This Week's State Of The Economy - What Is Ahead? - 29 March 2024

By: Taro Chellaram /Wells Fargo Economics & Financial Report/Apr 03, 2024

This Week's State Of The Economy - What Is Ahead? - 29 March 2024

This week's economic data largely reinforced existing economic growth patterns. Consumer momentum remains largely intact, inflation continues to inch back down, albeit at a slower pace, and rate-sensitive sectors stayed in a holding pattern. Perhaps most encouraging were signs that the economy entered 2024 on stronger footing than initially observed. The Commerce Department released the latest revisions to Q4 GDP, bringing up growth to a 3.4% annualized rate from the previous 3.2% estimate (chart). Among the revisions, nonresidential spending growth jumped to 3.7% from 2.4% on upward revisions to private nonresidential construction outlays. Booming manufacturing construction has propelled structures investment, a trend we highlight in a recent special report. Government outlays were also revised higher, but the leg-up in consumer spending, specifically services outlays, was the primary driver of the upward revision to GDP. Although sustained consumer spending in the sector is on its face an encouraging sign for growth, it may be preventing a sustained cooling in services prices.

Illustrative of this point, the February personal income & spending report painted a picture of a defiant consumer that continues to splurge on services. Nominal spending rose 0.8%, the largest monthly gain in a year and a half, and once adjusted for inflation rose a still-sturdy 0.4%. But it was a 0.6% jump in real services outlays that stole the show. This was the largest jump in real services spending since the summer of 2021 when consumers were still flush with pandemic-era savings. The surge in services spending is another headache for policymakers. As long as consumers keep splashing out in the service sector, the businesses that provide these services have no incentive to ease up on pricing. To that end, the inflation rate for services less housing, or "super-core" inflation, came in at 3.3% year-over-year, but the three-month annualized rate of 4.5% points to near-term upward momentum (chart). Although the annual rate of the core PCE deflator, the Fed's preferred measure of inflation, came in at 2.8% year-over-year with a slightly smaller-than-expected monthly rise of 0.3% in February, services prices are no longer cooling as they were a few months ago.

All of that being said, a few potential roadblocks lay in the path of consumers. Income growth has moderated as of late, and household pessimism around future income growth is building, despite an improved view of the current jobs market. Personal income rose 0.3% over the month in February, but once adjusting for inflation and stripping out taxes paid, real disposable income slipped 0.1%. Waning income growth is weighing on consumer confidence, and we ultimately anticipate a slower pace of economic growth this year as households have become increasingly dependent on income to feed their spending habits.

The refreshed GDP report also shed light on economy-wide corporate profits. Pre-tax profits came in stronger than expected, rising 4.1% over the quarter on a non-annualized basis. In dollar terms, profits jumped by $105 billion, the largest quarterly gain since Q2-2022. Steady profit growth has afforded firms with the means to expand and hire, and while firms have generally reduced their capex demand, the strong end to 2023 suggests businesses entered 2024 on solid financial footing.

The February durable goods report provided some fresh manufacturing data as new orders rose 1.4% over the month. This was only a partial rebound from January’s weakness and is consistent with a manufacturing sector flying at stall speed. Core capital goods orders excluding defense and aircraft rose 0.7% following two monthly declines, but the current interest rate environment continues to weigh on capex demand. Although there are early signs of recovery in the production data, we don’t expect a sustained manufacturing recovery to take hold until the Fed begins to ease policy in the second half of the year.

High interest rates continue to keep a firm grip on the housing sector. February’s new home sales report was a dud as sales inched down 0.3% to a 662K-unit annualized pace. February’s slip was likely owed to an uptick in mortgage rates during the month. Additionally, the relative improvement in available existing homes also may have cut into new home sales during the month. That said, the growth trend for new home sales remains in place, with sales up 5.9% on a year-over-year basis. Abundant supply is also helping to dull price growth and attract buyers to the new home market; however, affordability remains a major constraint for homebuyers. Within the resale market, affordability issues have been further compounded by resurgent home price growth. The S&P CoreLogic Case-Shiller National Home Price Index (HPI) rose to 6.0% on a year-over-year basis in January, and the index is now about 1% above its previous peak set in June 2022. Despite the persistent rise in home prices, buyers appear to be re-entering the market amid incrementally improving supply. The NAR Pending Home Sales Index bounced back in February as contract signings rose 1.6% over the month. The move portends further improvement in existing home sales, which are already off to a strong start in 2024.

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