Employment Report Disappoints but Probably Won’t Delay Federal Reserve’s Tapering Plan

The September employment report disappointed analysts; will it also complicate the Federal Reserve’s plan to begin withdrawing the monetary support that has cushioned the economy throughout the pandemic?

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The forces driving the economy are no longer financial; they are primarily medical.  Concerns about the impact of the coronavirus, which continues to spread in the U.S. and abroad, have replaced speculation about whether the Fed will slash interest rates – which it did recently, announcing an “emergency” quarter-point reduction that analysts predict will be followed soon by another one, in an effort to forestall the panic that is gripping financial markets.

Although aimed at calming investors, the Fed’s rate cut initially had the opposite effect, spurring a steep market sell-off, as investors viewed the Fed action (its first between regularly scheduled meetings since the 2008 financial crisis), as a reflection of  the Fed’s concern. 

While emphasizing that underlying economic fundamentals remain strong, Fed Chairman Jerome Powell acknowledged that “the virus and measures being taken to contain it will weigh on economic activity here and abroad for some time.”

“A rate cut will not reduce the rate of infection. It won’t fix a broken supply chain. We get that,” Powell added at a press conference following the Fed’s emergency meeting.  “But we do believe that our action will provide a meaningful boost to the economy.”

Bear Territory

The stock market’s dizzying decline in successive dismal trading sessions has pushed it close to a “bear market” (defined as 20 percent below its January high), triggering predictions of a “technical recession” in the first half of this year.

Recession risks have risen enough to “warrant a Federal Reserve shock-and-awe approach,” Tiffany Wilding, an economist at Pacific Investment Management Co., told the Wall Street Journal.

The Organization for Economic Cooperation and Development has predicted that worldwide economic growth could be cut in half if the virus continues to spread rapidly.  “This is not a worst-case scenario,” Laurence Boone, the organization’s chief economist, told reporters.  It assumes that the virus won’t spread to the southern hemisphere, which it hasn’t yet – but could, she noted. The title of the organization’s virus update:  “Coronavirus: The World Economy at Risk” – is not particularly reassuring. 

U.S. economists are also reflecting varying, and largely increasing, degrees of concern.  Goldman Sachs analysts have slashed their global growth forecast for the year from 3 percent to 2 percent, and cautioned that U.S. growth could hit zero in the second quarter before regaining some ground toward year-end.  “While the U.S. economy avoids recession in our baseline forecast,” they note in a recent report, “the downside risks have clearly grown.”

Analysts at the BlackRock Investment Institute echoed those concerns, while offering a more upbeat forecast.  "We do not think this is 2008,"they emphasized.  Although the impact  will likely be large and sharp,” they predict, it will also be fairly short-lived and followed by a steep recovery in the latter part of the year. 

Concerns about the virus have filled  the headlines in recent weeks, but the impacts – already reflected in shattered stock values, tumbling interest rates (flirting with record lows), canceled travel plans, event cancellations and shrinking airline traffic ─ aren’t reflected in the January economic reports on which this edition of In Focus is based.  Next month’s summary will almost certainly be less upbeat.

Employment Surge

Employers added 273,000 jobs in February, blowing well past the consensus forecast of 175,00, and pushing the annual monthly gains to an average of 243,000 (for December through February), compared with 178,000 for last year.  The unemployment rate was unchanged at 3.5 percent, while wage growth posted a year-over-year gain of 3 percent, reflecting continuing  (pre-virus) employment strength.  

Consumer Spending

The household spending rate increased by only 0.2 percent in January, falling below the December pace, despite a 0.6 percent increase in personal income that was the largest gain in almost a year. Although consumer prices have inched up this year, largely reflecting slightly higher energy costs, inflation pressures remain subdued, well below the Fed’s 2 percent target.

 “Consumers shielded the economy from global headwinds for most of 2019 but they won’t prove immune to the coronavirus outbreak,” Lydia Boussour, a senior U.S. economist at Oxford Economics in New York, warned in a Reuters report...

Housing Market

The housing market continues to demonstrate signs of strength punctuated by hints of weakness shrouded in uncertainty.

Existing home sales slowed in January, falling 1.3 percent below the December total, but still beating the year-ago performance by 9.6 percent, the National Association of Realtors (NAR) reported.  The annual gain surprised analysts, who had expected a weaker start to the year.  

"Existing-home sales are off to a strong start at 5.46 million." Lawrence Yun, the NAR’s chief economist, said.  "The trend line for housing starts is increasing and showing steady improvement, which should ultimately lead to more home sales,” he predicted.

New home sales were even stronger.  The annualized rate of 764,000 units reported for January beat the upwardly revised December rate by almost 8 percent, while scoring a year-over-year increase of 18.6 percent.

The NAR’s pending sales index, reflecting future sales of existing homes, also turned positive in January after a December swoon, increasing by 5.2 percent for the month and starting 2020 with a reading almost 6 percent higher than it was a year ago.   The improvement came despite an acute inventory shortage that continues to constrain sales, especially at the first-time-buyer end of the market. 

Redfin reported a 3.1-month supply of homes available for sale nationally in January, compared with a 3.8 -month total the same month last year.  This is the sixth consecutive month in which inventory levels have declined. The decline was steepest (10.3 percent) for homes priced between $100,000 and $250,000, according to the Redfin analysis.

The cure for the inventory shortage is new construction, and it appears that builders may be preparing to deliver that medicine.  Permits for new homes hit a 12-year high in January, while residential construction spending increased by 9 percent, to an annual rate of nearly $300 billion.

A Widening Gap

Although those statistics are encouraging, they won’t bring the relief the housing market needs. Decades of under-building have left the market with 3.3 million fewer units than are required to meet current demand, according to a report by Freddie Mac.  And that yawning supply-demand gap is growing by about 300,000 units per year, Sam Khater, Freddie Mac’s chief economist, notes in the report.  

“More than half of all states have a housing shortage, and the shortage is no longer concentrated in coastal markets but is spreading to the middle of the country in more affordable states like Texas and Minnesota,” he said. 

Michael Frick, corporate economist for Navy Federal Credit Union, also doubts that the new construction will do much  to help low- and moderate-income buyers who have been sidelined by a lack of housing they can afford. Strong employment growth and steady income gains have not been enough to close their affordability gap. 

“Years of supply shortages have bid up home prices out of reach of many lower- and even middle-income Americans.  To bring the opportunity of homeownership to those Americans we’ll need millions more homes built in the next few years,” he told the Wall Street Journal.  And more of those homes will have to have lower price tags than those most  builders are constructing today. 

“We’re stuck in this situation,” he added, “and it will take us a few years to dig out of it.”