If you are confused over the economy, then you likely aren’t the only one.
In late August we got two pieces of seemingly contradictory economic news. One was weak and the other pointed to strength. Here’s what they both mean, and why the economy is actually picking up.
On the one hand, the government trimmed its estimate of second GDP quarter growth to a paltry 1.1 percent, according to the latest data. That’s weak by any standard and because it was the period from April through June, it was also hard to blame the winter weather, which itself has become something of an annual excuse lately.
On the other hand, the Federal Reserve has indicated it is moving closer to that point where it may raise the cost of borrowing money. Why? Because the economy is showing strength.
So which is it, strong or weak?
Simply put, in the second quarter the economy was sluggish, but it is clear that the Fed, and other observers, think it will speed up as the year progresses. The policy makers base that optimism on a variety of economic metrics, most of which are showing strength.
A better jobs market. “We are relatively constructive on the economy,” says Jason Dillow, chief investment officer at Halcyon Capital Management in New York. “The best way to see that is to look at the jobs data.”
He notes that first-time claims for unemployment benefits totaled 263,000 for the week ended August 27, the 78th consecutive week that they have been less than 300,000.
Such a long period of such low levels of claims hasn’t been seen since 1970, according to the government.
It’s the sign of a robust jobs market, and that should filter through to improved consumer spending, Dillow says. When people have jobs they collectively spend more money and so the economy grows even faster.
Such spending often drives profits of companies selling goods and services that are desired, but not essential, the so-called consumer discretionary sector. A basket of such stocks are held in the Consumer Discretionary Select Sector SPDR exchange-traded fund (ticker: XLY). It has annual expenses of 0.14 percent, or $14 per $10,000 invested.
Low inflation, stable housing. “Inflation is low, but stable. Housing is a mild strength,” says Stephen Guilfoyle, chief market economist at Stuart Frankel & Co. in New York. Both are key to a smoothly growing economy.
The Core Personal Consumption Expenditure Deflator, which measures inflation but excludes food and energy prices (which are considered too volatile), has remained well below the Fed’s 2 percent target for the past few years.
That means that when the Fed does start raising the cost of borrowing the moves will likely be small and measured, rather than big and fast. In other words, the economy probably won’t get stalled by rate moves.
Sales of new single family homes totaled an annualized 654,000 in July, according to data from the government. It marks a 31 percent jump from the same month a year ago.
Not only is the housing data the best in years, but it is also an indicator of future economic activity. Typically houses are sold before they are built, which means that every sale points to hiring of construction workers and spending on materials over the next few months. In addition, when people finally move into a completed home they typically spend money on furnishing it with chairs, curtains and other knickknacks. Retailers such as Target Corp. (TGT) tend to benefit from such spending.
Furthermore, without a strong housing sector, it is hard to see how the economy could grow as fast as it did when President Bill Clinton was in office during the 1990s. So this piece of data is actually very good.
More investment needed. Not everything is awesome, though. One area in particular stands out as wanting.
“I only hope that business spending picks up,” says Jack Ablin, chief investment officer at BMO Private Bank in Chicago.
Starting in November 2014, the dollar value of new orders for capital goods excluding aircraft has seen year-over-year declines every month, except two, according to data from the Federal Reserve Bank of St. Louis.
Although business investment isn’t the biggest part of the economy, it is very important. It determines the volume of stuff that the economy is capable of producing. In order for the economy to improve over time, businesses need to invest in new machines and other technology. Just as important as new machines is repairing and upgrading old or worn out ones.
The bottom line is that when a company invests in better machines it makes workers more productive. Historically, higher productivity has led to increased wages.
If Ablin gets what he wants and business spending picks up, then there should be a boost in productivity and maybe eventually an uptick in wages.
Cross-posted from U.S News.
Constable is an economics/financial markets commentator. Currently, he writes the monthly “In Translation” column for The Wall Street Journal, and a weekly investments column for U.S. News & World Report. He also contributes regularly to Barron’s, TheStreet, Fortune, Forbes.com and other publications.
Prior to becoming a full-time economics journalist/commentator Constable worked in a variety of strategy/advisor roles for major corporations.
His first book, The WSJ Guide to the 50 Economic Indicators that Really Matter, won an economics category award in the 2012 Small Business Book Awards at Small Business Trends. It has been translated into multiple languages. He authored the Rudolf Wolff mini-guides to the London Metal Exchange, and the Real Money Guide to Investing in Gold.