U.S. Conditions are Good, but a Canary has Coughed
The majority of U.S. economic metrics look positive early in the fourth quarter. Many metrics are at multi-decade bests. The unemployment rate stayed at 3.7 percent for the third consecutive month in November, the lowest it has been since December 1969, when it dipped to 3.5 percent. It didn't stay there for long. The next recession started in January 1970. By the end of 1970, the unemployment rate had increased to 6.1 percent.
A quick look at the history of the U.S. unemployment rate since January 1948 reveals a simple consistent pattern. Since 1948, the unemployment rate has always been cyclical. Lows are followed by highs and highs are followed by lows. The U.S. unemployment rate has never taken a random walk. The average gain from valley to peak in the unemployment rate is 3.7 percentage points over the last 10 cycles. The largest gain since World War II came during the Great Recession when the unemployment rate increased by 5.6 percentage points over the course of 31 months from 4.4 percent in March 2007, to 10.0 percent in October 2009. The smallest cyclical gains were 2.5 percentage points.
The unemployment rate is considered to be a lagging economic indicator, telling us where we have been, not where we are now. But a related metric is considered to be a leading indicator. Initial claims for unemployment insurance are a key component of change for the unemployment rate. Gains and losses in the weekly initial claims data are well correlated with gains and losses in the unemployment rate. Initial claims dipped to a low of 204,000 for the week ending September 8, 2018 when the unemployment rate first hit 3.7 percent. Since then the trend in initial claims has been up. It is too early to say if the uptrend will be sustained. It may be an artifact of this year’s hurricane season. However, initial claims are like the canary in the coal mine, often signaling when conditions are changing, and the canary has coughed, so we should keep an eye on it.
GM added some dust when it announced 5 plant closures for 2019, totaling about 15,000 jobs in the U.S. and Canada. Verizon has just announced that it will eliminate 10,400 jobs in 2019.
The Federal Reserve’s last policy meeting of 2018 will be an important one. Over December 18 and 19 the Federal Open Market Committee will debate the merits of another fed funds rate hike. We expect that the FOMC will approve the fourth 25 basis point fed funds rate hike for the year. The implied probability of that outcome has eased to about 76 percent. Normally, when there is a broad expectation of a rate hike this close to an FOMC meeting, the probabilities implied by the interest rate futures market would be somewhat higher. However, ongoing volatility in financial markets generally is keeping the rate hike short of a sure thing. In addition to the policy announcement, we will also see a new “dot plot” from the Fed on December 19, plus a new set of economic projections and a post-meeting press conference by Fed Chair Jay Powell.
We expect 2019 to be a pivotal year for the U.S. economy. Some metrics may start to show the early signs of deterioration. Others will point more clearly to cooling conditions. Amongst those, housing data is especially worrisome. New and existing home sales have been on downtrends since both series peaked in November 2017. The Fed’s rate hike next week will put additional upward pressure on mortgage rates, eating into housing affordability. The FHFA’s effective mortgage rate has increased about 130 basis points from its low of 3.49 percent in December 2012, to 4.82 percent in October 2018. Over that time span, housing affordability has dropped by 23 percent according to Moody’s Analytics Housing Affordability Index.
For a PDF version of this report, click here: December 2018 U.S. Economic Outlook
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