Negative signals for US business spending

Posted on Friday, March 8, 2019 at 10:50AM by Registered CommenterSimon Ward | CommentsPost a Comment

Two recent pieces of news support the expectation here that stockbuilding and business investment will be major drags on the US economy this year.

First, the ratio of inventories to final sales of goods and structures rose further in the fourth quarter, following a large third-quarter gain, according to initial national accounts data released last week. Changes in this ratio are inversely correlated with the future contribution of stockbuilding to GDP growth – see first chart. This relationship suggests a negative GDP contribution of up to 0.5%, or 1.0% at an annualised rate, during the first half of 2019. (This refers to the arithmetical contribution; the total impact would likely be smaller because of offsetting weakness of imports.)

Secondly, sector financial accounts released yesterday reveal a significant further decline last quarter in the liquidity ratio of non-financial corporations, defined as their liquid assets divided by short-term liabilities – second chart. The value of assets was depressed by losses on equity investments, while money holdings – including foreign deposits – grew by only 0.5% over the quarter; liabilities, by contrast, rose by 2.7% (11.1% annualised) as bank borrowing surged, in part reflecting involuntary inventory accumulation.

The corporate liquidity ratio fell by 18.9% in the year to end-December. An annual decline of 11% or greater occurred on 11 previous occasions since 1955 and in 10 of these cases non-residential fixed investment contracted on a year-on-year basis in the same quarter or subsequently – third chart. The exception was 1988 but this followed a major investment recession in 1986-87.

Global economy health check: patient still deteriorating

Posted on Thursday, March 7, 2019 at 11:25AM by Registered CommenterSimon Ward | Comments1 Comment

The current global economic downswing is expected here be more severe than the slowdowns in 2011-12 and 2015-16, for two reasons. First, global real narrow money growth fell to a lower level ahead of the current downswing than before the previous two. Secondly, both the stockbuilding and business investment cycles are expected to drag on activity – the prior slowdowns were mainly stocks-driven.

How is this forecast playing out? The first chart shows six-month / two-quarter changes in industrial output and GDP in the G7 economies and seven large emerging economies, with the latest data points referring to December and the fourth quarter respectively.  Six-month industrial output momentum fell to 0.7% in December, the lowest since 2016 but well above troughs of -0.2% and -0.7% reached in 2012 and 2015. Two-quarter GDP growth, meanwhile, has also fallen but remains respectable, at 1.5% (3.1% annualised) in the fourth quarter.

With real money growth bottoming in October, a trough in economic momentum is unlikely to be reached until around mid-2019. Industrial output / GDP data, accordingly, are expected to deteriorate for a further six months, at least.

The second chart shows new orders / business components of the global manufacturing and services purchasing managers’ surveys, which supposedly offer a more timely read on economic activity. The final reading of the manufacturing new orders index for February was higher than suggested by earlier flash data but still represents the joint weakest (with January) result since 2012, i.e. undershooting a 2016 low. The services new business index remains solid but a positive divergence with manufacturing is normal in the early downswing phase – similar temporary resilience was displayed in 2012 and 2015.

The above series are coincident indicators of economic activity; the OECD’s composite leading indicators are useful for assessing short-term prospects. The third chart shows the deviation of G7 GDP from a statistical trend along with the OECD’s G7 leading indicator, including an estimate for January (official data are released on 11 March). Based on the estimate, the decline in the indicator from a peak in February 2018 is already comparable with the peak-to-trough falls in 2011-12 and 2014-16. A caveat, however, is that the level of the indicator can often be revised significantly, as trends in the individual components are reestimated to incorporate new data. This caveat is less relevant for the direction of the indicator, which has yet to suggest any bottoming out of economic momentum.

As noted above, business investment is expected here to show greater weakness this year than in 2011-12 and 2015-16. The fall in the global manufacturing PMI new orders index was led by the investment goods component, which moved well below its 2016 low in January, though recovered in February – fourth chart. Recent weakness in intermediate goods orders, meanwhile, is consistent with the stockbuilding cycle moving further into its downswing phase. Consumer goods orders remain solid but – as with services activity – such resilience is not unusual in the early stages of an economic downswing. Consumer weakness typically emerges as slowing activity feeds through to labour markets.

The business investment and profits cycles are closely linked. The fifth chart shows national accounts-based estimates of gross domestic operating profits (EBITDA). Japanese and UK profits contracted in the year to the fourth quarter, while Euroland growth was the weakest since 2013. US fourth-quarter numbers have yet to be released: year-on-year growth is likely to remain solid but the level of profits may have stepped down last quarter, judging from S&P 500 earnings reports.

Profits are very likely to remain under pressure during the first half from slowing activity, weak pricing power and rising wage costs due to high settlements and excessive hiring in 2018.

In summary, coincident and short leading evidence has yet to confirm the forecast of a more severe economic downswing than in 2011-12 or 2015-16 but indicators are behaving largely as expected, allowing for the usual leads / lags. If correct, the next phase of economic weakness will involve corporate retrenchment extending from fixed investment and stocks to hiring, undermining consumer confidence and spending and leading to a further deterioration in business sentiment.

Euroland money update: economic prospects improving?

Posted on Thursday, February 28, 2019 at 09:32AM by Registered CommenterSimon Ward | Comments1 Comment

Euroland January money numbers were reassuring, arguing against recession worries and suggesting that economic momentum will revive during 2019 – barring external shocks.

Six-month growth of real narrow money – as measured by non-financial M1 deflated by consumer prices – rose further in February, reaching a 15-month high. Real broad money (non-financial M3) expansion was stable at a two-and-a-half-year peak. The growth rates have risen since July 2018, suggesting an improvement in GDP momentum from around April, assuming a typical nine-month lead – see first chart.

Real money trends, admittedly, have been boosted by a sharp fall in six-month inflation, which is likely to reverse into the second half. Nominal narrow money growth, however, has been stable at a respectable level since early 2018, while broad money expansion has picked up – second chart. The inflation boost to real money growth should be reflected in economic momentum later this year even if it proves temporary.

Sectoral numbers show that the rise in real narrow money growth has been driven by the household component, while corporate expansion remains weak – third chart (NFC = non-financial corporate). Economic resilience, therefore, is likely to depend on stronger consumer spending, which in turn requires companies to maintain employment levels despite recent weaker demand and downward pressure on profits.

At the country level, Italian real narrow money momentum recovered in January but continues to lag significantly, while growth in France and Spain has strengthened, suggesting improving economic prospects – fourth chart.

Money trends / stocks cycle suggesting US weakness

Posted on Tuesday, February 26, 2019 at 09:36AM by Registered CommenterSimon Ward | Comments3 Comments

Global industrial weakness, as expected, has intensified in early 2019. Based on last week’s flash results for the US, Japan and Euroland, the global PMI manufacturing new orders index is estimated to have fallen below 50 in February, reaching its lowest level since 2012 – see first chart. The final reading will depend importantly on Chinese results released on Friday.

As previously discussed, six-month growth of global real narrow money bottomed in October, implying a low in industrial output momentum around July 2019, allowing for a typical nine-month lead. PMI new orders usually move slightly ahead of hard output data, so could reach a trough some time in the second quarter.

Global real narrow money growth remains weak, arguing against a strong PMI rebound. Current money trends contrast markedly with mid 2012 and early 2016 when the prior two economic slowdowns were coming to an end.

Hopes of significantly stronger narrow money growth rest mainly on a pick-up in China in response to policy easing. Six-month expansion of our Chinese true M1 measure rose in January but New Year timing can distort the data at this time of year – February numbers will be key for assessing whether the trend has turned. Chinese money market rates have fallen further but pass-through to lending rates, particularly mortgages, is proving slow – second chart (the last data points are for December).

A turnaround in the global PMI could be driven by a moderation of Euroland weakness. Euroland new orders have undershot the global aggregate but real money growth has recovered since July 2018 and was stronger than elsewhere in December (January figures are released tomorrow) – third chart.

US and Chinese real narrow money trends were weak until December / January, suggesting that PMI new orders will decline further (US) or remain soft (China) through the first half.

Previous posts argued that a downswing in the global stockbuilding cycle would depress economic momentum in late 2018 and through most of 2019. Available national accounts data indicate a significant negative GDP impact in Euroland in the fourth quarter but the US cycle is lagging: wholesale inventories surged in late 2018, diverging from weak sales – fourth chart. US inventory adjustment could contribute to surprisingly weak GDP expansion during the first half.

Some commentators have cited a pick-up in US broad money growth in late 2018 / early 2019 as a reason for economic optimism. This acceleration partly reflects solid bank lending expansion, driven by commercial and industrial loans. C&I loan strength, however, is the counterpart of the build-up in stocks – see previous post – and is likely to reverse as these are adjusted, suggesting a slowdown in broad money.

Chinese data flattered by New Year timing effect

Posted on Tuesday, February 19, 2019 at 04:34PM by Registered CommenterSimon Ward | CommentsPost a Comment

Chinese trade and money / credit releases for January reported recoveries in year-on-year comparisons and have been interpreted positively by market participants seeking evidence of economic turnaround. The suspicion here is that the improvements reflect a New Year timing effect and will reverse in February.

New Year fell on 5 February this year, 11 days earlier than in 2018. Exporters front-load shipments ahead of the holiday. When New Year is in early February (or late January), this bulge shows up in January exports. When the holiday occurs later, as in 2018, the February number benefits.

This effect is likely to explain the recovery in the year-on-year change in exports in US dollars from -4.4% in December to 9.1% in January. The February figure may fall sharply as high exports a year before drop out of the annual comparison – year-on-year export growth surged to 43.6% in February 2018.

This suggestion is supported by a comparison with two pairs of years with similar New Year timings  - 2010 / 11 and 2007 / 08. The first chart superimposes year-on-year changes in exports in those years on recent data. In both cases, a rise in growth in January of the second year was more than reversed in February.


The earlier New Year may also have contributed to a rise in year-on-year narrow money growth – as measured by true M1 including household demand deposits – from 3.4% in December to 5.1% in January. Demand for transactions money increases ahead of the holiday, with the effect showing up in end-January monetary data when the New Year occurs in early February. Money growth, like export growth, fell between January and February in 2011 and 2008.

Money and credit trends may be starting to revive in response to policy easing but a significant recovery in economic data is unlikely before late 2019, judging from the lead time at previous turning points in 2008, 2011 and 2015 – second chart.