Talking Points
January 20, 2023 | 12:33
Enter Sandman & Co.
Economics
Economics
After a strong start to the year, markets took a step back this week and bond yields sagged further on renewed doubts over the growth outlook. A particularly soggy U.S. retail sales result in December was the showpiece event, reinforced by a drop in industrial output and some weak regional Fed surveys. And while headline inflation is encouragingly moderating in many major economies—even core trends may be topping out in Canada—oil prices spent most of the week grinding back above $80. Meantime, China’s Q4 GDP came in a bit better than expected, but growth for the full year was soft at 3.0%, the first time in decades that it grew more slowly than the global economy. That result was overshadowed by news that China’s population dropped last year for the first time since the Great Leap Forward (1961). |
But pulling all these various strands together doesn’t require guidance from the World Economic Forum in Davos—one only needs to consider 13 headlines from a single copy of the Wall Street Journal to properly analyze all the key trends in the global economy in 2023. From Thursday’s version: 1) “Retail Sales Post Biggest Drop of 2022. U.S. retail spending fell in December at the sharpest pace of 2022, marking a dismal end to the holiday shopping season as rising interest rates, still-high inflation and concerns about a slowing economy pinched consumers.” The 1.1% drop was much deeper than expected and followed a 1.0% setback in November. However, there are three things to note before assuming the consumer is going into a tailspin. First, goods prices also fell 1.1% in the month, so volumes were nowhere near as weak. Second, consumers continue to shift spending away from goods and towards services, so retail sales will underperform overall spending for some time yet. Third, seasonal adjustment factors may not be keeping up with the reality of shifting spending patterns, which are now seeing less emphasis on outlays in December. Even so… 2) “Bond Rally Intensifies on Japan Policy. The 2023 rally in U.S. Treasurys picked up new momentum after the Bank of Japan maintained its cap on bond yields while new data pointed to a further slowdown in U.S. inflation and economic activity.” The BoJ’s move got the ball rolling, but the trio of retail, production, and PPI reports sent yields really skidding mid-week to below 3.4% for the first time since early September—when the Fed funds rate was 200 bps lower than today. Even with some back-up later in the week, 10-year yields are still under 3.5%, down roughly 40 bps since the start of the year. Adding to the downdraft in yields… 3) “Microsoft To Lay Off 10,000, Cites Shaky Economy.” The article goes on to note that this will be the company’s largest layoff in more than eight years and follows a string of cuts from other tech companies. On cue, Alphabet announced a big reduction soon after. Of course, this wave of notices has not been reflected in the macro data—a topic explored in greater detail in this week’s Focus Feature—and highlighted by the plunge in the latest initial jobless claims to a mere 190,000. Still, the wave of tech job cuts and the commentary surrounding the moves has reinforced the downbeat view on the broader economy through 2023. Even so… 4) “U.S. Accountant Shortage Has Firms Looking Overseas.” In the here and now, the job market is still incredibly tight, despite the announced reductions. The article notes that the shortage of accountants is prompting small- and medium-sized firms to look abroad for help for the first time, a practice larger firms have been engaged in for years. Reportedly, more than 300,000 accountants or auditors have left the field in just the past two years. Naturally, the shortage is putting upward pressure on prices—the cost of an audit for non-profits has risen from $3,000 to $10,000, according to one small firm. And, in another sign that inflation may prove stickier… 5) “Florida’s Orange Crop is Smallest in Decades, hit by Weather, Disease.” In just another example of how nothing seems to go right for food price inflation, Florida reportedly had its smallest orange crop in 90 years and less than half the size of last year’s output. Juice futures are roughly double levels from two years ago. But, more importantly… 6) “Oil Demand Seen Hitting Record in 2023.” Despite high prices and even with efforts to decarbonize, global oil demand is expected to rise by 1.9 million barrels per day this year, according to the IEA. The group has bumped up its forecast by 200,000 due to China’s rapid reopening. Of course, that’s not the only sector that is affected… |
7) “Luxury Brands Start to See Signs of Recovery in China.” The world’s largest market for luxury goods prior to the pandemic has seen weak demand due to various disruptions in recent years. However, Bain & Co. expect that Chinese consumers will return to accounting for one-third, or more, of global luxury spending, after sagging to around 18% last year. But the comeback in spending from China’s consumers won’t drive all commodities… 8) “Lower Aluminum Prices Punish Alcoa.” Even with some commodities reviving in 2023, the bigger picture is that a broad measure of resource prices is almost precisely unchanged from year-ago levels. And, year-ago comparisons in commodities, and consumer inflation, are about to get a whole lot more friendly, since oil and food prices spiked in the wake of Russia’s invasion on February 24, 2022. So, expect a lot more headlines like this… |
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9) “U.K. Inflation Slows for 2nd Month.” Inflation in Britain only backed off a couple ticks to 10.5%, but Canada printed a much bigger drop (6.3% from 6.8%), and the Euro Area confirmed its rate fell almost a full point to 9.2% in December. Perhaps more encouragingly, underlying trends in core inflation are slowing thanks to improved supply chains and cooling demand for goods. As a prime example, appliance prices saw their biggest monthly drop (down 4.1%) on record in Canada. In turn, this has clipped one measure of core inflation to just a 3% annualized pace in the past three months (Chart 1); note that this CPIX measure excludes mortgage costs, which have been rocketing. Even so, the mood at Davos was one of concern… 10) “Leaders Fret About the Fragmenting Global Economy.” Yes, we had to work in a comment from the WEF. While some were a bit more upbeat because of calmer energy costs and the reopening in China, geopolitical frictions, rising protectionism, and “technology decoupling” were seen by some leaders as new risks. Meantime, back in North America… 11) “Businesses Pessimistic On Growth Outlook.” The latest Beige Book found that half of the regional districts reported flat or weaker activity at the start of the year. Importantly, many also noted a slowing in consumer price increases. Accordingly… 12) “Two Fed Officials Back Quarter-Point Rise.” Cooler growth and milder inflation have all but locked in a 25 bp rate hike at the February 1 FOMC meeting. We look for a follow-up 25-bp hike at the March meeting, and then a long pause. Some Fed officials are still pushing for a somewhat more aggressive move, taking overnight rates above 5%, but we and markets are now doubting the Fed will quite get there. The Bank of Canada is also expected to deliver a 25 bp hike next week, although that is likely to be the last hike of the cycle—assuming inflation continues on its recent trajectory. And, one always needs to prepare for surprises… 13) “Alexa, That Isn’t Elvis! Music Shuffle Irks Amazon Prime Users.” One surprise that no one in financial markets wants to deal with this year is on the debt ceiling, but it appears that we are hurtling toward some kind of self-inflicted crisis on that front. (The debt ceiling was notable by its absence from this particular issue of the Journal, which is odd given how overwhelming this topic has become in recent weeks.) Treasury Secretary Yellen announced this week that the $31.4 trillion ceiling has been hit, and extraordinary measures are now being taken to avoid a default. This has been par for the course for the past decade, as both sides take some steps to ultimately work towards a deal before hitting the true wall. What’s different this time is the political backdrop, including a hard-core group in the House looking for big spending cuts, and a weakened Speaker, paired with a Senate that likely has little appetite for serious restraint, and a White House that declares it is not going to negotiate. What could possibly go wrong? This isn’t the market’s first debt ceiling rodeo, and it is so far mostly looking past the coming tempest. The 2011 showdown led to a deep dive in equities and Treasury yields that summer, and saw S&P downgrade the U.S. credit rating as a result of the near-miss episode. Ten-year yields plummeted 142 bps (from 3.22% to 1.80%) in the three months from the start of July to the start of October that year, while the S&P 500 fell by almost 20% over the same stretch. One would suppose that such a lesson from the past would chasten the current crop of politicians—and one would apparently be wrong on that score. Frankly, there’s only so much an economist can say about the debt ceiling dance, as the economy and markets are innocent bystanders to the political game of chicken. |