US Week Ahead: Yellen's Testimony, Retail Sales, IP, PPI, Beige Book, UMich, Philly Fed, Empire Svy, Housing
Retail sales likely rose by 0.7% in June based on another strong vehicle sales report and healthy chain-store sales. Total light-vehicle unit sales rose by 1.2% in June to a 16.98m-unit rate. Gasoline prices rose by 0.5%, most likely boosting gas station receipts. The large jump in the Texas Retail Outlook survey also supports our forecast. Chain-store sales, however, were mixed, as the Johnson Redbook retail sales index showed a decline of 1.7% while chain stores reported strong sales in June, given a 5.9% YoY increase in comparable sales based on a preliminary tally. Ex auto, we expect retail sales to rise by 0.6%.
Following a four-year high of 19.28, the Empire manufacturing survey likely ticked down a few points but maintained a strong reading of 16.00 in July. In June, new orders surged again and manufacturing payrolls posted a healthy gain of 16K, suggesting solid forward momentum for manufacturing activity in July. However, other June survey subcomponents eased (eg, shipments and employment) and the overall expectations index and capex outlook fell. We expect the overall index in July to decline slightly but to remain at a healthy level.
Fed Chair Yellen’s semi-annual Monetary Policy Report, scheduled to be delivered to Congress, is not expected to cover new ground on the policy outlook.
Beginning with the Senate Banking Committee on Tuesday and the House Financial Services Committee on Wednesday, Chairwoman Yellen’s Monetary Policy Report will most likely not disclose new insight on the policy outlook, as Ms Yellen reported the FOMC’s view in the press conference following the mid-June meeting and the June FOMC minutes. Generally, the interesting part will be the Q&A from politicians.
Fed policy outlook: The Fed maintains that that it “likely will be appropriate to maintain the current target range for the federal funds rate for a considerable time after the asset purchase program ends.” Based on the recent FOMC minutes, the asset purchases are expected to end following the October meeting. Chairwoman Yellen will probably note that most committee members look for the rate lift-off in 2015. We know that some (Mr Bullard, for example) think the drop in unemployment suggests it would be appropriate to begin the normalisation process as soon as the end of Q115. We believe that the majority sees more labour-market slack than evident in the official unemployment rate and, given soft wage growth, expects to continue accommodative policy into the second half of 2015. However, Ms Yellen will no doubt emphasise that the Fed views on the timing of the lift-off remain contingent on the economic outlook. “If the economy proves to be stronger than anticipated by the Committee, resulting in a more rapid convergence of employment and inflation to the FOMC’s objectives, then increases in the federal funds rate target are likely to occur sooner and to be more rapid than currently envisaged. Conversely, if economic performance disappoints, resulting in larger and more persistent deviations from the Committee’s objectives, then increases in the federal funds rate target are likely to take place later and to be more gradual.”
Q&A issues: Chairwoman Yellen may be asked in the Q&A to flesh out the Fed’s reasons for believing that the equilibrium Fed Funds Rate is expected to be lower than in the past. She could list a number of impacts from the great recession that could lead to slower growth and hence a correspondingly lower equilibrium rate.
She may get questions of the policy role of the Fed Funds Rate, given the expected increased importance of the IOER and ON RRP in raising short-term rates at the appropriate time. She will probably note the sense of the committee to keep the Fed Funds Rate as a policy rate in conjunction with the administered rates and note that they continue to study the design of the ON RRP facility to avoid any potential undesired side effects.
Ms Yellen will likely be asked about the impact of monetary policy on financial stability with regard to ‘reach for yield’ behaviour leading to asset-price misalignment. She has stated before that she does not currently see significant signs of asset price bubbles but that the Fed remains concerned that “some recent trends in financial markets might suggest that investors were not appropriately taking account of risks in their investment decisions.” She may point to low implied volatility in equity, currency and fixed-income markets as an “indication that market participants were not factoring in sufficient uncertainty about the path of the economy and monetary policy” and reaffirm that the Fed will continue to monitor the situation closely.
Ms Yellen may be asked about policies to improve labour market performance as well as the impact of growing income inequality on aggregate demand. She could respond that labour-market programmes targeted specifically at removing obstacles to full employment could be efficient, noting that monetary-policy accommodation can provide only a broad-based boost to activity and would be enhanced by more targeted programmes.
On the international front, she may be asked for an assessment of conditions in Europe, Japan and China and the impact of US monetary policy on emerging markets. She may note the slow progress in the European recovery, the successes with the thrust of Japanese policy and that Fed policy in support of a stronger US recovery will help EM exports.
In her House testimony, Ms Yellen may be asked to comment on a bill recently introduced by Republicans that requires the FOMC to embrace a policy formula (such as the Taylor rule) for setting interest rates and mandates Government Accountability Office audits to ensure Fed compliance with the rule. There is little chance of this bill passing the Senate; if asked, Ms Yellen would most likely respond that trying to achieve mandates set by Congress would threaten the Fed’s independence. Studies have shown better policy results for independent central banks. In our view, having Congress involved in judging the Fed’s policy instruments and setting Procrustean rules to attain those goals would be bad policy.
We expect business inventories to rise by 0.5% for May. Manufacturing inventories rose by 0.8% in May, with wholesalers increasing stocks by 0.5%. The two account for about 68% of total business inventories. We look for a soft 0.2% rise in retail inventories (the new data in the report) based on strong retail sales in May and April.
The June Producer Price Index (PPI) likely rose by 0.2% (1.8% YoY), reversing the previous month’s 0.2% decline. Gasoline prices accelerated in June, while farm prices fell by 2.6%. The price-component of the ISM manufacturing dropped by 2pt, while the non-manufacturing survey prices edged down by only 0.2 to 61.2, suggesting services and core (less foods and energy) goods prices rose modestly. In particular, services prices most likely retraced the 0.2% MoM decline in May. From this information, we expect a 0.2% monthly rise in PPI, which translates into a 1.8% YoY change in June. Given roughly offsetting moves in food and energy prices, we expect a 0.2% rise in the June core PPI, corresponding to a 1.7% YoY change—down from the 2.0% YoY rise in May. However, we must note that the new final-demand formula has yielded notable volatility in certain price components, particularly in wholesale and retail trade services. Because trade services prices are measured by margin indexes, they are sensitive to changes in both selling and acquisition prices and thus can be volatile on a monthly basis. We proceed with caution in our estimates, since the new methodology presents a higher margin of error.
We expect a 0.3% rise in June industrial production and an increase in capacity utilisation to 79.2%. Manufacturing, which accounts for almost 75% of total industrial production, most likely rose by 0.3%, given the 16K rise in manufacturing payrolls and unchanged factory workweek of 41.1 hours. Mining production continued to advance, albeit at a slightly slower pace than in May. Production in the utilities sector is likely to have retraced its decline in previous months and posted an increase in June. The number of heating degree and cooling degree days (deviation from normal) increased in June, suggesting that utilities increased output.
Following a jump of 4pt, the NAHB housing market index (HMI) likely held steady at 49 in July. In June, the advance in builder sentiment reflected strong increases in all three survey components (single-family sales, sales outlook and prospective buyer traffic). Notably, single-family sales jumped by 6pt, in line with the sharp rises in June’s sales numbers for existing and new homes. The release noted, however, that builders remain hesitant due to limited availability of labour and the slow overall economic recovery. The solid June increase in residential-construction payrolls (+4.5K) may help improve this sentiment in July.
The fifth Beige Book of the year will likely highlight labour-market improvements, a mixed consumer-spending outlook and limited wage and price pressures. The regional compendium of economic conditions will likely feature the continued improvement in labour-market conditions with very limited wage pressures. Consumer-spending reports are likely to be mixed, with strength in motor-vehicle purchases, consistent with continued ‘moderate’ growth. Lending activity most likely continued to increase throughout the nation. We expect price pressures to have remained ‘constrained’. As the Beige Book will be released following Chairwoman Yellen’s testimony to Congress and the release of the semi-annual Monetary Policy Report, it is likely to receive less attention.
Housing starts likely rebounded by 2.5% to a 1026K rate in June, with building permits rising by 3.4% to a 1039K rate. Although building permits dropped in May, the Housing Market Index (HMI) jumped in June, driven by increases in current and future single-family sales as well as in prospective buyer traffic. The NAHB Leading Markets Index (LMI), which tracks advances in permits, house prices and employment, also steadily rose over the past several months. Thus, we expect a rebound in starts from the 6.5% decline in May. Given lower mortgage rates and the HMI advance, building permits are also likely to have retraced their previous 5.1% drop, rising by a solid 3.4% to a 1035K rate in June. Gains in permits for multi-unit structures, which dropped substantially in May, drive the expected rise.
We expect the Philadelphia Fed business outlook survey to remain strong but edge slightly lower to 17.5. Despite falling a touch downwards, the continued healthy reading of 17.5 in the Philadelphia Fed survey was boosted by solid increases in manufacturing payrolls and in new orders and employee workweek survey components last month. Sharp increases in the future-activity index – particularly in future employment, workweek, new orders and shipments – also explain the July index. Although we see a larger downtick in the Empire State survey, we find the Philly Fed survey components much stronger on balance and, hence, expect only a slight decline.
We look for a positive move in the University of Michigan consumer sentiment survey to 83.0. The June employment report came in strong, with a 288K rise in nonfarm payrolls. Stocks also reached another record high, closing at 1985 during the first week of July. Finally, weekly consumer surveys posted over a 1pt increase in the first week of July. Thus, strong jobs data, equity market strength and improved consumer comfort are likely to have buoyed sentiment in July.
