The presidential threat of additional tariffs on $200 billion in Chinese goods put a jolt in markets yesterday afternoon with risk-off being the flavor of the day, and that tone is carrying into this morning. While investors are becoming inured to these types of decrees from the Trump administration the scope of this latest salvo left everyone with the impression the ante had definitely been raised. Couple the trade war machinations with the return of emerging market currency drama and we’re comfortable being biased long as a hedge against flight-to-quality trades that could emerge over the long holiday weekend. And while the impetus behind the latest emerging market scare was the 20% decline in the Argentinian peso over the last two days, it’s likely we could see a backing off in stress just because the recent moves have been quite severe. However, given the heightened trade war rhetoric lobbed at the Chinese yesterday it seems another round of contagion could be in the offing. For now, the market still sees a 25bps rate hike in September but with the aforementioned concerns, the long-end remains in rally mode with the 10-year note at 2.83% and the 2yr-10yr spread at 20bps, just above the 18bps cycle low set on Monday.
|Economic News||Lower Summer Gas Prices Await Labor Day Drivers||Market Rates|
Yesterday’s July Personal Income and Spending numbers were mostly as expected with spending up +0.4% in July and real personal spending—adjusted for inflation—up +0.2% versus +0.3% June. Personal income was slightly off expectations at +0.3% versus +0.4% consensus and 0.4% in June. The Fed’s preferred inflation number, core-PCE, hit expectations at +0.2% for July but did tick up from +0.1% in June. That being said when one digs a little deeper into the inflation number, while core-PCE was up +0.2% month-over-month, unrounded it was a “weak” 0.2% at +0.156%. And while that led to year-over-year moving up to 2.0% from 1.9%, the three-month annualized average remained at 2.0% for the second straight month and down from 2.2% and 2.1% averages that prevailed from February through May. So, for a Fed that seemingly wants to keep to a quarterly hiking schedule the moderating core inflation numbers may give them some nagging concerns that a march above 2.0% may not have legs to it.
In summary, it appears American consumers will moderate their spending in the second half of the year after splurging in the second quarter. Spending growth looks to slow to something around 2.8% in the third quarter from 3.8% in the second. That drives the expectations that third and fourth quarter GDP will be in the neighborhood of 2.8% to 3.0% versus the 4.2% pop in the second.
While the consumer will continue to be the straw that stirs the drink of economic activity, household-income creation has not yet accelerated to a pace that can support the second quarter consumption splurge on a sustained basis. With annual wage growth in the 2.7%-2.8% range, and real incomes—net of inflation— virtually at zero, the pop in the second quarter will not be sustained until income gains move over 3% towards 4%, and we don’t have any indication that that’s about to happen.
Meanwhile, as the details of the trade deal with Mexico continue to dribble out, the impact is likely to be higher costs for consumers in return for a few more U.S.-based jobs. The political realities are that a deal is likely to be announced with Canada but again it could be more form over substance. That will leave China and the E.U. as the giant trading partners yet to be dealt with. This tweet by conservative economist Douglas Holtz-Eakin seems to succinctly summarize our feelings on the topic: “I really want to believe that @realdonaldTrump has a NAFTA strategy. But this just seems like lighting yourself on fire and then praying your neighbors will put it out.”
Finally, with the U.S. dollar regaining its footing yesterday it put pressure on emerging markets in what is now a predictable pattern. Argentina’s central bank increased interest rates by 15 percentage points on Thursday in a bid to slow the fall of its peso. The Turkish lira and the South African rand also fell against the dollar on Thursday. But it was the Argentine currency that experienced the sharpest drops, driven by fears the country would not be able to make its debt payments. Argentina’s central bank boosted its benchmark lending rate to 60%, a day after the President Macri said he had asked the International Monetary Fund to release $50 billion in credit earlier than had been agreed.
The central bank said its monetary policy committee had made the unanimous decision to address the plummeting value of the Argentine peso, and to counter fears that the currency’s decline could drive faster inflation. The currency has lost nearly half its value against the dollar since the start of the year — one dollar had bought 19 pesos, and now purchases 39 pesos. On Thursday alone the peso fell as much as 20%. The distress in emerging markets is only likely to intensify following a September rate hike which eventually will reverberate back onto our shores.
Lower Summer Gas Prices Await Labor Day Drivers
If you’re heading out for one final summer road trip this Labor Day weekend, you have one bit of luck in your favor: gas prices are at their lowest of the 2018 summer driving season. The U.S. average unleaded gasoline price is $2.84 a gallon, or 13 cents cheaper than over Memorial Day weekend. The good prices are relative, however. Last year’s summer gas price was lower even after the Hurricane Harvey-induced spike in August. Despite the absence of hurricane activity this Labor Day weekend, pump prices are at their highest point for the holiday since 2014, according to AAA.