Income Inequality, Taxation, and Redistribution

Posted on Updated on

Brian S. Wesbury – Chief Economist,  Robert Stein, CFA – Dep. Chief Economist,  Strider Elass – Senior Economist,  Andrew Opdyke, CFA – Economist,  Bryce Gill – Economist

November 11, 2019

One of our favorite economic parables is the Fish Story, from Paul Zane Pilzer’s 1990 book, “Unlimited Wealth.” It is an excellent tool for thinking about wealth creation, inequality and redistribution.

Imagine 10 people live on an island. Each day they wake up, catch two fish, eat them, and go back to bed. Its subsistence living at the most basic level. There are no savings – no stored or saved wealth. If someone gets sick and can’t fish, there’s no way to help them. No one has any extra.

Now imagine two of these people dream up a boat and a net. They spend six days catching one fish per day, slowly starving, but they make the boat and net. On the 7th day, they go out into the ocean and catch 20 fish in the net – it worked!!!!

At this point, the island can go one of two ways. First, since two people now produce what previously took ten, resources are freed up to do other things. Farming corn, picking coconuts, cleaning fish, cooking, repairing the boat and net, the possibilities are endless. The island ends up with more (and better!) food, new technologies, higher standards of living, more assets, more wealth, and they can now afford to take care of their sick and vulnerable!

Or…the eight people who don’t have a boat and net could become envious. Two now produce ten fish per day, while everyone else can only produce two. Income inequality now exists: it’s no longer 1:1, it’s 5:1. So, they devise a plan to tax 80% of the income of the boaters (16 fish) and redistribute two fish to each of the other inhabitants.

If the second plan is adopted, no one is better off. Each inhabitant still only has two fish. Moreover, the entrepreneurs have no incentive to fix their boat and net. The island will eventually revert to subsistence.

This is the problem with taxation for redistribution: it robs the economy of the benefits of new technology. Certainly, some of our brothers and sisters need help, sometimes permanently; sometimes temporarily. However, taxation for redistribution doesn’t make the economy stronger; redistribution hurts growth.

Everyone on the island is better off because of the boat and the net. Taxing the inventors’ wealth or income and redistributing it removes resources from a highly productive new technology. Moreover, the income inequality that exists on the island is a sign of more opportunity, not less.

There are things the government can do that add to productivity – police and fire protection, national defense, enforcing the rule of law and protecting private property – but once government goes beyond this, it begins to undermine growth.

Today, 17% of all personal income is redistributed by government, while around 40% of all income is taxed and spent by the federal, state and local governments, combined. This is the reason the US economy has not attained 4% real GDP growth. European economies tax and spend even more and this is why they have grown slower than the US in recent decades.

In the meantime, government leaders around the world blame slow growth on a lack of investment by companies and attempt unsuccessfully to use negative interest rates to stimulate lending and investment. They also propose even more government spending and redistribution to help those that big government is holding back.

These policies won’t boost growth, and proposals to tax wealth and income because of the perceived problem of income inequality will ultimately reduce living standards. Increasing living standards requires less government, not more.

 

Income Inequality, Taxation, and Redistribution

Screen Shot 2019-11-11 at 11.40.57 AM.pngpage1image3813543856 page1image3813550032 page1image3813556080 page1image3813562128page1image3813568304

Consensus forecasts come from Bloomberg. This report was prepared by First Trust Advisors L. P., and reflects the current opinion of the authors. It is based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.

https://www.ftportfolios.com/Commentary/EconomicResearch/2019/11/11/income-inequality,-taxation,-and-redistribution

No Recession on the Horizon

Posted on Updated on

November 4, 2019

Brian S. Wesbury – Chief Economist, Robert Stein, CFA – Dep. Chief Economist, Strider Elass – Senior Economist, Andrew Opdyke, CFA – Economist, Bryce Gill – Economist

Since the earliest days of the current economic expansion, there have been naysayers asserting the US was on the brink of another recession. Remember all the fear about another wave of home foreclosures, or a disaster in commercial real estate, or the Fiscal Cliff, or Greece potentially leaving the Eurozone, or German bank defaults, or even the inverted yield curve earlier this year? The list goes on and on.

One by one, the pessimistic theories have been proven wrong. Yes, the US will eventually fall back into a recession. But we don’t see it happening this year or next, and probably not in 2021, either.

It’s early, but we think the US economy is poised to grow around 2.5% in 2020, about the same pace as this year. Earnings remain at solid levels in spite of the headwind of trade uncertainty, which should diminish in the months ahead. Technological innovation is proceeding at an amazing pace. The key M2 measure of the money supply has accelerated; M2 is up 6.6% in the past year versus a 3.5% gain the year ending one year ago. Businesses are continuing to adjust to a lower corporate tax rate and a better regulatory environment.

This does not mean that every aspect of the US economy is going to be rainbows, teddy bears, and flying unicorns. We are not experiencing the rapid economic growth we had back in the mid-1980s or late-1990s. But the economy has picked up from the Plow Horse pace of mid-2009 through early 2017.

While we expect the economy to grow around 2.5% next year, some sectors won’t do quite as well. For example, fundamentals like driving-age population growth and scrappage rates suggest sales of cars and light trucks (like pick-ups and SUVs) will probably continue to slow somewhat in the next few years. This isn’t reason to shed macroeconomic tears, however. Autos sales have been gradually slowing since 2016 while the overall economy has accelerated.

Just look at Friday’s employment report, which beat consensus expectations and revised up job growth for prior months. Unemployment ticked up to 3.6%, but essentially it was unchanged (from 3.52% to 3.56%) and is at a 50- year low. And, just about every category – female, non- college graduate, minority groups – are seeing unemployment rates near the lowest levels on record.

Although some analysts are bemoaning softness in business investment, “real” (inflation-adjusted) business investment is still 14.3% of real GDP, which is a higher share of real GDP than in any previous business cycle expansion. As a result, while productivity growth looks to have been tepid in the third quarter, the underlying trend has picked up, and that means faster growth in living standards than during the Plow Horse phase of the expansion.

Perhaps the biggest oddity is that Federal Reserve just finished cutting interest rates at three consecutive meetings. At the end of 2018, the Fed was projecting it would raise short-term interest rates 50 basis points this year, while forecasting the US economy would grow 2.3%, unemployment would drop to 3.5%, and PCE prices would increase 1.9%. The forecasts for growth and unemployment look solid, although PCE prices will be up more like 1.5% this year versus 1.9%. That shortfall in inflation doesn’t justify a turnaround from planned hikes to three cuts.

In turn, the current stance of monetary policy – and the Fed looking unlikely to raise rates anytime soon – suggests the path ahead is solid for economic growth and bullish for equities.

page1image367210208

Date/Time (CST)

U.S. Economic Data

Consensus

First Trust

Actual

Previous

11-4 / 9:00 am

Factory Orders – Sep

-0.5%

-0.2%

-0.6%

0.0%

11-5 / 7:30 am

Int’l Trade Balance – Sep

-$52.5 Bil

-$52.5 Bil

-$54.9 Bil

9:00 am

ISM Non Mfg Index – Oct

53.4

53.6

52.6

11-6 / 7:30 am

Q3 Non-Farm Productivity

+0.9%

+0.1%

+2.3%

7:30 am

Q3 Unit Labor Costs

+2.2%

+2.9%

+2.6%

11-7 / 7:30 am

Initial Claims – Nov 2

215K

215K

218K

2:00 pm

Consumer Credit– Oct

$15.0 Bil

$15.1 Bil

$17.9 Bil

11-8 / 9:00 am

U. Mich Consumer Sentiment -Nov

95.5

96.0

95.5

Consensus forecasts come from Bloomberg. This report was prepared by First Trust Advisors L. P., and reflects the current opinion of the authors. It is based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.

https://www.ftportfolios.com/Commentary/EconomicResearch/2019/11/4/no-recession-on-the-horizon

 

Another Fed Rate Cut on the Way

Posted on Updated on

 

Brian S. Wesbury – Chief Economist, Robert Stein, CFA – Dep. Chief Economist, Strider Elass – Senior Economist, Andrew Opdyke, CFA – Economist, Bryce Gill – Economist

October 28, 2019

At the close of business on Friday, the futures market in federal funds was putting the odds of a 25 basis point rate cut on Wednesday at 90%, which would place the federal funds rate in a range between 1.50 and 1.75%, the lowest it’s been since mid-2018. We hate to agree with the conventional wisdom, but in this case, we think it’s right. It’s very unlikely the Fed would let expectations of a rate cut get so high (and so soon) before a meeting, unless it was poised to fulfill those expectations.

In our opinion, this rate cut is completely unnecessary. The unemployment rate is 3.5%, much lower than the 4.2% that Fed policymakers think it will average over the long run. Nominal GDP – real GDP growth plus inflation – is up 5.0% annualized in the past two years, well above the level of short-term rates. The M2 measure of the money supply is up 6.5% from a year ago, a healthy acceleration from the 3.4% increase the year before.

As we argued back in July, the Fed has abandoned data dependence. Instead, it looks like the Fed is running monetary policy based on fears about trade negotiations, Brexit, and turbulence in the financial system, rather than actual hard economic data.

Lately the Fed has re-started the use of repos, forced by a combination of (their own) overly tight banking rules, large Treasury auctions (due to big federal deficits), and the inverted yield curve, which create periodic issues for banks seeking overnight funds.

The Fed could address these issues in three ways. First, it could loosen bank rules, some of which are designed for crisis situations, and reports earlier this month suggest bank supervisors are giving some smaller banks a bit more flexibility on liquidity rules to use Treasury securities instead of reserves, which should help in that regard. Second, the Fed could let banks pay higher borrowing costs and allow natural market forces to pressure banks into adjusting. Or third, the Fed could permanently add reserves to the system which would mean it simply doesn’t want eased regulations or free markets to work.

The last path, which we think is unneeded, is what the Fed announced a few weeks ago when it decided to start increasing the size of its balance sheet once again, all the while claiming it somehow isn’t quantitative easing. In our view, QE is increasing the size of the balance sheet to lift excess reserves, no matter what the Fed is buying, be it short or long-dated treasuries, furniture, mortgages, or stocks.

After the meeting this week, we think Fed Chief Jerome Powell will hint the Fed is done for the year, even though the issues he used to justify rate cuts are still in play. He has hinted at short-term rate stability before, but buckled to market pressures to cut rates further. This time we think the hint will stick. Unless trade negotiations go south quickly, we think this will be the end of the rate cutting cycle. In the meantime, stay bullish on equities and expect bond yields to move higher.

page1image407424704

Date/Time (CST)

U.S. Economic Data

Consensus

First Trust

Actual

Previous

10-30 / 7:30 am

Q3 GDP Advance Report

1.6%

1.7%

2.0%

7:30 am

Q3 GDP Chain Price Index

1.9%

1.7%

2.4%

10-31 / 7:30 am

Initial Claims – Oct 26

215K

214K

212K

7:30 am

Personal Income – Sep

+0.3%

+0.3%

+0.4%

7:30 am

Personal Spending – Sep

+0.3%

+0.3%

+0.1%

8:45 am

Chicago PMI

48.0

47.9

47.1

11-1 / 7:30 am

Non-Farm Payrolls – Oct

90K

85K

136K

7:30 am

Private Payrolls – Oct

83K

75K

114K

7:30 am

Manufacturing Payrolls – Oct

-50K

-75K

-2K

7:30 am

Unemployment Rate – Oct

3.6%

3.5%

3.5%

7:30 am

Average Hourly Earnings – Oct

+0.3%

+0.3%

0.0%

7:30 am

Average Weekly Hours – Oct

34.4

34.4

34.4

9:00 am

ISM Index – Oct

49.0

50.8

47.8

9:00 am

Construction Spending – Sep

+0.2%

+0.6%

+0.1%

afternoon

Total Car/Truck Sales – Oct

17.0 Mil

17.0 Mil

17.2 Mil

afternoon

Domestic Car/Truck Sales – Oct

13.3 Mil

13.2 Mil

13.4 Mil

Consensus forecasts come from Bloomberg. This report was prepared by First Trust Advisors L. P., and reflects the current opinion of the authors. It is based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.

https://www.ftportfolios.com/Commentary/EconomicResearch/2019/10/28/another-fed-rate-cut-on-the-way

More Tepid GDP Growth in Q3

Posted on Updated on

Brian S. Wesbury – Chief Economist, Robert Stein, CFA – Dep. Chief Economist Strider Elass – Senior Economist, Andrew Opdyke, CFA – Economist, Bryce Gill – Economist

October 21, 2019

The government doesn’t release its initial estimate on third quarter real GDP for another nine days, but at this point we have enough facts and figures to make an educated guess that it’ll come in at right around a 1.8% annual rate, maybe a little higher, maybe a little lower.

Given that the economy grew at a tepid 2.0% annual rate in Q2, we’re sure you’ll hear plenty of angst about slow growth. But we don’t believe these past quarters represent a permanent shift to slower growth.

Productivity growth (output per hour) has picked up from where it was earlier in the expansion – in our view due to tax cuts and deregulation – and so growth is positioned to re-accelerate. Trade angst has likely caused some downward pressure on production and trade, but hurricane Dorian didn’t help either, and the GM strike took a tenth of a percent or so off growth as well. The strike and storm are temporary effects, and we expect some resolution on trade in the months ahead. Congress could certainly make the trade situation better by passing USMCA (the new NAFTA). And the pressures on both China and the US to sign a first step agreement – or at least call a truce – are high.

In the meantime, monetary policy remains loose for economic purposes, suggesting fears of a recession are overblown. We also like to follow what we call “core GDP,” which is the combined real growth in personal consumption, business investment, and home building. Core GDP looks like it grew at a 2.2% annual rate in the third quarter.

In other words, while the economy may not be booming, the underlying trend remains healthy. Here’s how we get to our 1.8% real growth forecast for Q3:

Consumption: Car and light truck sales grew at a 0.2% annual rate in Q3, while “real” (inflation-adjusted) retail sales outside the auto sector grew at a 3.9% rate. Meanwhile, it looks like consumer spending on services grew at a 1.0% rate. Combined, that would mean real personal consumption (of goods and services combined) grew at a 2.6% annual rate, contributing 1.8 points to the real GDP growth rate (2.6 times the consumption share of GDP, which is 68%, equals 1.8).

Business Investment: It looks like continued investment in equipment and intellectual property was mostly offset by declines in commercial construction. Combined, business investment grew at a roughly 1.0% annual rate in Q3, which would add 0.1 point to real GDP growth. (1.0 times the 14% business investment share of GDP equals 0.1).

Home Building: Residential construction has been flat to negative in each of the past six quarters, and it looks like Q3 was no different, likely coming in at zero change for the quarter. That said, we expect a turn around in the quarters ahead as home builders are still constructing too few homes given population growth and the scrappage of older homes. In the meantime, a 0.0% pace in Q3 translates into zero net contribution to Q3 real GDP growth. (0.0 times the 4% residential construction share of GDP obviously equals 0.0).

Government: Looks like a relatively small 0.6% increase in real public-sector purchases in Q3, which would add 0.1 point to the real GDP growth rate. (0.6 times the government purchase share of GDP, which is 18%, equals 0.1).

Trade: Net exports’ effect on GDP has been very volatile in the past year, probably because of companies front- running – and then living with – tariffs and (hopefully) temporary trade barriers. Net exports added 0.7 points to the GDP growth rate in Q1, and then subtracted 0.7 points in Q2. We’re expecting a 0.4 point drag in Q3.

Inventories: Inventories are a potential wild-card because we are still waiting on data on what businesses did with their shelves and showrooms in September. We get a report on inventories next Monday, two days before the GDP report arrives, which may change our final forecast. In the meantime, it looks like the pace of inventory accumulation picked back up in Q3, which should add 0.2 points to real GDP growth.

Add it all up, and we get 1.8% annualized real GDP growth. The naysayers will surely use this report to claim victory, but we expect noticeably faster growth in the fourth quarter, led by an improvement in home building and less of a drag from commercial construction.

The bottom line is, nothing in the report will suggest a recession is on the way, or that Treasury yields should remain as low as they are today.

Date/Time (CST)

U.S. Economic Data

Consensus

First Trust

Actual

Previous

10-22 / 9:00 am

Existing Home Sales – Sep

5.450 Mil

5.360 Mil

5.490 Mil

10-24 / 7:30 am

Initial Claims – Oct 19

215K

214K

214K

7:30 am

Durable Goods – Sep

-0.7%

-1.0%

+0.2%

7:30 am

Durable Goods (Ex-Trans) – Sep

-0.2%

-0.1%

+0.5%

9:00 am

New Home Sales – Sep

0.702 Mil

0.701 Mil

0.713 Mil

96.0 96.0 96.0 Consensus forecasts come from Bloomberg. This report was prepared by First Trust Advisors L. P., and reflects the current opinion of the authors. It is based upon sources and data believed to be accurate and

reliable. Opinions and forward looking statements expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.

https://www.ftportfolios.com/Commentary/EconomicResearch/2019/10/21/more-tepid-gdp-growth-in-q3

Trade Clouds Parting

Posted on Updated on

October 14, 2019

 

Brian S. Wesbury – Chief Economist,  Robert Stein, CFA – Dep. Chief Economist, Strider Elass – Senior Economist, Andrew Opdyke, CFA – Economist,  Bryce Gill – Economist

Trade disputes have been an ongoing soap opera since President Trump took office. From steel tariffs to trade skirmishes with China, Japan, Canada, Mexico, South Korea, and the European Union, among others, it’s been hard to keep track!

But over the past few months we think a trend toward settlement of these disputes has emerged. Congress must still act on the new version of NAFTA with Mexico and Canada – USMCA – but as Democrats in the House of Representatives consider impeaching the president, they should also become more interested in showing they’re not only interested in all scandal, all the time. Passing some broad bi-partisan legislation and USMCA would be a good start. Look for it to get passed by early 2020, putting our disputes with our two largest export markets behind us.

From the perspective of US economic growth, the relationship with China has received way too much attention in the past couple of years. Even before the trade dispute started, US exports to China were a smaller share of our GDP than exports to Japan were before the Japanese economy went into a long-term funk in the early 1990s. If the US could prosper in the 1990s in spite of Japan’s problems, the US economy overall should be able to absorb softer demand for our products coming from China, which lags well behind Canada and Mexico as an export market.

But last week’s news indicates a deal is getting close. It will not be a huge deal that comprehensively puts all our trade issues with China to rest; not even close. But it will likely mean no new additional restrictions from now through 2020, and some rolling back of tariffs put in place in the last couple of years.

Meanwhile, the US recently concluded a trade deal with Japan.

None of this suggests we are fully out of the woods on trade issues. We doubt China will stop its theft of intellectual property, and so, expect a trade dispute with China to re-emerge in 2021 no matter who wins the presidential election next year. In the meantime, tariffs and the threat of other economic sanctions on China were always more damaging to China than the US. That’s why we never worried as much as the conventional wisdom.

But nothing that’s happened in the last few years suggests we are entering some sort of Smoot-Hawley-like downward spiral in international trade. US merchandise imports dropped 70% from 1929 to 1932 while exports dropped 69%. That’s a downward spiral! US imports didn’t reach 1929 levels again until 1946.

By contrast, even before the recent trade deals with Mexico, Canada, and Japan have been implemented, US trade with the rest of the world has been rising. In the past twelve months, exports and imports of goods and services combined have been $5.65 trillion, versus $5.63 trillion in calendar 2018, $5.26 trillion in 2017, and $4.93 trillion in 2016. Even without deals, trade could be hitting a record high this year.

The US economy has been and will continue to be much more resilient than many think. Trade has increased uncertainty, but was never as big a threat as feared. And, as trade relations improve, stocks will make up lost ground. We were never as worried as the conventional wisdom, and now it will come around.

 

Date/Time (CST)

U.S. Economic Data

Consensus

First Trust

Actual

Previous

10-15 / 7:30 am

Empire State Mfg Survey – Oct

1.0

5.1

2.0

10-16 / 7:30 am

Retail Sales – Sep

+0.3%

+0.2%

+0.4%

7:30 am

Retail Sales Ex-Auto – Sep

+0.2%

+0.2%

0.0%

9:00 am

Business Inventories – Aug

+0.2%

+0.1%

+0.4%

10-17 / 7:30 am

Initial Claims – Oct 13

215K

213K

210K

7:30 am

Housing Starts – Sep

1.318 Mil

1.320 Mil

1.364 Mil

7:30 am

Philly Fed Survey – Oct

8.0

13.4

12.0

8:15 am

Industrial Production – Sep

-0.2%

-0.1%

+0.6%

8:15 am

Capacity Utilization – Sep

77.7%

77.8%

77.9%

Consensus forecasts come from Bloomberg. This report was prepared by First Trust Advisors L. P., and reflects the current opinion of the authors. It is based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.

https://www.ftportfolios.com/Commentary/EconomicResearch/2019/10/14/trade-clouds-parting

Labor Market Continues to Roar

Posted on Updated on

Brian S. Wesbury – Chief Economist, Robert Stein, CFA – Dep. Chief Economist Strider Elass – Senior Economist, Andrew Opdyke, CFA – Economist, Bryce Gill – Economist

October 7, 201

In spite of all the fear-mongering about a recession, Friday’s employment report clearly showed we are not in an economic downturn. The best news in the report was that the unemployment rate fell to 3.5%, the lowest most Americans have seen in their lifetimes.

Even better, the drop in joblessness was broad-based. The Hispanic unemployment rate fell to 3.9%, while the Black unemployment rate remained at 5.5%, both record lows. These figures are much better than in prior business cycles. The lowest Hispanic jobless rate in a prior expansion was 4.8% in 2006; the lowest Black unemployment rate in a prior expansion was 7.0% in 2000.

Workers age 25+ who lack a high school degree have an unemployment rate of 4.8%. This is a group whose jobless rate peaked at 15.8% back in 2010. Remember the new stories suggesting these workers would never find new jobs because of automation? As it turns out, that was bunk.

Some analysts will bemoan the tepid pace of payroll growth in September, but it’s important to put the 136,000 jobs gained into context. First, the initial report on September payrolls has fallen short of consensus expectations in ten of the past twelve years. Second, September payrolls have a history of being revised higher. Since the economic expansion started, September has been revised up over the next two months by an average of 48,000, which, if that holds true this year, would put September roughly on par with the average pace of payroll growth seen over the past twelve months.

Remember all the talk a few years ago about how job growth was due to part-time work, not full-time jobs? That was never really true; instead, in our view, it was a case of some analysts letting their (in this case, conservative) political leanings get in the way of sound economic analysis. But now the story about part-time job growth would be even more absurd. Part-time workers are only 17.1% of all employed workers, versus a peak of 20.1% back in 2010. Since 1980, the lowest part-timer share has been 16.7%, which the economy looks on-track to hit sometime in 2020.

Some analysts are focusing on the fact that average hourly earnings for all private-sector workers were unchanged in September, and are up 2.9% from a year ago, slightly slower than the 3.0% growth in the year ending in September 2018. But average hourly earnings for production and non-supervisory workers (who tend to be lower paid than other workers), rose 0.2% in September and are up 3.5% from a year ago, a clear acceleration from the 3.0% gain in the year ending in September 2018. If you’ve been hoping that a tighter labor market would help shrink the earnings gap between high- and low-income workers, that finally seems to be happening.

Eventually, the pace of job creation should slow down somewhat as we get a larger share of economic growth from rising productivity, which has accelerated in response to deregulation and lower tax rates. There is a limit to how far unemployment can fall, and how many workers, on average, join the labor force each month. Payroll growth of about 100,000 per month is probably enough to keep the jobless rate at 3.5%; by contrast, payrolls are up 179,000 per month in the past year while civilian employment, an alternative measure of jobs that includes small-business start-ups, is up 183,000.

In the meantime, look for plenty of good news to keep coming from the labor market. And when these unjustified recessions fears fade, long term bond holders are in for a rude awakening.

 

Labor Market Continues to Roar

Date/Time (CST)

U.S. Economic Data

Consensus

First Trust

Actual

Previous

10-7 / 2:00 pm

Consumer Credit– Aug

$15.0 Bil

$18.5 Bil

$23.3 Bil

10-8 / 7:30 am

PPI – Sep

+0.1%

+0.1%

+0.1%

7:30 am

“Core” PPI – Sep

+0.2%

+0.1%

+0.3%

10-10 / 7:30 am

Initial Claims – Oct 5

218K

214K

219K

7:30 am

CPI – Sep

+0.1%

+0.1%

+0.1%

7:30 am

“Core” CPI – Sep

+0.2%

+0.2%

+0.3%

10-11 / 7:30 am

Import Prices – Sep

-0.1%

-0.2%

-0.5%

7:30 am

Export Prices – Sep

-0.1%

0.0%

-0.6%

9:00 am

U. Mich Consumer Sentiment- Oct

92.0

93.7

93.2

Consensus forecasts come from Bloomberg. This report was prepared by First Trust Advisors L. P., and reflects the current opinion of the authors. It is based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.

 

https://www.ftportfolios.com/Commentary/EconomicResearch/2019/10/7/labor-market-continues-to-roar

Repo Turmoil

Posted on Updated on

Brian S. Wesbury – Chief Economist, Robert Stein, CFA – Dep. Chief Economist,  Strider Elass – Senior Economist, Andrew Opdyke, CFA – Economist, Bryce Gill – Economist

September 30, 2019

In Ronald Reagan’s famous A Time For Choosing speech in 1964, he said “…the more the plans fail, the more the planners plan.” We were reminded of this recently after pundits freaked out when the New York Federal Reserve injected reserves into the banking system to keep some short-term rates from rising.

A few things to keep in mind:

  1. 1)  The jump in the overnight repo and federal funds rates

    was at the “tail” of the market. Most trading in the market was “normal,” with average rates rising just a little, but some small amount of trading went off at a higher bid. In other words, this was NOT a serious system-wide shortage of reserves.

  2. 2)  The reason most trading saw little impact is because there are $1.4 trillion of “excess reserves” in the banking system. So, contrary to much of the press coverage of this issue, the NY Fed repo operations were not due to a shortage of reserves.
  3. 3)  The actual amount of reserve operations, somewhere between $45 and $75 billion per day, is well below the level of daily trading in reserves in previous decades. During the 1990s, for example, $150-250 billion in federal funds traded each day. In the 2000s, it went above $300 billion.

The recent turmoil is because two things have changed since 2008 that have created new problems for the banking system and the Fed. First, the Fed decided to stop managing policy like it used to. Second, new banking regulations have created liquidity problems in the banking system even when banks have ample capital, liquidity, and profits.

Central banks used to add and subtract reserves in order to stabilize overnight rates. Now, central banks globally have injected massive amounts of excess reserves into the system and attempt to manage those reserves by moving interest rates directly. Excess reserves are potential money supply growth, and the Fed believes it can simply pay banks to hold those reserves, avoiding inflation. In Europe and Japan, central banks are trying to use negative rates to “force” banks to lend. In other words, central banks have upped their influence over the banking system through control of even more assets.

At the same time, post-2008 banking regulations have handcuffed banks in significant ways. Central banks may have injected massive reserves, but they then offset this by forcing banks to comply with the Liquidity Coverage Ratio (LCR), which forces banks to hold enough liquidity to last a month in a significant financial and economic crisis scenario where unemployment climbs to roughly 10%.

The result? In spite of excess reserves in the system, banks can still run into liquidity problems even when they are in great financial shape.

This leaves the Fed with a dilemma. Will they relax these overly strict rules, even during short periods of stress, or will they use the repo craziness of recent weeks to justify even more Quantitative Easing?

Jerome Powell, at his press conference in September said, “I think if we concluded that we needed to raise the level of required reserves for banks to meet the LCR, we’d probably raise the level of reserves rather than lower the LCR.” Once the planners fail, they end up planning and micro-managing even more. Student loan problems and the government’s role in subprime loans suggests this isn’t a great idea.

 

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Date/Time (CST) U.S. Economic Data Consensus First Trust Actual Previous

9-30 / 8:45 am Chicago PMI – Sep 50.0 47.2 47.1 50.4

10-1 / 9:00 am ISM Index – Sep 50.2 50.6 49.1

9:00 am Construction Spending – Aug +0.4% +0.2% +0.1%

afternoon Total Car/Truck Sales – Sep 17.0 Mil 17.0 Mil 17.1 Mil

afternoon Domestic Car/Truck Sales – Sep 13.2 Mil 13.2 Mil 13.0 Mil

10-3 / 7:30 am Initial Claims – Sep 29 215K 212K 213K

9:00 am ISM Non Mfg Index – Sep 55.0 55.1 56.4

9:00 am Factory Orders – Sep -0.5% -0.2% +1.4%

10-4 / 7:30 am Non-Farm Payrolls – Sep 145K 120K 130K

7:30 am Private Payrolls – Sep 125K 105K 96K

7:30 am Manufacturing Payrolls – Sep 4K -4K 3K

7:30 am Unemployment Rate – Sep 3.7% 3.7% 3.7%

7:30 am Average Hourly Earnings – Sep +0.3% +0.3% +0.4%

7:30 am Average Weekly Hours – Sep 34.4 34.4 34.4

7:30 am Int’l Trade Balance – Aug -$54.5 Bil -$54.5 Bil -$54.0 Bil

Consensus forecasts come from Bloomberg. This report was prepared by First Trust Advisors L. P., and reflects the current opinion of the authors. It is based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.

https://www.ftportfolios.com/Commentary/EconomicResearch/2019/9/30/repo-turmoil

Fear the Spending, Not the Debt

Posted on Updated on

Brian S. Wesbury – Chief Economis, Robert Stein, CFA – Dep. Chief Economist,  Strider Elass – Senior Economist, Andrew Opdyke, CFA – Economist Bryce Gill – Economist

September 23, 2019

Never underestimate the ability of politicians to mess up a good thing. They’re certainly trying in Washington, D.C.

Unfortunately, many people are concerned about the wrong thing. Nice even numbers fascinate people, and through the first eleven months of this fiscal year (October 2018 through August 2019), the U.S. budget deficit was over $1 trillion ($1.067 trillion to be exact), up 19% versus the same eleven months the year before. The government usually runs a surplus in September, so the budget deficit for full Fiscal Year 2019 should come in at roughly $950 billion – that’s close enough to $1 trillion forgovernment work.

Meanwhile, the public debt is at a record high $22.5 trillion, and the Congressional Budget Office projects roughly $1 trillion annual deficits as far as the eye can see. So, it’s easy to understand why so many are concerned. Some even think the US is headed for bankruptcy. And, unlike with Greece, there’sno one big enough to bail-out the US.

Here’s what they’re missing: in spite of record debt, the net interest on the debt should finish the year at 1.8% of GDP. For perspective, that’s lower than it ever was from 1980 through 2001, during which it averaged 2.7% of GDP – and some of those years saw budget surpluses.

Moreover, net interest relative to GDP is unlikely to rise dramatically anytime soon. Imagine we wake up tomorrow morning and Treasury yields are miraculously at 4.0% across the entire yield curve, from short-term securities to long. That would be well above the 2.5% average interest rate taxpayers already pay on all marketable Treasury debt outstanding, including the securities issued many years ago.

Moving from 2.5% to 4.0% is a 60% increase in interest costs, which also means that, once we roll-over enough debt, the interest burden relative to GDP would rise by 60%, as well. But a 60% increase from 1.8% of GDP, would put us at 2.9%, very close to the long-term average in the 1980s and 1990s. And,interest rates aren’t going to 4% in the real world anytime soon, plus it takes time for the debt to rollover.

The Treasury Department could use the current era of low long-term interest rates to lengthen the maturity of the debt. The best idea we’ve seen is for the Treasury to issue perpetual inflation-indexed debt and then step aside and let the private sector slice and dice these instruments into bespoke securities. The market could create everything from plain vanilla 10-year Treasury notes, to 50-year zero-coupon debt, to debt instrumentsthat don’t pay interest for the first twelve and a half years and then pay every six months after that.

But here’s another reason not to fear the current debt of$22.5 trillion: the assets of all US households combined are $129.7 trillion. Yes, they have debts worth $16.2 trillion, but that still leaves a net worth of $113.5 trillion.

Now let’s imagine households paid off not only their own debts but the federal government’s, as well. That would have left them with $91.4 trillion in mid-2019. That’s about 4.3 times GDP. From the early 1950s through the mid-1990s, this ratio – the net worth households would have after paying off their debt and the national debt – hovered between 2.8 and 3.3 times GDP.  Now it’s near a record high.

None of this means US fiscal policy is in a good place; it’s just that the debt is manageable, we’re not going bankrupt. The real fiscal problem is the level of spending and the need to fix entitlements: Social Security, Medicare, Medicaid, and“Obamacare.” If we don’t fix these programs, then in the next few decades the federal government will be spending relative to GDP in a normal year as much as it was spending at the peak of the crisis after the last recession. And when all we hear about is the deficit, it takes away the focus on spending and lets politicians sell the idea that it’s all excessively low taxes that cause it, even though tax collections are at an all-time high.

The problem is that out of control spending gradually erodes the character of the American people. It pushes citizens toward dependence on government checks for their income, rather than their own efforts. In a democracy, we want our fellow citizens to know the value of hard work, shrewd investment, and entrepreneurship. Having too many people living off taxpayers is no way to conserve those traits.

Date/Time (CST)

U.S. Economic Data

Consensus

First Trust

Actual

Previous

9-25 / 9:00 am

New Home Sales – Aug

0.656 Mil

0.654 Mil

0.635 Mil

9-26 / 7:30 am

Initial Claims – Sep 21

211K

211K

208K

7:30 am

Q2 GDP Final Report

2.0%

1.9%

2.0%

7:30 am

Q2 GDP Chain Price Index

2.4%

2.4%

2.4%

9-27 / 7:30 am

Personal Income – Aug

+0.4%

+0.4%

+0.1%

7:30 am

Personal Spending – Aug

+0.3%

+0.3%

+0.6%

7:30 am

Durable Goods – Aug

-1.2%

-1.0%

+2.0%

7:30 am 9:00 am

Durable Goods (Ex-Trans) – Aug U. Mich Consumer Sentiment- Sep

+0.3%

92.1

+0.6% 92.0

-0.4% 92.0

Consensus forecasts come from Bloomberg. This report was prepared by First Trust Advisors L. P., and reflects the current opinion of the authors. It is based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.

https://www.ftportfolios.com/Commentary/EconomicResearch/2019/9/23/fear-the-spending,-not-the-debt

We’re All Keynesians Now

Posted on Updated on

September 16, 2019

Brian S. Wesbury – Chief Economist, Robert Stein, CFA – Dep. Chief Economist, Strider Elass – Senior Economist, Andrew Opdyke, CFA – Economist, Bryce Gill – Economist

“We are all Keynesians now,” is a phrase that caught on inthe late 1960s and early 1970s, variously attributed to Milton Friedman and President Richard Nixon. Uncle Milty was commenting on the general political/economic environment, not saying he was a Keynesian. Richard Nixon, on the other hand, actually said “I am now a Keynesian.”

We bring this up because it’s happening again. While we won’t explain the entire theory of economics proposed by John Maynard Keynes, it was a “demand-side” belief system. A key tenant was using government spending, budget deficits, and loose money to let bureaucrats exert control over the economy.

After its failure in the 1970s, Ronald Reagan and Margaret Thatcher changed the world by moving it back toward a supply- side, small government mentality. The U.S. and U.K. moved from high inflation, high unemployment, and slow growth, to low inflation, low unemployment, and strong growth.

But, since the crisis of 2008, the commanding heights of economic control have once again shifted toward big government. Quantitative easing, zero percent interest rate policy (ZIRP), negative interest rate policy (NIRP), TARP, infrastructure spending, minimum wages, and new ideas for wealth taxes, free healthcare,…etc., have all been either proposed or tried.

The result?  Ever since government assumed the high ground, global growth has slowed. Especially when compared to what it was in the 1980s and 1990s when government was reducing its role in the economy.

Does the consistent failure to create growth matter to those who are proposing bigger government? Absolutely not. They ignore it and call for even more government intervention.

Just this past week, Mario Draghi, in his last action as head of the European Central Bank, cut the interest rate it pays on excess reserves to -0.5% from -0.4%. But negative interest rates have been little short of a disaster. European and Japanese banks are suffering. Their loans and economic activity haven’t budged. There is zero evidence that negative interest rates help economic activity, but plenty of evidence they hurt.

 

Draghi, himself, called for “fiscal” policy help for theeconomy, but he wasn’t suggesting tax cuts and regulatory relief, he meant more government spending – a purely Keynesian prescription.

Here’s the problem. Demand-side, Keynesian policiesdon’t work. Growth comes from the supply-side – from inventions, innovation, and entrepreneurship. In fact, between 2009 and 2016, without the tremendous tailwinds from the likes of fracking, smartphones, apps, and 3-D printing, it is easy to believe that two major tax hikes, increases in regulation and spending, and massive fines on financial institutions would have pushed real GDP growth negative.

Government is bigger and tax rates and regulation more burdensome in Europe. That’s why it’s lagged U.S. growth for decades. What the world learned in the 1980s was quickly forgotten by Europe, and now it’s being forgotten by thought leaders in the U.S.

These old ideas have also transfixed investors, who cannot think about the economy without coming at it from a government policy point of view. How much new QE will the ECB propose?And what about President Trump’s tweet that the U.S. should have negative interest rates?

This is all dangerous for long-term economic growth in both the U.S. and abroad. People will suffer to the extent these policies are followed. The good news is that, in the near-term, corporate tax cuts in the U.S. and a continued reduction in regulation are positives for the supply-side, more than offsetting the cost of trying to bring China in-line with global norms. Thanks to these supply-side policies, the U.S. does not face a recession. New technology is continuing to lower costs, increase profit margins, and boost earnings.

None of this positive news is from government spending. In fact, government spending only crowds out the private sector and reduces investment and opportunity. If the U.S. does not change course, and follows Europe through the Keynesian looking-glass, it will eventually pay a price. A damaging price.  But for now, it’s just words and fear. And profits and growth beat out words and fear every day.

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Date/Time (CST)

U.S. Economic Data

Consensus

First Trust

Actual

Previous

9-16 / 7:30 am

Empire State Mfg Survey – Sep

4.0

5.4

2.0

4.8

9-17 / 8:15 am

Industrial Production – Aug

+0.2%

+0.1%

-0.2%

8:15 am

Capacity Utilization – Aug

77.6%

77.5%

77.5%

9-18 / 7:30 am

Housing Starts – Aug

1.247 Mil

1.255 Mil

1.191 Mil

9-19 / 7:30 am

Initial Claims – Sep 14

212K

212K

204K

7:30 am

Philly Fed Survey – Sep

11.0

15.5

16.8

9:00 am

Existing Home Sales – Aug

5.370 Mil

5.440 Mil

5.420 Mil

Consensus forecasts come from Bloomberg. This report was prepared by First Trust Advisors L. P., and reflects the current opinion of the authors. It is based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.

https://www.ftportfolios.com/Commentary/EconomicResearch/2019/9/16/were-all-keynesians-now

Rorschach Economics

Posted on Updated on

September 9, 2019

Brian S. Wesbury – Chief Economist, Robert Stein, CFA – Dep. Chief Economist, Strider Elass – Senior Economist, Andrew Opdyke, CFA – Economist, Bryce Gill – Economist

We’ve all heard of the Rorschach test – you know, the one where you look at an ink blot and say what you see. The theoryis that it’s a tunnel into someone’s subconscious thoughts ordesires. If you’re obsessed with hockey you might look at an ink splotch and see hockey sticks, or pucks, a Stanley Cup, or even Bobby Orr; if someone is obsessed with outer space, she could look at the same picture and see flying saucers or aliens.

These tests come to mind because lately, three dominant types of economic thought seem to analyze every data point and come to conclusions that always support their particular interpretation of the US economy.

One group is obsessed with President Trump’s tariffs, thinking they are slowing the economy. They even search the internet and earnings calls to find mentions of “trade uncertainty”to prove their point. But uncertainty is one thing, data are quite another. Total US trade in goods and services (exports plus imports, combined) was $4.9 trillion in 2016. In the past twelve months, it’s been $5.7 trillion, an increase of 14.5%. In other words, trade has grown faster than the overall economy.

Yes, we know trade tensions with China are real and important for some companies. And yes, we look forward to the US reaching an agreement with China. But the Middle Kingdom is not the be-all end-all when it comes to world trade. Supply chains are moving – trade is dynamic – which is why the costs to the US economy have been far less than static analysis predicted.

So far this year, US imports from China are down 12.3% from the same period in 2018, but imports from Vietnam are up 33.2%, and they are up 20.2% from Taiwan, 9.8% from South Korea, 9.7% from India, and 6.3% from Mexico. Meanwhile, we’re confident that Congress will pass the new version ofNAFTA by early 2020, facilitating stronger trade ties with Canada and Mexico. Trade is moving forward, not dying.

The second major thought group consists of those whoop pose the president’s policies in general and are looking for any way they can to discredit the tax cuts and deregulation. They love to focus on supposedly weak business investment, which they say signals the ineffectiveness of the president’s policies.

The problem with this theory is that, since the tax cut was enacted at the end of 2017, “real” (inflation-adjusted) business investment in equipment has grown at a 3.4% annual rate, while real business fixed investment (equipment, structures, and intellectual property) has grown at a 4.5% annual rate. These are respectable numbers. It was inventories that held down GDP growth back in Q2, and this can’t last with a strong consumer.

Moreover, productivity growth (the growth in worker output per hour) has accelerated, growing at a 1.7% annualized rate since the start of 2018 (and up at a faster 2.9% annualized rate so far in 2019), versus a 0.9% annualized rate for the four years ending in 2016.

The last of the three thought groups have been obsessing about the next recession since the moment the last one ended. Any day now they expect the “sugar high” to end.

They celebrated when the ISM Manufacturing index dropped to 49.1 last week, but then the ISM index for the much larger service sector surprised on the high side at 56.4. For every data point that signals a slow down, there are nine that don’t.

For example, a soft 130,000 gain in headline payroll growth for August dominated headlines, but civilian employment (which includes small business) surged 590,000, wage growth picked up, labor force participation moved higher, initial claims remained low, and auto and truck sales rose. Not exactly negative news.

If someone has an axe to grind about the US economy, we’re sure they’ll see a recession in whatever blot or piece of data they look at. They can always find something to worry about. Nonetheless, we continue to believe that optimism should be the default position for investors when it comes to the US.

 

 

Date/Time (CST) U.S. Economic Data Consensus First Trust Actual Previous

9-9 / 2:00 pm Consumer Credit– Jul $16.0 Bil $16.2 Bil $14.6 Bil

9-11 / 7:30 am PPI – Aug +0.0% +0.1% +0.2%

7:30 am “Core” PPI – Aug +0.2% +0.1% -0.1%

9-12 / 7:30 am Initial Claims – Sep 7 215K 216K 217K

7:30 am CPI – Aug +0.1% +0.1% +0.3%

7:30 am “Core” CPI – Aug +0.2% +0.2% +0.3%

9-13 / 7:30 am Retail Sales – Aug +0.2% +0.1% +0.7%

7:30 am Retail Sales Ex-Auto – Aug +0.1% 0.0% +1.0%

7:30 am Import Prices – Aug -0.5% 0.0% +0.2%

7:30 am Export Prices – Aug -0.3% +0.1% +0.2%

9:00 am Business Inventories – Jul +0.3% +0.4% 0.0%

9:00 am U. Mich Consumer Sentiment- Sep 90.4 90.3 89.8

Consensus forecasts come from Bloomberg. This report was prepared by First Trust Advisors L. P., and reflects the current opinion of the authors. It is based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.

https://www.ftportfolios.com/Commentary/EconomicResearch/2019/9/9/rorschach-economics