Coming Week to See Decreased Uncertainty on Direction of US Economy and Fiscal Policy

US

Key Points

• This is a data rich week that should provide a sense of direction for the economy. I am generally more pessimistic than consensus.
• This week could see some resolution of the government funding and debt ceiling brinkmanship as well as centrist Democrats gain the upper hand in the fight over spending.

Fed
The FOMC managed to make a formal announcement of tapering ‘soon’ with only limited impact on equities even though yields have jumped by about 12bp since the policy meeting. Since the equities market also proved resilient to the Evergrande default perhaps that had more to do with equity market sentiment than with Fed messaging.

The SEP revisions, lower growth, higher inflation, and higher real Fed Funds rate, suggest the FOMC is expecting longer lasting supply bottlenecks. Indeed, Chair Powell stated that the expected September recovery in labour supply had not happened, which he attributed to the delta Covid variant (see Dom’s Quick Take).

This week Williams, Brainard, Evans, Powell, Bostic, Bullard, Harker, Bowman and Mester are speaking and are likely to advocate for their preferred lift-off date—half of the FOMC pencilled in a hike in 2022. I expect Williams, Brainard and Evans to advocate for 2023 lift-off and Bostic, Bullard, Harker and Mester for 2022 with Powell and Bowman (who represents community banking at the Board) to remain agnostic

Data
The economic surprise index rallied by 15 this week but largely on real estate market data and smaller than expected current account deficit. Data more closely tied to growth, Markit PMIs, Chicago Fed national activity, unemployment claims were worse than expected. The GDP forecast revision index {JFRIUS index} continued to fall.

This is a data intensive week that should give a good sense of the direction of the economy. The key releases are:

• PCE: based on CPI and PPI the consensus forecast of 0.2 MoM sa for core PCE seems reasonable to me.
• Personal spending: I expect a negative surprise relative to the BBG consensus of 0.6% MoM increase in personal consumption largely because I believe the normalization of the personal savings rate has paused. The economy is not recovering, and government transfers are falling, which suggest higher risk aversion on the part of households. I therefore expect the savings rate to remain around 10%, its July level, and nominal consumption growth to be in line with income growth, close to 0% MoM.

Durable goods orders: I expect a negative surprise relative to the BBG consensus of 0.4% MoM increase in capital goods orders ex defence and aircraft, a proxy for non-residential investment in the GDP data, because the economy is slowing and businesses have likely overinvested (see Stimulus Hangover to Push US Economy Into Recession).

• Manufacturing ISM: I expect a negative surprise relative to the BBG consensus of 59.5 as the PMIs are the most real time of the data on economic activity and therefore are likely to show that the slowdown is gathering momentum.
• Initial unemployment claims: a further increase would be the third in a row and, against a background of labour shortages (at wages firms are willing/able to pay), would suggest the labour market weakening is gaining momentum.
• Third Q2 GDP estimate: is unlikely to change much relative to the second estimate but will provide a basis for assessing more recent data on consumption and capex.

Other important releases include real estate market data, Dallas, Richmond and Chicago Feds PMIs, inventories and trade balance.

Covid news continued to broadly improve this week. Test positivity and hospitalizations fell, especially in red states (Charts 1 and 3). The increase in immunizations slowed to about 700 (000s) daily, compared with 900 (000s) in early September. TSA passenger throughput and Google mobility indicators stabilized (Chart 2).

Events/Political developments
The unravelling of the administration fiscal plans and debt ceiling brinkmanship proceeded as I expected last week. This week we are likely to see partial resolution, but this may not restore the job approval of President Biden.

This past week the House approved a bill containing both a Continuing Resolution (CR) and a debt ceiling suspension (for detailed background please see September 20 Key events). The bill is set for a vote in the Senate on Monday and will likely get filibustered. House Speaker Pelosi has already indicated that she would not allow the government to run out of funding and was prepared to put a clean CR to the vote to prevent it.

The polls suggest that voters would see government shutdown or default more as the responsibility of the Democrats than the Republicans, which suggests further concessions from the Democrats. Following the likely failure of the CR debt/ceiling suspension Bill on Monday, I expect Senate Majority Leader Schumer to announce soon an increase in the debt ceiling though reconciliation, possibly as early as this week.

The unravelling of bipartisan and reconciliation packages was in full view this week as centrist and progressive House democrats failed to find common ground. In addition, Senators Sinema and Manchin continue to oppose the $3.5tn social spending bill, with the latter reported to want a pause on large scale spending until next year.

Speaker Pelosi has scheduled a vote on Monday on the bipartisan infrastructure package, per her commitment to the centrists. A number of progressives have vowed not to support it but some Republicans have said they would. I see a close to but below 50% chance that the bill could pass with Republican votes.

Speaker Pelosi is also planning to put the $3.5tn reconciliation package to the vote this week though at this stage it is not clear what the content of the bill would be since democrats have yet to resolve deep internal disagreements. In addition, Pelosi had agreed with the centrists to only put to the vote a package that could gather Senate support but no vote on the package is currently planned in the Senate. I continue to see adoption of a much smaller package as more likely in 2022 than 2021, in line with Senator Manchin who holds a de facto veto on his party fiscal policy.

Overall uncertainty over fiscal policy is likely to decrease this week. However, because the resolution risks highlighting the Democrats internal divisions and brinkmanship it may not help improve their electoral prospects or President Biden approval ratings. A recent publication from the Cook Political Report, one of the most recognized nonpartisan political newsletters, provides a good summary of the travails of the administration and is well worth reading.

Links to New York Fed POMOs/TOMOs: Repos, Treasury, MBS, CMBS

G20

This week the ECB is holding its annual Central Banking Forum in Sintra, Portugal. This week’s ECB speakers include Largarde, Panetta, Guindos, Schnabel, Elderson, Lane, and Visco, the BoE speakers include Bailey and Mann, and BoJ governor Kuroda is also speaking.

Key data this week include China’s PMIs and current account balance as well as CPIs in France, Italy, Germany, and the euro area and manufacturing PMIs in Italy and Canada.

Links to BOJ Rinban , BOE OMO

COVID-19 Monitoring

Dominique Dwor-Frecaut is a macro strategist based in Southern California. She has worked on EM and DMs at hedge funds, on the sell side, the NY Fed , the IMF and the World Bank. She publishes the blog Macro Sis that discusses the drivers of macro returns.

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)