Weekly jobless claims breakout

Weekly initial jobless claims fell 21,000 in the latest week to 434,000, the fourth drop in five weeks and putting it below the bottom end of the range over the past year.

The 4-week moving average dropped 5,000 to 453,250, and continuing claims slipped 122,000 to 4.4 million.



Weekly jobless claims are still too high, but the recent drop is a positive development, suggesting that economic activity may be slowly accelerating.

However, the modest decline in layoffs is not necessarily a signal that companies are starting to increase hiring.  Uncertainty abounds and many businesses will probably take a wait-and-see attitude before significantly adding employees.

New home sales rise

Stabilizing at a low level

New home sales, defined by the Commerce Department  “as a deposit taken or sales agreement signed,” rose 6.6% in September to a seasonally adjusted annual rate of 307,000, beating the Bloomberg estimate of 300,000. 

Sales remain 21.5% below one year ago, as the market continues to recover from the dearth in sales that followed the expiration of the tax credit at the end of April.

In the meantime, the supply of homes available for sale fell from 206,000 in August to 204,000 in September.  Based on actual sales, that translates into a 8.0 month supply, down from 8.6 months.



According the the Commerce Department, it takes four months to establish a new trend, and new home sales do appear to be stabilizing, according to recent data.

Unlike existing home sales, which account for about 90% of all sales, actual inventory that is on the market has come down dramatically over the last four years – see charts – and any decent uptick in activity could quickly eat into supply and bolster new home builders.

However, foreclosures of late model homes remain one of several obstacles that might block the path to a more permanent recovery. Moreover, the repurcussions related to faulty loan documentation have not yet fully played out and could complicate a recovery in housing.

Minor improvement in consumer confidence

But mood still gloomy

The Conference Board’s Consumer Confidence Index increased from 48.6 in September to 50.2 in October.  Practically speaking, however, consumer confidence remains under pressure and has been hovering in a narrow range for over a year.

Moreover, it is still very close to where it stood when the recession ended in June 2009.



The sluggish job market and the fragile recovery are the primary reasons clouds aren’t clearing over confidence.

Nonetheless, consumer spending has been in a modest upward trend, though still anxious consumers continue to hinder sales growth.

Existing home sales mount slow recovery

Existing home sales posted a strong 10.0% rise in September to a seasonally adjusted annual rate of 4.53 million units, but sales remain 19.1% below the 5.61 million-unit pace one year ago.  The supply of homes fell from 12.0 months in August to 10.7 months and remains elevated.



Lawrence Yun, chief economist for the National Association of Realtors, said, “A housing recovery is taking place but will be choppy at times depending on the duration and impact of a foreclosure moratorium. But the overall direction should be a gradual rising trend in home sales with buyers responding to historically low mortgage interest rates and very favorable affordability conditions.”

The jump in home sales last month is encouraging and is a sign that the housing market is slowly recovering from the tax-credit induced hangover that pulled sales from the summer and landed them in the spring (graphically demonstrated in the chart above).

But with several false starts behind us, it may be too soon to declare that a recovery is in place, especially since September sales are barely ahead of the lows reached at the end of 2008 and are 19% behind one year ago.

Volatility seems likely to continue as buyers, encouraged by rock bottom interest rates, slowly return to the market, but rates near 4% have not had the anticipated impact that many had anticipated.

Obstacles remain, including high unemployment, elevated jobless claims and the high number foreclosures.  And speaking of foreclosures, the affect on housing that may occur from the problems with missing mortgage documents may add to anxieties in an already unsettled market.

On the one hand, the mess could be resolved quickly and lenders that have halted foreclosures might quickly pick back up where they left off. Or long delays could quickly threaten any recovery that may be unfolding.  Stay tuned.

Leading Economic Index reflects slow growth

The Conference Board’s Leading Economic Index continues to suggest that slow growth is the most likely course for the recovery.  The index designed to forecast future trends rose 0.3% in September, which follows a 0.1% increase in August, and a 0.2% increase in July.






















“The LEI remains on a general upward trend, but it is growing at its slowest pace since the middle of 2009. There isn’t any indication of a relapse into another downturn through the end of the year, according to Ataman Ozyildirim, an economist with the Conference Board.

Ken Goldstein, economist at The Conference Board, said, “More than a year after the recession officially ended, the economy is slow and has no forward momentum. The LEI suggests little change in economic conditions through the holidays or the early months of 2011.”

Though the Leading Index is pointing to further gains in economic activity, the largest positive contributor, interest rate spread, and the third largest contributor, real money supply, come more under the heading of intangibles.

Notably, the Coincident Economic Index held steady for the second-straight month after a 0.1% rise in July, which is a reflection of the slowdown over the summer. The Coincident Index, which measures current economic conditions, hit a bottom in June 2009, the month the recession ended.

Weekly jobless claims drop but still range-bound

Weekly initial jobless claims dropped 23,000 in the latest week to 452,000, but the impressive decline comes on the heels of an upwardly revised 26,000 in the prior week.

The 4-week moving average, which removes some of the volatility from the weekly number, dipped 4,250 to 458,000.



For about a year, jobless claims have wandered within a narrow range, holding at an elevated level that signifies neither a recession nor an acceleration in economic activity that would bring down the unemployment rate.

Therefore, jobless claims well above 400,000 is likely hardening the views of Fed members who want to announce new moves at the November 2-3 meeting.

Housing starts offer ray of sunshine

Housing starts grew 0.3% to a seasonally adjusted annual rate of 610,000 in September, which included a 4.4% rise in single-family starts to 403,000.

Building permits, which provide a glimpse of how the industry is expected to fare, fell 5.6% to an annualized rate of 539,000 units.  But weakness was primarily in the volatile multi-family category, as single-family permits increased 0.5% to 405,000.



Single-family permits hit bottom over a year ago and began a slow climb before turning over and beginning a five-month descent that began in April.

It does appear that single-family starts may be bottoming once again, as builder confidence did improve in October.  Still, many of headwinds that have been buffeting the new home market have yet to abate.

Home builder confidence shows signs of bottoming

Home builder confidence improved a few ticks in the latest survey by the National Association of Home Builders and Wells Fargo, suggesting that the tax credit that sucked demand from the summer into the spring is finally abating.

The Housing Market Index improved from 13 in September to 16 in October but remains well below the level of 50, which would indicate builders are neither optimistic or pessimistic.  Traffic also picked up, rebounding from an 18 month low of 9 to 11 as increased buyer interest also lifted the mood among builders.



“Builders are starting to see some flickers of interest among potential buyers, and are hopeful that this interest will translate to more sales in the coming months," said NAHB Chairman Bob Jones, a home builder from Bloomfield Hills, Mich.

"However, because most builders still have no access to credit for building homes, there is a real concern that we will not be able to meet the pent-up demand when consumers are ready to get back in the market. This problem threatens to severely slow the housing and economic recovery."

Bank lending standards remain tight and the firestorm created by the issues related to foreclosures could further delay any recovery.

But builder sentiment, which is a good indicator of housing starts and the new home market, is suggesting that demand is stabilizing.

Though still at low levels, the uptick in confidence may be a sign that rock bottom rates are starting to have the desired effect. The next few months should help to confirm if a new trend is developing. Stay tuned.

Industrial production stalls in September

Industrial production fell a disappointing 0.2% in September, the first decline in over a year and behind the Bloomberg estimate of a positive 0.2%. Production has now been up by 0.2% or less in three of the last four months.  Capacity utilization slipped from 74.8% to 74.7%.

The skinny
Industrial production, which encompasses manufacturing, has been the lone bright spot in what has otherwise been a weak economic recovery, as strong gains in the early stages of the rebound helped to replace warehouses left bare by the near shuttering of production in the U.S. and around the globe.

But the inventory rebuilding cycle is fading, as inventories are back near levels seen over much of the last decade (based on current sales).

Rising global demand is helping to support production, but significant new gains are going to have to come from increased demand at home.

Fed, ISM price surveys suggest modest upward pricing pressures

Some are arguing that the weak recovery in the U.S. could propel the economy into an unwanted deflationary spiral.  Others suggest that the economy is on the verge of an inflationary spiral, especially since the Fed appears poised to begin a new round of bond buys, compliments of its unlimited ability to print money.

Three key surveys that measure many different aspects of manufacturing and one that looks at service industries, including prices, provide clues as to what may happen down the road.

First, the Philly Fed (mid-Atlantic region) and Empire (New York) surveys, which measure the ups and downs in prices paid for raw materials (red, blue), are detecting pricing pressures at the early stages of production.



However, demand has been sluggish and firms have very little pricing power – another way of saying that they are having trouble raising prices.  This is especially evident in the Philly Fed’s survey (purple) of prices received.

The Institute for Supply Management’s survey looks at both manufacturing and non-manufacturing conditions around the nation. 



ISM manufacturing confirms much of what we are seeing in raw material prices, while ISM non-manufacturing reflects more modest pricing pressures. Unlike the Fed indexes, ISM does not offer a prices received subcomponent.

Wholesale prices are rising
Consumer prices continue to languish and the latest CPI shows that core inflation is at a multi-decade low, but the story is a bit different at the wholesale level - chart.

The summer soft patch in the U.S., along with temporary gains in the dollar, did mute price increases just a few months ago. But commodity prices are once again on the rise, which was reflected in much of September’s data, as well as the Empire’s report in October.  And the continued rise in many raw materials, coupled with the dollar's weakness, suggests that the upward pressure in prices will likely intensify, at least in the short term.

Consequently, without a new global recession and a contraction in the U.S., it is difficult to see how a general decline in the price level can take hold.

Follow up look at retail sales – trends are favorable

Retail sales last month grew a solid 0.6%, which comes on top of upward revisions to both July and August.  Ex-autos, sales were up a respectable 0.4% last month.  And if the sometimes volatile gasoline station category is removed, which takes into account swings in gasoline prices, so-called core sales also increased 0.4%.

Despite falling payrolls over the last four months and consumer sentiment that is hovering near levels seen at the start of the recovery, spending at the nation’s retailers continues to improve.


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Sales and sale ex-autos are now up for the third-straight month, while core sales extended its winning streak to four months.


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Both charts highlight that economic activity is improving, albeit at a modest pace.

The first chart, which does a better job of illustrating the trend, reveals that the upward drift is slowly accelerating.

Consumer sentiment still struggling

Preliminary data showed that the University of Michigan’s Consumer Sentiment Index fell from 68.2 at the end of September to 67.9 in mid-October, below expectations.

Retail sales are rising as anxious consumers slowly part with the dollars in their wallets and purses, but the high level of unemployment and worries about job security are hampering confidence.



Interestingly, inflation expectations increased from 2.2% in September to 2.6% – still low but stabilizing.

Consumer price inflation remains soft

The Consumer Price Index rose 0.1% in September, while the core rate of inflation, which excludes food and energy, held steady for the second-consecutive month.

Inflation, or the lack of, has been a huge focus of the Fed recently. The drop in the closely-followed year-over-year core rate from 0.9% in August to 0.8% in September is very likely getting the attention of policy makers and helping to solidify a decision to implement a new round of easing (see QE appears to be on the way).



Ben Bernanke said this morning in a speech entitled Monetary policy objectives in a low-inflation environment (if that title isn’t a hint at new measures, I’m not sure what is) that the Fed would like to see inflation at “about 2% or a bit below.”

Bernanke’s comment that “given the Committee's objectives, there would appear--all else being equal--to be a case for further action” suggests new measures are in the works. However, he gave no assurances that new bond buys will be announced at the November 3 meeting.

Still, a core rate of inflation at 0.8% signals that something will be announced next month.

Disinflation is abating
It is important to point out that the slowdown in the rate of inflation – disinflation – has mostly abated at the retail level. And price increases at the wholesale level have moved modestly higher over the last year.

As I’ve mentioned in the past, I don’t believe there is much of a risk of deflation, and central bankers have echoed similar sentiments.  But inflation that is too low is a big factor that is driving monetary policy.
If new measures are announced, and that seems likely, the risk of an overshoot is real, which could unleash a jump in prices that nobody wants.

QE appears to be on the way

Possibly pulling the trigger at the November meeting

Quantitative easing, or QE for short, is apparently the Fed’s most preferred method for lifting inflation and creating jobs.

First, a quick primer: QE is the purchases of government bonds designed to increase excess banking reserves at a time when conventional monetary policy has already brought short-term rates down to zero.

Like an individual who buys bonds, cash is transferred from the buyer to the seller, who places funds in his/her bank account.

Unlike an individual, the Fed creates new money to make the purchases, and when the newly-minted cash is deposited into a bank account, the banking system gets new reserves which can be lent out.

Problem – banks already hold $1 trillion in excess reserves that could be lent to consumers or small businesses but are being held safely at the Fed, earning a paltry 0.25%.

Fed’s last statement and minutes
Looking at the last Fed statement and taking in the many speeches given by various Fed officials in recent weeks, it’s becoming increasing clear that the Federal Reserve sees deflation as only a minor threat.  But it is concerned about a rate of inflation that it believes is too low.

Looking at comments in the last press release:

“Measures of underlying inflation are currently at levels somewhat below those the Committee judges most consistent, over the longer run, with its mandate to promote maximum employment and price stability. With substantial resource slack continuing to restrain cost pressures and longer-term inflation expectations stable, inflation is likely to remain subdued for some time before rising to levels the Committee considers consistent with its mandate.”

Let’s repeat: stating that it believes inflation will eventually rise to levels “consistent with its mandate” puts the central bank on the record as saying that deflation is not a major concern.

Possible, yes. Probable, no.

The Fed went on to say:

“The Committee will continue to monitor the economic outlook and financial developments and is prepared to provide additional accommodation if needed to support the economic recovery and to return inflation, over time, to levels consistent with its mandate.”

Hence, the Fed was quite clear that it will do what’s needed to stimulate demand and raise the rate of inflation.

Based on recent speeches and greater detail offered by the minutes from the FOMC’s latest meeting, the Fed is worried that disinflation and falling inflation expectations will encourage consumers to delay purchases, which would hamper the economic recovery.

As it noted in the minutes, “With short-term nominal interest rates constrained by the zero bound, a decline in short-term inflation expectations increases short-term real interest rates (that is, the difference between nominal interest rates and expected inflation), thereby damping aggregate demand.

“Conversely, in such circumstances, an increase in inflation expectations lowers short-term real interest rates, stimulating the economy.”

A number of methods to facilitate such a strategy were discussed, but given the movement in the dollar, stocks and commodity prices, most expect a new round of QE.

Producer price increases still modest

But disinflationary trend at wholesale level has run its course

The Producer Price Index for September rose 0.4%, the second such monthly increase, as food costs jumped . The core PPI, which excludes food and energy, remained muted, rising 0.1% for the second month in a row.

Year-over-year (y/y), the headline number increased from 3.0% in August to 4.0% in September. The core PPI firmed from 1.3% y/y to 1.5% y/y.

Producer prices are more volatile than consumer prices, but at still considered a top-tier release, as it provides a good look at what’s happening to businesses costs.  Unlike core inflation at the retail level, which has held steady at 0.9% for several months, core wholesale inflation has already bottomed and has been ticking higher for about a year (see chart below).



Taking a peak at prices at the earlier stages of production, the indexes below have rebounded nicely, though recent weakness in the U.S. economy has dampened the rate of acceleration (see charts below).



Intermediate goods are defined as intermediate materials, supplies, and components, consisting partly of commodities that have been processed but require further processing.

Examples of such semi-finished goods include flour, cotton yarn, steel mill products, and lumber.


Crude materials are defined as goods that need further processing. These are products entering the market for the first time, have not been manufactured or fabricated and are not sold directly to consumers.

Goods include raw cotton, crude petroleum, coal, hides and skins, and iron and steel scrap.

Both intermediate and core goods are very sensitive to swings in demand, accounting for the sharp drop in prices as world economic activity plummeted. The recovery, which has boosted global demand, has sent prices higher.

However, the jump in costs at the early and middle stages of production are not signaling that a new round of consumer inflation is imminent, in my opinion, as labor costs still makes up the bulk of expenses for most firms.  Plus, aggregate demand continues to struggle, making it difficult for all but minor price hikes to stick.

Still, rising prices, which have started to creep into finished goods (see top chart), are indicating that the disinflationary trend in business-to-business sales has ended.

And it goes almost without saying that rising input costs argue heavily against deflation at this point in the global business cycle.

Rising employment and GDP growth go hand in hand

Much has been made of the fact that rising GDP has created few jobs since employment, as measured by nonfarm payrolls, bottomed at the  end of last year.  Worse, total employment remains about 400,000 below the level seen when the recession ended back in June 2009.

The problem the U.S. economy is facing is not structural unemployment, in my view, but a lack of significant economic growth, which is a byproduct of a financial crisis that was precipitated by the collapse in housing.


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The chart above measures year-over-year real GDP growth (blue line) and compares it to changes in nonfarm payrolls (red line).  Because the government releases nonfarm payrolls monthly and GDP quarterly, nonfarm payrolls are averaged in each quarter and compared with the same quarter one year ago.

For instance in the 1st quarter of 1994, GDP increased by 3.50% versus the 1st quarter of 1993.  During that same period, the average of nonfarm payrolls for January, February and March is compared to the average for nonfarm payrolls during the first three months of 1993. In this case, Q1’94 registers a gain of 2.63% over Q1’93.

Sadly, the huge loss of jobs almost seems reasonable given the severity of the 2007-09 contraction.

The 2001 recession, which was mild by historical standards, produced relatively worse losses in employment, and then was followed by a very slow recovery in the job market (see Jobless recovery).

Meanwhile, the boomerang in economic activity that ensued after the 1981-82 recession produced very robust employment growth (see chart in The recession is officially over).

Job growth will return when economic activity finally kicks into high gear. Unfortunately, the corrective action needed to spark a strong recovery in GDP has been and will likely remain elusive.

Average weekly hours, earnings reflect sluggish job market

Looking at nonfarm payrolls and the unemployment rate are two ways of measuring the health of the labor market. Less noticed but no less important are average weekly hours and average hourly earnings.

During September, average weekly hours were unchanged at 34.2 hours (see chart 1), and average hourly earnings increased by just one cent to $22.67, rising a scant 1.7% from one year ago (see chart 2).



The decline in average hourly earnings versus the period one year ago has slowed, but the lack of any significant hiring and the large pool of labor available are keeping wage increases in check.

Consequently, minor bumps in salary are hampering growth in consumer spending but is one of several factors helping to keep inflation under wraps.



Average weekly hours normally decline during a recession, just as total employment falls, because companies experience falling profits and declining sales.  In other words, firms cut hours because customers spend less money and fewer of them come through the door.

When the economy hits bottom and turns around, companies normally respond by requiring or asking current employees to work longer hours rather than beefing up staff  (chart 2 reflects such a scenario).

Why? Because most businesses don’t want to go on a hiring binge and be forced to lay off staff if the economy sinks back into a recession. Only when the recovery enters a more permanent phase does job creation accelerate. Hence, an increase in payrolls lags behind in a recovery.

This time around has been no exception, especially because growth has been lethargic.  Add uncertainty into the mix and weak consumer confidence and you have the perfect recipe for a jobless recovery.

The jobless recovery

The government reported this morning that nonfarm payrolls fell by 95,000 in September, including a 64,000 increase in private sector employment.

The chart below measures job growth during the recoveries that followed the 1991, 2001 and the current recession.  Though many were disgusted by the declaration that the current recession ended in June 2009, it does provide us with a useful benchmark.



As the chart reflects, job losses mounted for several months after the recession was officially declared over.  The total level of employment remains below – 439,000 - what it was in June 2009.

Unemployment rate unchanged at 9.6%

Nonfarm payrolls fall 95,000, private sector jobs increase

The flagging economy failed to make a dent in the unemployment rate in September, while nonfarm payrolls, which were  heavily influenced by a drop in permanent local government jobs and the continuing loss of temporary 2010 census jobs, fell by 95,000.

The private sector did manage to create 64,000 jobs, well above the ADP report released on Wednesday which reflected a loss of 39,000.



Still, the slowdown in economic activity is being reflected by the near lack of job creation.  More worrisome, nonfarm payrolls have fallen for four-consecutive months, as private companies have been unable to offset the loss in government jobs.

And private sector employment has slowed over the past two months.

A robust recovery will cure what ails the job market, but fiscal policy is being held hostage by the federal deficit and the Federal Reserve is running out of options.

Details and a more formal look at today’s report are available at Examiner.

Falling jobless claims suggest firming activity

Yesterday's report by ADP that the economy shed 39,000 in September reflects what happened last month.  Released early this morning, weekly jobless claims measure what occurred during the week ended October 2, and the 11,000 drop to 445,000 puts claims back at the low end of the late 2009 – 2010 range.

As I discussed with the ADP report yesterday and will repeat here, most economic data are not signaling a new recession, and the recent downward trend in the very timely jobless claims report is a strong signal that the economy is slowly improving.

That said when jobless claims are released prior to the labor report, which will be out tomorrow, the data normally take a backseat to what will happen with unemployment and nonfarm payrolls.

The labor report shouldn’t be ignored but what weekly jobless claims are telling us about the economy is also relevant.

ADP reports fewer jobs in September

ADP reported that private-sector employment fell by 39,000 in September, the weakest reading since January and below most forecasts.

Clearly the drop in private sector jobs is disappointing but talk in some corners of the media that the decline may lead to falling retail sales and the onset of a new recession are premature, in my view.

Most of the economic data is pointing to a continuation of slow economic growth and not a new slump. Moreover, the ADP private sector employment report has lagged nonfarm payrolls in recent months, suggesting that the labor market may a little less gloomy than today’s number indicates.

ADP noted that the private sector has generated an average of just 34,000 new jobs each month between February and August, well below the monthly average of 107,000 private sector jobs in the nonfarm payroll survey.

Still, most economists believe the economy must generate about 150,000 jobs each month just to keep up with population growth and prevent the unemployment rate from rising.

Since the recovery officially began in June 2009, the economy has come up well short of 150,000.

Nonetheless, if the trend in private sector nonfarm payrolls continues, we are likely to see the eight month winning streak extended to nine , though gains may come up shy of the recent average.

Although we’ll have to wait until Friday before we get a more complete view of what happened last month, what does seem clear is that the summer slowdown is manifesting itself in slower job growth.
And that’s not what job seekers want to hear.

Job growth painfully slow

Each month the Institute for Supply Management releases a couple of closely-monitored surveys of both manufacturing and services.  The surveys measure many different facets of the economy, including job growth or the lack thereof.

With the September labor report out of Friday, the ISM surveys provide a glimpse as to what may happen when the report is released.

Last month employers appeared to add staff at the nation’s manufacturers, though the pace slowed.  The service sector, which makes up the biggest slice of economic activity, provided few new jobs, according to the index. 

A reading of 50 suggests neither an increase nor a decrease in employment.

The ISM employment indices cannot be used to conclusively predict what will happen when the labor reports hits on Friday.

But it does paint a broad picture of what’s going on among employers and reflects the trouble that the economy is having creating a sizable number of new jobs.

ISM Non-Manufacturing Index generally mixed

But service sector index suggests cautious optimism

The ISM Non-Manufacturing Index gained 1.7 points to 53.2 points in September, topping most expectations and suggesting that activity in the broad-based services industries picked up a little bit last month.

The closely-followed gauge is not giving the all-clear sign, and the trend over the last four to six months has been to the downside. But the economy is not sliding back into a recession and a quick look at some of the key subcomponents shows that there are reasons for optimism.

New orders rose 2.5 points to 54.9, indicating that further gains may be coming in October.  Employment, which has suffered, increased 2.0 points to 50.2.  Not an impressive level but moving in the right direction. And export orders surged.

The overall increase, though encouraging, will probably not have much impact on what the Fed does when it meets in early November.

QE all but assured?

Much has been made that the Federal Reserve will eventually announce – probably at the November meeting – that it will once again begin expanding its balance sheet via a series of bond purchases.

Known as quantitative easing, or QE for short, the bond buys are over and above what are needed to keep short term interest rates at zero, but are necessary, proponents argue, to get the economy moving and put a “deflation firewall” in place.

The Fed announced a very modest program in August, deciding to reinvest any proceeds received from maturing mortgage-backed securities.  Fed Chairman Ben Bernanke followed up with a laundry list of monetary tools the Fed still has at its disposal to support growth.

But the September 21 Fed meeting couldn’t have been clearer:

“The Committee will continue to monitor the economic outlook and financial developments and is prepared to provide additional accommodation if needed to support the economic recovery and to return inflation, over time, to levels consistent with its mandate.”

Debate at the Fed
Though some at the Fed, like the Minneapolis Fed chief, have expressed concern regarding how effective new bond purchases may be, others, such as the president of the New York Fed, were more blunt in their support.

His remark last Friday that “the pursuit of the highest level of employment consistent with price stability, the current situation is wholly unsatisfactory” is a clear signal that the Fed will announce new measures on November 3, in my view.

At this point, the Fed would have to be persuaded by robust economic data NOT to pursue bolder options to boost the economy.

Unexpectedly strong employment, manufacturing or service sector data, combined with an impressive rise in Q3 GDP might persuade the Fed to hold off. 

But strong GDP data in itself would not keep policy makers from acting, as an unexpected build in inventory, versus stronger consumer spending, would weigh into the equation.

I’ve harped on this before but I believe that a new round of QE would likely have little impact on the economy because excess bank reserves – funds banks can lend but have not due to tight lending standards and lack of consumer interest – already stand at $1 trillion!

Any new purchases would most likely end up increasing these excess reserves, which would end up being held at the Fed.  And it could fuel a slide in the dollar and boost commodity inflation and speculative excess in emerging markets.

Falling Treasury yields
So far, the yield on the ten-year Treasury has fallen from a 2010 peak of just under 4% in April to nearly 2.4% in August, where it is currently hovering.

The debt crisis in Greece initially pressured yields,  but as the crisis faded, rates continued to descend amid weak economic data and falling inflation expectations.

Speculation that the Fed might ramp up  bond purchases also played a role, but it is difficult to quantify how much the drop in yields can be attributed to QE talk versus slower growth.

The Fed has total control over the fed funds rate, but its influence over longer-term rates is more limited, which limits the effectiveness of QE.

Although mortgage rates are at record lows, the housing market has struggled.  Rates below 4% could provide minor support, but at this point, monetary policy has lost most of its punch, suggesting we are in or are near a liquidity trap.

With fiscal policy being held captive by a large federal deficit, time may be the only option left to fix what ails the economy.

Pending home sales up second-consecutive month

Still lags amid expiration of tax credit

Pending home sales continue to struggle in the wake of the expiration of the tax credit, but contracts signed and not yet closed are up for the second-consecutive month, rising 4.3% in August to 82.3. Still, sales are down 20.1% from one year ago.



NAR chief economist Lawrence Yun said the latest data is consistent with a gradual improvement in home sales in upcoming months. “Attractive affordability conditions from very low mortgage interest rates appear to be bringing buyers back to the market,” he said.

“However, the pace of a home sales recovery still depends more on job creation and an accompanying rise in consumer confidence.”

With mortgage rates scraping at an historical bottom, job growth and consumer confidence are key parts of the housing equation.  In addition, many homeowners are reacting to fears that housing prices may not have bottomed.

Even if homeowners would like to sell and trade up, they may not be able to fetch the price needed on their present home.

The Fed has been trying to talk mortgage rates down via lower Treasury yields.  A weak economy and the lack of inflation expectations have helped, but 15-year rates below 4% and 30-year rates just above 4% aren't providing the lift that’s needed.

Another Fed head weighs in on QE

New York Federal Reserve President William Dudley became the latest member of the central bank to weigh in on whether a new round of quantitative easing (QE), or purchases of government bonds, might be needed, highlighting the growing split at the Fed.

Unlike the Minneapolis Fed President, whose speech earlier in the week took a dim view of new measures, Dudley believes that options still on the table could help to boost inflation and economic growth.

“The pursuit of the highest level of employment consistent with price stability, the current situation is wholly unsatisfactory. Given the outlook that the upturn appears likely to strengthen only gradually, it will likely be several years before employment and inflation return to levels consistent (my emphasis) with the Federal Reserve’s dual mandate.”

He went on to say, “The failure of the recovery to catch fire has occurred despite aggressive monetary (a zero fed funds rate and $1.7 trillion in longer-term asset buys) and fiscal policy steps to stimulate the economy."

Exactly. Despite these purchases, the recovery has been fragile, even hitting a soft patch during the summer.

The unconventional tools used by the Fed did help to stabilize the financial system at a time when the credit markets were broken.  But despite $1 trillion in excess reserves at the nation’s banks, not much in the way of new lending has materialized.

Moreover, consumers and businesses have been shying away from new debt.

Nonetheless, Dudley said that “$500 billion of purchases would provide about as much stimulus as a reduction in the federal funds rate of between half a point and three quarters of a point.”

At this point, a new round of QE would likely have diminishing returns, in my view.

Why the Fed feels compelled to send more money gushing into the banking system when banks already hold about $1 trillion in excess reserves is puzzling.



If they could force mortgage rates down to 3% or below, cheap financing might encourage fence sitters. But the Fed’s control over long-term rates is limited.

More likely, the dollar could head lower, threatening to create a modest round of import inflation.  That doesn’t seem to be the recipe that’s need to get the recovery on track.

Consumer sentiment languishes

But rises from mid-month level

The jobless recovery and the perception that employment growth will continue to lag has taken a toll on confidence since the summer began, according to the final survey released.

The Thomson Reuters/University of Michigan Consumer Sentiment Index fell from 68.9 in August to 68.2 in September, though the final reading did rise from the mid-month reading of 66.6.



Nonetheless, anxieties remain amid a sluggish recovery that hit a soft patch over the summer, as lackluster job growth is limiting gains in income and spending.

Interestingly, one-year inflation expectations fell from 2.7% to 2.2%, which, along with other measures of inflation expectations, have set off alarm bells at the Fed (see Fed sees deflation as public enemy number one).

However, looking out five years, the inflation outlook receded by just 0.1% to 2.7% and remains well-anchored.

Concerns that prices might actually decline have shown up in the Fed’s latest statement, but prices seem to be stabilizing at a low level.  And recent increases in commodity prices and the falling dollar argue against further declines in the rate of inflation.

ISM Manufacturing latest to show mild recovery intact

Manufacturers has been the bright spot in  an otherwise shallow recovery, and the latest data from the Institute for Supply Management reveals that the sector continues to expand, though the pace slowed slightly last month.

The ISM Manufacturing Index fell from 56.3 in August to 54.4 in September, slightly above most forecasts.  The index, which is a national gauge of manufacturing, has been down in three of the past four months, suggesting that activity has been moderating following a sharp rebound earlier in the year.  Still, activity continues to move forward at a sustainable level.

A reading of 50 marks the line between expansion and contraction. September marks the 14th consecutive month goods-producers have gained ground following a severe drop in activity two years ago.



Despite the relatively upbeat headline number, a couple of the key components do suggest that activity may continue to recede in the coming months.

New orders slowed from 53.1 to 51.1 and production eased to 56.5 from 59.9.  Job growth, like output, has been also been impressive for much of the year.  And nonfarm payroll data bear this out.

However, as growth has moderated, employers appear to be cutting back on hiring, with the employment component dipping from 60.4 to 56.5.

Deflation? – not so fast
In the meantime, rising prices at the early stages of production are not consistent with the deflation argument that has gained steam in recent months.

The increase in commodity prices, in part due to a weaker dollar, and stronger demand around the world, helped push prices paid up 9 points to 70.5.

But don’t expect higher costs to be passed along to customers as demand in the U.S. remains tepid, and excess capacity makes it difficult to make prices increases stick.

Additionally, wages and not commodities are the largest input cost for most businesses. Nonetheless, it seems almost inconceivable that retail prices will begin to fall on a broad scale while raw material costs rise.