THE ECONOMIC OUTLOOK WILL BE VUCA FOR A LONG TIME
My favorite acronym VUCA — Volatility, Uncertainty, Complexity, and Ambiguity — sums up the economy and is easier to explain than my thinking, “What the hell is happening?”
Inflation remains high, while jobs and wages are strong. Expect a long road ahead.
- Inflation is trending down but is still too high based on CPI, PCE, core, and super core. See INFLATION AND RECESSION below
- Jobs and employment are strong.
- Wage increases are still high, but the spiral has not run away.
- The economy is resilient but running too hot to lower inflation.
- Interest rates will keep going up for some time and remain high.
- Bringing inflation down to 2% will take a very long time.
Consumer spending for services drove the economy and was up 3% in January after dropping in November and December. For February consumer spending fell 0.4%. Even though this economy has been resilient and looks different than previous inflationary scenarios, higher interest rates for more extended periods have always slowed the economy and will this time too.
Fed Chair Powell addressed Congress last week. He commented that the economy continues to show surprising strength after a year of rate increases. The Fed will make interest rate decisions based on “the totality of data.” It’s all VUCA.
THE ECONOMY AND THE RECESSION
Hard landing, soft landing, no landing? The recession is always six months away, but it is coming.
Former Treasury Secretary Lawrence Summers said that while inflation data are broadening US price pressures, it’s too soon to argue for the Federal Reserve to re-accelerate its interest-rate hikes next month. He made that comment a month ago. Things can happen quickly.
Chief Economic Adviser at Allianz and Bloomberg Opinion columnist Mohamed El-Erian hopes the Federal Reserve can tolerate US inflation above its 2% target. El-Erian shared, “I don’t think they can get CPI to 2% without crushing the economy, but that’s because 2% [inflation] is not the right target.”
- Employers added 311,000 jobs in February after adding 505,000 jobs in January
- Unemployment rose 0.2% to 3.6%, mainly because more people were looking for jobs
- February average hourly earnings rose a minimal 0.2%. This implies that job growth in higher-wage occupations and at higher-paying companies has slowed.
- Wage growth over the last three months moderated to 3.6% from an annual average of 4.6%.
The employment and lower wage trends are signals of a strong economy with less inflation stress. If the downward wage trend continues, it could signal a softer landing. We will need continuous positive data for an extended period to prove this.
The strategy is the same: follow the data.
When the pandemic started in 2020, unemployment raced up to 11.5%. Everyone worried about dying, jobs, and losing everything. Fortunately, the government avoided the pandemic recession by issuing significant stimulus checks. A vaccine was created with government help in record time. It all worked. Now we have to pay for it.
The Fed has an impossible job. The strategy remains to bring inflation down to 2%. The primary monetary tool it has is interest rates. Congress has a fiscal policy to help. Congress could decrease spending or increase taxes. Right. No political party has done that in a long time. It is easier to blame the other party.
Interest rates have been rising for over a year. There has been a slight slowdown in the economy and a small change in inflation. Interest rates will keep rising until we reduce inflation. When that happens, we will have a recession.
- The Consumer Price Index (CPI) for February fell to 6.0% from January’s 6.4% from a year earlier.. The core CPI, excluding food and energy, eased to 5.5% annually from 5.6%. The base CPI was up 0.4% monthly from 0.5, and core prices were up to 0.5%. compared to 0.4% monthly gain in January.
- Personal Consumption Expenditures [PCE], the Feds preferred tool for measuring inflation, rose 0.6% in January and are up 5.4% from a year ago. This is up 0.4% from December. Core prices, which exclude food and energy, rose 0.6% from 0.3% for the previous month and are up 4.7% from a year ago and up 0.1% from December.
- Super Core inflation, the Fed’s new preferred PCE sub-indicator, services only (no goods), excluding food, energy, and housing, increased by 0.6% in January. That is the most significant increase in any month since late 2021. These prices are up 4.6% from a year ago, showing very little progress versus the 5.0% gain in the twelve months ending in January 2022.
- The Producer Price Index for February unexpectedly fell 0.1%. Excluding food and energy, it was flat.
Inflation data is improving. Next week the Fed is meeting and will announce the interest rate changes. Their decision will be more complex with VUCA situation caused by the bank failures.
Generally positive, but we see mixed signals.
The ISM manufacturing index for February rose slightly to 47.7 from last month’s 47.4 but is still in contraction. The slight rise is logical considering the switch from goods to services that has taken place in the previous three years. Consumers still have stimulus money in their savings and want to spend it. Of the 18 measurements used to determine ISM, 14 were down again, slightly better than last month. The new orders index rose for the first time in four months but remains in contraction territory. The prices paid index rose to 51.3 from 44.5.
- Industrial production is forecast by ITR using a long-term 12-month moving average [MMA]. It expects a decline will extend from late 2023 through 2024. The decline will be mild due to stable consumer and business finances, backlogs, and onshoring trends. It then calls for the 12 MMA to rise in 2025.
- Shipments of “core” non-defense capital goods ex-aircraft (an essential input for business investment in calculating GDP and a leading indicator for manufacturers) rose 1.1% in January, following declines in the last two months of 2022. If unchanged in February and March, these shipments would be up at a 2.6% annualized rate in Q1 versus the Q4 average, and good news for Q1 GDP.
- Orders for core capital goods (excluding aircraft and transportation), which will lead to shipments in the future, rose 0.7% in January and are up 1.6% from a year ago. Even though that is positive, producer prices for capital equipment are up 7.7% during the same period, which means that while orders are still rising in dollar terms, they are declining when adjusted for inflation.
- Based on the first two months of this year, light vehicle sales are projected to be 15.5 million cars versus 13.7 last year.
- Aircraft production continues its upward trend.
- The Shapiro Nonferrous Scrap Activity Index for February, which tracks our daily purchases for the duplicate accounts across our 10 locations and a diverse industrial base, rose 7% from January and is down 5% from our 12-month trailing average.
Despite the mixed signals in the manufacturing industry, the positive trends in core capital goods and light vehicle sales suggest that Q1 GDP growth is possible.
Generally positive, but I am a skeptic.
China manufacturing PMI for February expanded to 52.6 from December’s 50.1. The combined manufacturing and services also rose to 56.4, a multi-year high. The Caixin manufacturing index went into expansion to 51.6 from 49.2 last month. New orders grew for the first time in 8 months, reaching their highest levels since 2012.
It sounds a bit too good to be true. Part of it is how it is measured, month over month. Thanks to the disastrous Covid related 2022 lockdowns, it is starting from a low base. A one-time large infrastructure spending project from last year helped the construction rebound.
China just announced a 5% growth rate target for this year after 3% last year, which is not that aggressive relative to their 6% growth for most of the ten years before Covid. GDP has been soft now for three years because of zero Covid. China is a third of the worldwide GDP. Achieving 5% growth would benefit the world, but it will have many problems achieving this.
- Dropping the zero Covid policy with no vaccination plans treatments for sick people was a disaster. Many people have lost faith in the government
- Tepid business and consumer confidence
- Weak overseas demand for Chinese-made goods
- Container rates have dropped over 90% from China to the US as exports decline
- High local government debt loads could restrict the ability to stimulate the economy
- Car sales dropped 20% from last year for the first two months of this year
- Housing oversupply continues to hurt new construction
An article in the government China Daily News points out optimism in the housing market. With mortgage rates dropping to 4.1% and a 20% down payment, a new 1500-square-foot apartment would cost a typical family 36% of its monthly income. The US targets a 25% monthly income for housing. The government says the 4.1% mortgage rate will spark demand in an over-supplied market. Home prices are now rising in more cities than they are falling. It will take a lot more than this to turn the housing market around.
The rest of the world’s economies continue to improve too. The Internationally Monetary Fund has raised their GDP forecast to 2.9% from 2.7% in October. Inflation is abating too but is still too high. The Eurozone economies are improving.
VUCA stands true for metals too.
Prime aluminum prices dropped 10 cents from last month while prime scrap prices fell only 2.5 cents to 4 cents. This slight drop in scrap prices happened while many primes and billet makers tried to reduce their inventories. Prime aluminum inventories also continue to dwindle. The Midwest Premium has been range bound in the $.29 area. The talks of the Russia trade sanctions have done little to affect aluminum prices since very little is brought into the US.
Secondary aero grade turnings also rose in March as demand increased. Copper prices rose slightly. Nickel prices fell 13%, while stainless steel prices were flat. The big winner for the last few months has been scrap steel prices. The demand and prices for HRC have been strong. March scrap bush rose again this month by $60. That is the highest in 9 months.
The outlook for higher interest rates has made the dollar stronger, which lowers the values of commodities. China’s housing and construction are significant drivers in metals consumption. While it is weak, metal prices should remain soft too.
Edward Meir forecasts March LME 3-month aluminum to be $2300-$2550 this month. Harbor is calling the near-term range at $2200 to $2500 and down to $2000 this year.
Navigating Economic Uncertainty Together
In volatile or uncertain conditions, great leaders look to the steady horizon.
Long-term, high-impact initiatives like sustainability offer promising movement during complexity and ambiguity. As a first step, sustainability partners, consultants, and services can optimize and integrate ESG practices with tracking systems, including sustainable recycling and materials handling. The recovery of prime materials in metal processing contributes to building your circular supply chain. With sustainability management software and reporting tools, businesses can conduct sustainability audits to analyze the effectiveness of sustainability initiatives. Shapiro is a leader in providing data-driven sustainability solutions.