Drinking & Knowing Things

“That’s what I do.  I drink and I know things”

-Tyrion Lannister, Game of Thrones 

Like currency correlation risk, drinking and knowing things aren’t always directly or strongly related.

I conducted a small home survey over the Christmas and New Years Holiday’s.

It was only 3 questions and the n was only 25.

These were the questions:

• What is Fascism?
• What is Populism?
• What does exponential mean?

I wouldn’t cleanly classify any of the participants as Intelligentsia but I would, subjectively, categorize the sample as a representative cross-section of collective American awareness.

Here were the results: 

1^st number = # who demonstrated a vague/superficial understanding

2^nd number = # who could effectively articulate a characterization

• Fascism:  10, 1
• Populism:  14, 6
• Exponential:  22, 6

As it relates to 1&2 above, I’ve been rereading The Macroeconomics of Populism in Latin America by Dornbusch since the election. 

There are obvious differences between the U.S. and late 19^th century Latin America but if you’re interested in understanding the motivations behind the pursuit of expansive fiscal policy and the common procession of macroeconomic developments that follow, it’s a good historical exposition.   

More on that another time. 

Back to the Global Macro Grind…

I was mostly interested in the last question as, for whatever reason, I’ve increasingly heard it used in people’s descriptions of various phenomenon. 

I get why and the survey results are fairly confirmatory. 

“Exponential” carries the distinction of both sounding technical and impressive while conveying the correct connation in most instances.  Outside of almost any discrete mathematical context, connotation is sufficient and precise definitional understanding unnecessary.

To make this relevant, the (jobs Day) point is this:

Payrolls cannot grow at a constant (above population growth) rate indefinitely.  As an expansion matures you would soon run out of labor force participants to hire then, shortly thereafter, you’d exhaust the entire working age population.  

And inside of that are other basic frictions such as the increasing challenge of matching skills with need as labor supply diminishes and the price at which that increasingly scarce resource (labor) can be acquired.    

This simple arithmetic reality (along with the policy response to it) is why the rate of change in payroll growth exhibits a consistent cyclical pattern across cycles and why, after hitting a rate of change peak, employment growth always converges to zero. 

Since we shifted to bullish following the election, one of the more consistent questions we receive on The Macro Show has been a version of:   “Isn’t labor still slowing and isn’t that bearish?”

1. The answer to the 1^st part is yes.  Payroll growth is slowing and will probably continue to decelerate with this morning’s print for December.  Anything <275K would equate to further deceleration against a difficult December ’15 comp. 
2. The answer to the 2^nd part is a conditional ‘yes’ … which is basically the same as a conditional ‘no’.

So, what can forestall or negate the impacts of slowing payroll growth?  We don’t do single factor modeling

• Wage growth:  income growth is what matters as it relates to the capacity for consumption and further acceleration in wage growth could maintain or modestly re-accelerate the pace of aggregate income growth in the face of slowing employment growth
• Credit Growth:  Outside of income growth, credit remains the primary means for households to amplify/pull-forward consumption.  Revolving credit growth has accelerated over the past year+, helping to offset the deceleration in income growth. We’ll get the November update on Monday.
• Confidence => Durables Consumption:  Goods consumption is the most cyclical component of household spending with durables expenditures showing the largest sensitivity to macro and credit conditions.  The post-election step function increase in consumer confidence is notable in light of the fact that durables consumption has emerged as a relative support to Total Consumption growth.  It will be interesting to watch the interplay between confidence, credit and durables expenditure in the coming months.
• Luxury Spending:  High ticket discretionary purchasing went into total hibernation in 2016.  A deceleration in spending growth at the high end following zero net gains in domestic equities and net losses in global equities for almost two years isn’t particularly surprising.  Will resurgent asset price inflation also drive resurgent consumerism at the high end?

The other collective component of the fundamental macro data mosaic to consider is the actual data:

• Confidence:  Trumphoria is now ubiquitous across all Consumer and Business Confidence Surveys with Headline, Present Conditions and Forward Expectations readings all step functioning higher since October. 
• Retail Sales:  On a year-over-year basis, sales growth across both Headline and the Control Group in Oct/Nov are accelerating relative to 3Q16. Control Group sales in 4Q are currently tracking +3.6% QoQ annualized (compared to 1.1% realized in 3Q16).
• Auto Sales:  Auto Sales rose +3% sequentially in December, marking a new cycle high at 18.29 Mn units.  Is that sustainable?  Not really, but its also not bearish for reported growth.  With auto’s representing ~20% of total Retail Sales, the gain in unit auto sales suggest further incremental improvement in Headline Retail Sales when the data are reported next Friday (1/13).
• ISM’s:  The ISM manufacturing index hit its highest level in 2 years while the New orders Component went >60, marking its highest level in 26-months.  The same dynamic characterized the services side as New Orders in the ISM Non-Manufacturing Index rose ++4.6 pts to 61.6 in December, marking the highest level since August 2015.  Both ISM Mfg and ISM Services New Orders are >60 at the same time for the 1^st time since Nov 2014.
  • Durable Goods: Durable Goods Ex-Defense and Aircraft – which represents the series most closely aligned with household demand -  rose +0.6% sequentially in November while improving to +1.2% YoY.  This represents a 2nd month of positive YoY growth – the first such streak in almost 2 years – and the fastest pace of growth since April 2015.

I could go on but the point is that the preponderance of domestic macro data is accelerating – either improving conspicuously or improving on the margin (i.e. getting ‘less bad’)

Could that peter out as fast as it improved?  Sure …. Maybe optimism will prove especially ethereal in the current instance and it will turn out to be a ‘buy the election, sell the inauguration’ dynamic domestically.  And how long can Mexico and China intervene in Fx markets? … and what underappreciated dynamics necessitated that intervention and what are the 2^nd or 3^rd order effects if conditions in either or both (or elsewhere in EM) spiral. 

But – and to bring it back to payroll growth - current conditions also suggest the possibility for a labor trend similar to the late 90’s expansion where, after peaking and decelerating, payroll growth flat-lined and accelerated modestly for 1.5 years from late 1998 to mid-2000 alongside a late-cycle acceleration in wage growth. 

After the toughest comps of the cycle in 4Q16, the April and May NFP comps are only +144K and +24K, respectively, after all.

Tactically, a good print this morning probably = Gold & Bonds ↓ while a bad print probably gets you a buying opportunity in the $USD and higher beta, cyclical exposure and a selling opportunity in slow growth/defensive allocations.  

Does a strong dollar perpetuate growth or does a period of strong economic performance perpetuate a stronger currency? 

Does drinking perpetuate knowing or the other way around. Perhaps they’re intimately locked in some kind of perpetual, co-dependent positive feedback loop. 

Anyway, to close, below is a friendly updated reminder from the BLS on the standard error in the NFP estimate.  To summarize, if NFP prints +114K this morning, the BLS is 90% sure we gained between 0 and 228K jobs. 

Our immediate-term  Global Macro Risk Ranges are now:

UST 10yr Yield 2.34-2.61%

SPX 2 

VIX 10.53-14.18
EUR/USD 1.03-1.05

Gold 1120-1184

#Drink&Guess,

Christian B. Drake

U.S. Macro Analyst