Macroeconomic focus - October 2021

No indication of easing pressure

September’s job creation numbers came in well below expectations of 500,000 at just 194,000, largely due to 180,000 fewer jobs in the education sector. The numbers were less disappointing in the private sector with 317,000 jobs created during the month, versus expectations of 450,000, as well as upward revisions to earlier months. The unemployment rate fell more than expected to 4.8%, reflecting a drop in the participation rate from 61.7% to 61.6% and a stronger household survey. Hourly wages continued to rise, up 0.6% for the month and 4.6% year on year. Nearly all sectors reported unusually high wage growth. Overall, this employment report does not suggest any lessening in labour market pressures. The deteriorating Covid-19 situation in September may have played a role and it will take several months to fully evaluate the impact of ending the unemployment benefit top-up scheme at the start of the month.

September’s inflation figures showed no easing in price pressures either. At first glance, the pace of price increases has slowed significantly over the past three months, with the core index (excluding food and energy) rising by 0.2% over the month following 0.1% in August and 0.3% in July. Between April and June, the average increase was 0.8%. The slowdown is, however, closely linked to prices returning to normal for the most Covid-19 sensitive goods and services (cars, hotels, transportation services) following a sharp rebound. When these categories are excluded, the core inflation rate is similar to that observed in the spring. We are also seeing a continued acceleration in housing costs, a more structural component that could lead to more persistent inflationary pressures.

The ISM indices remain at high levels with upbeat new orders, a sign that demand remains strong. The delivery time component is tending to increase, reflecting supply and logistical problems that are weighing on production, particularly in the automotive sector. These conditions continue to be a drag on car sales, which fell 6.7% in September after an 11.5% decline in August. The decline in car sales over the third quarter could take around 1.5 percentage points away from annualised US GDP growth.

Against this backdrop, the Fed opened the door to a reduction in its asset purchases in November. The members of the monetary policy committee also revised their interest rate forecasts upward, with members evenly split over a 25 basis points rise in 2022 and three additional increases likely in 2023.

[1]ISM: published each month by the Institute for Supply Management, this index is separated into two main families: ISM manufacturing, reflecting the health of the sector in the USA, and ISM services, more specific to tertiary activities

[2]GDP: Gross Domestic Product, an indicator of the wealth produced by a country. Main economic indicator for measuring economic production within a given country

[3]Fed: The United States Federal Reserve, the central bank of the United States.

Softening economic activity

October’s composite PMI index continued its decline, falling 1.9 points to 54.3, its lowest level in six months. While the manufacturing PMI only fell by 0.1 of a point to 58.5, the production component, which is used to calculate the composite PMI, dropped 2.4 points to a 16-month low of 53.2. Intensifying supply problems are hampering production, and delivery times are extending to return to their longest readings. Markit reports that the sharp drop in car production continued in October, and the sector’s problems are also materialising in economic data. Car production in the eurozone fell 10.5% in August alone and is about 30% below its pre-crisis level. New car registrations also fell by 7.0% for the third quarter.

Meanwhile, the services PMI fell from 56.4 to 54.7. The boost from lifting health restrictions is gradually fading, while the resurgence of the virus, particularly in Germany, is causing new concerns given the potential impact on certain sectors such as travel and tourism. The employment components, however, remain buoyant, especially in the services sector, and the unemployment rate continues to fall. At 7.5% in August in the eurozone, unemployment is now only a 0.1 percentage point below the February 2020 level. The PMI survey breakdowns also show a sharp rise in the price components, which are reaching record levels, both upstream and downstream, and raising fears that inflationary pressures are building. September’s leading inflation figures show easing following three relatively strong months, but the impact of rising energy prices will need monitoring in the months ahead.

Germany’s legislative elections failed to produce a clear majority, initiating a negotiation period between the parties in the bid to form a government. The SPD, Greens, and Liberals announced that they had reached a preliminary agreement, resulting in the publication of a 12-page document summarising the policies for which they were able to secure agreement. This document will now serve as the basis for formal negotiations. The SPD secured a commitment to raise the minimum wage, the Greens negotiated a series of environmental measures to combat climate change, and the liberal FDP won a commitment that there will be no tax hikes nor any relaxation of rules curbing debt growth.

[1]PMI: PMI indices are confidence indicators that summarize the results of surveys conducted among company purchasing managers. A value greater than 50 indicates a positive sentiment in the sector concerned (manufacturing or service).

[2]SPD: The Social Democratic Party of Germany, which was founded in 1875, is the oldest political party in Germany. It is the only one of the current major parties in the Federal Republic of Germany that existed in a comparable form before World War II.

[3]FDP: The Liberal Democratic Party is a German liberal political party founded in 1948. It advocates policies that combine the defense of fundamental freedoms and free trade with some elements of the German welfare state

Is the slowdown under control

China’s third-quarter growth slipped more than expected to 0.2% quarter on quarter after posting 1.2% in the second quarter, which takes the year-on-year figure from 7.9% to 4.9%. Consumption and the services sector were both affected by tighter health restrictions in July and August before rebounding when the restrictions were eased in September. When September 2021 retail sales are compared with September 2019 to strip out base effect distortion, the 2021 annual increase is 3.8% compared to almost 8% in 2019. Growth has also been hampered by the property sector and September’s data showed this trend continuing. Compared to 2019 and expressed as an annualised rate, property investment slowed from 5.9% to 4.0%, home sales from -2.8% to -4.8%, and housing starts from -7.7% to -7.9%. New home prices in 70 cities fell 0.1% for the month, the first decline in six years, taking the annual increase to 3.3%.

Slowing down the property sector has been a government target, and it significantly tightened supervisory measures over the past year. These measures restrict the growth of property developers’ debt and require banks to limit their exposure to the sector, which has led to liquidity problems for property developers with poor fundamentals, such as Evergrande. The challenge for the government now is to avoid a sharp slowdown in this sector, which accounts for about a quarter of GDP in its broadest sense, without providing immediate support to struggling developers: such a move would run counter to its campaign to clean up the property market. For the time being, the authorities have mostly maintained favourable liquidity conditions in order to avoid a credit crunch. The regulator has also asked banks to speed up the mortgage approval process to support sales, while opening the way for RMBS issuance that could free up lending quotas.

Adding to these housing market uncertainties are the recent power outages, amid coal shortages and voluntary rationing by local governments seeking to achieve their annual energy intensity reduction targets. The Chinese authorities have tried to manage the current shortages by ordering local coal producers to boost output, as coal remains by far China’s most significant energy source. Imports from Australia have resumed, and the authorities have authorised a higher increase in electricity prices (20% maximum compared to 10% previously) in a bid to encourage producers to raise output at this time of sharply higher coal prices.

Source : Lazard Frères Gestion and Bloomberg as of October 26th 2021

The opinion expressed above is dated October 26th 2021 , and is liable to change.

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