higher, it is interesting to note the trend in payrolls in recent years. In 2014, the average monthly increase in payrolls was 240,000. Last year the average monthly rise was 221,000, and so far this year this has dipped to only 170,000. This trend does not suggest the economy is gathering momentum. That being said, a clear upward trend is evident in wages, which could indicate that the labour market is tightening. All this helps explain why the Fed has been in two minds over what to do, awaiting further data.
It is only really when wages gather momentum that a majority of Fed members are likely to be confident about raising rates. Average hourly earnings were hovering around 2% during the first half of last year and have trended up to 2.8% in the most recent data for October 2016. As yet this does not signal a broader pick-up in inflation, but inflation does seem to be past its low. Consumer price inflation is currently 1.5%, while the core rate, which excludes food and energy prices, has tended higher since the start of last year. During 2015, core inflation rose from 1.6% to 2.1%, and this year has averaged between 2.1% and 2.3%, being at 2.2% in October. Core producer prices do not suggest an imminent surge in inflation either, but are past their low. Last year they averaged 0.8% and this year have averaged 1.0%, reaching 1.2% in September.
The message is a cautious one. Although there are enough signs of strength in the US economy from the various monthly indicators, the autos and housing data suggests there is no reason to get carried away. Meanwhile, the jobs data adds to the mixed picture. All this suggests that whoever wins the White House needs to give the economy a further helping hand, with a relaxed fiscal stance. It also suggests that the Fed, while having a bias to tighten, will move cautiously.
In coming days and weeks we will discuss further how this interaction between US politics, policy and the economy will play out once the winner is known, and what it means for financial markets across the globe. Here in the UK, our investments continue to be influenced by the opportunities and risks from such global trends.