The guest commentary below was written by written by Daniel Lacalle
The recent improvement in global PMIs and especially in employment in the United States have created a strong optimism in markets about the recovery. However, it is important to be cautious about a V-shaped recovery when the leading indicators remain weak.
Eurozone PMIs (Purchasing Managers’ Index) came slightly above expectations in May, but remained in deep contractions both at the composite, manufacturing and services level.
We must remember that a bounce like the one we have seen only means that the rate of deterioration is slowing down, not that there is a recovery. All sectors remained deep in contraction in May, but almost with slower rates of decline.
At the global level, output indices rose from record April lows but still indicate a significant reduction in activity, led by Travel & Leisure and followed by transportation as well as Healthcare services, all showing record drops, according to Markit PMIs.
The United States’ job data for May was a strong positive surprise. However, the Bureau of Labor Statistics admitted it accidentally miscounted 4.9 million laid-off people as employed, bringing unemployment to 16.1%, which is still much better than the 19% figure estimated by consensus, but not as strong an improvement as the headlines suggested.
The main reason why we should remain cautious is because we now have evidence that Chinese activity has recovered at a slow pace, particularly in those sectors that are not supported by government spending plans. We must also take the bounce figures with prudence, as it is quite likely that most leading indicators will rise from the all-time lows of April, but high levels of unemployment in developed economies and an unprecedented increase in the output gap of most economies may damp the improvement in consumption and investment that so many analysts expect.
Unemployment will be key to regain optimism about the recovery. When we see developed economies recover the levels of job creation and employment rates seen prior to the Covid-19 crisis, we may have confidence in a stronger improvement in consumption.
However, it is now clear that even in dynamic and strong economies like the United States, it will likely take between 8 to 10 months to recover the full level of employment seen in February. In The eurozone, this delay will likely be longer, up to 24 months.
Wages and savings are also key to believe in a rapid recovery. With the recent collapse of economic capacity utilization and the rise in inventories, it is hard to believe in a capital expenditure-led boost of the economy.
Most companies will likely preserve cash and devote the next year to restoring the balance sheet, making it less likely to invest and hire at the same pace of 2019. Wages are unlikely to rise in this challenging corporate environment, but real wages -deducting the impact of inflation, even if it is low- may actually weaken in the forthcoming months.
One thing that may support consumption in the following months is that the savings rate of households has risen, which might help support some spending in the months of July to September.
In the next months we will have to monitor employment as the key driver of any recovery.
The only way to support a service and consumption-driven growth will be with a strong rise in hiring intentions and at least stable wage growth. It is extremely difficult to be optimistic in the current situation even considering the May data. Until September we will not be certain if the recovery is real. Most of the positive data until then may just be rises due to the base effect of a very poor April.
This is a Hedgeye Guest Contributor note by economist Daniel Lacalle. He previously worked at PIMCO and was a portfolio manager at Ecofin Global Oil & Gas Fund and Citadel. Lacalle is CIO of Tressis Gestion and author of Life In The Financial Markets, The Energy World Is Flat and the most recent Escape from the Central Bank Trap. This piece does not necessarily reflect the opinions of Hedgeye.