Well, That De-Escalated Quickly
- The week began amid rising tensions carrying over from the U.S. killing of Iranian General Qasem Soleimani last Friday. Iran responded with non-lethal airstrikes on U.S. facilities, but President Trump has said the U.S. has no plans to escalate further, and the Iranians appear to have concluded their response for now.
- Compared to just prior to the drone strike, U.S. stocks are higher as is the dollar and the price for a barrel of oil (after spiking briefly) is now about $2.00 lower.
- he job market continued to expand adding another 145K jobs although wages rose the least since mid-2018.
Tale of Two Cities: Manufacturing vs. Service Sector
The first major economic indicator to hit the wire in 2020 was the ISM manufacturing report last week, which showed the fastest pace of contraction since the height of the 2008 recession. So when the ISM non-manufacturing report was published earlier this week, financial markets were relieved to see that barometer of the service sector rise to 55.0. That is the fastest pace of expansion in four months.
The shortened holiday shopping season due to a late Thanksgiving this year was referred to a number of times in the report. That gels with our thinking around Holiday Sales. We have been saying that despite a weaker-than-expected retail sales report in November, we still expect a year-over-year Holiday Sales increase of 5.0% as December will effectively get a boost. Even Cyber-Monday (the Monday after Thanksgiving) got pushed into December.
A Slowing in Labor Market Growth
The employment component of the services ISM remained in expansion but slipped a bit from the prior month heralding the slightly lower-than-expected employment report on Friday which showed the U.S. economy added another 145K jobs with the unemployment rate staying put at 3.5%.
It has been a remarkably good run for the labor market, but this latest report offered some indications of softening even amidst the lowest jobless rate in a half-century. Average hourly earnings edged up just 0.1% in December, after rising 0.3% in each of the prior two months. On a year-over-year basis, average hourly earnings rose by the smallest amount since July 2018.
Still, for the year as a whole, the U.S. economy added 2.1 million jobs with an average monthly gain of 176K jobs. Those are solid numbers, but short of the 223K monthly average in 2018.
For the Fed, the message from the jobs report is that the labor market remains tight, but still not tight enough to put upward pressure on earnings so not much of a threat for inflation. In other words, there was nothing in this report to nudge policymakers from a course of holding rates steady.
Service Sector Resilience
In what is probably the most consequential development for GDP growth this week, the trade deficit narrowed to $43.1 billion in November which, barring an unexpected widening in December, means that trade will be a big boost to fourth quarter GDP.
The boost is welcome but if, as we expect, the recent decline in imports is due to importers pulling forward demand to get ahead of consumer-focused tariffs, it may be set to reverse and be a drag on GDP in coming quarters. Those consumer-focused tariffs were taken off the table with the Phase I trade deal set to be finalized at a formal signing next week in Washington.
An interesting development is that U.S. petroleum exports exceeded imports in November for the third straight month, another reason perhaps why financial markets have (for now at least) shrugged off the crisis in Iran.