The FED has spoken.

… and as I predicted in my prior BLOG posts, the FED raised the funds rate by ¼ %.    Their statement:

“In view of realized and expected labor market conditions and inflation, the Committee decided to raise the target range for the federal funds rate to 3/4 to 1 percent.” 

Remember, last week I forecasted between March 8^th and April 23^rd, we will see:

1. The FED raise the funds rate by 1/4 of a percent;

2. The major stock indicies under pressure … possibly in “correction” mode;

3. The 10-year Treasury falling below 2.20%.

So far, I’m batting 1000.  ?

For support of predictions #2 and #3, take another look at last week’s blog.   Today, we’ll talk about the FEDs decision, what drove it, and the longer-term suggestions and implications for the economy, inflation, and the financial markets.

Welcome to this week’s Steak House Index update.   Remember to view the SHI on its very own URL – https://www.steakhouseindex.com/     The reading experience on the site is much better!

As always, if you need a refresher on the SHI, or its objective and methodology, I suggest you open and read the original BLOG: https://terryliebman.wordpress.com/2016/03/02/move-over-big-mac-index-here-comes-the-steak-house-index/)

Why You Should Care: The US economy and US dollar are the bedrock of global economics.  This has been true for decades…and notwithstanding plenty of predictions to the contrary, it will continue to play this role for years to come.   Fear not.

Nominal global GDP is about $76 trillion.   US GDP is almost $19 trillion.  Is it growing or shrinking?  If it’s growing … how rapidly?   How might this information impact our daily financial and business decisions?

The objective of the SHI is simple: To predict the GDP direction ahead of official economic releases.  While the objective is simple, the task is not.  BEA publishes GDP figures the instant they’re available.  Unfortunately, the data is old, old news; it’s a lagging indicator.

‘Personal consumption expenditures,’ or PCE, is the single largest component of the GDP. In fact, the majority of all US GDP increases (or declines) usually result from (increases or decreases in) consumer spending.  Thus, this is clearly an important metric to track.

I intend the SHI is to be predictive, anticipating where the economy is going – not where it’s been. Thereby giving us the ability to take action early.  Not when it’s too late.

Taking action: Keep up with this weekly BLOG update. If the SHI index moves appreciably – either showing massive improvement or significant declines – indicating expanding economic strength or a potential recession, we’ll discuss possible actions at that time.

The BLOG:

The FED raised rates today, suggesting the US economy is performing well, slack in the labor market is gone, and inflation is approaching their 2% target.  Let’s dig a bit deeper into their comments.

First, I suggest you click this link…and take a look at the FEDs economic predictions thru 2020 – and beyond:  https://www.federalreserve.gov/monetarypolicy/files/fomcprojtabl20170315.pdf

What do these diagrams tell us?   In a nutshell, for years into the future, the FED expects:

1. GDP growth will remain around 1.8% per year;

2. The unemployment rates will remain in the mid- to high-4% range; and,

3. Inflation (measured by the PCE) will remain at or near 2%.

I agree with point number 1, and with point #2.   But not #3.  

I attribute much of the last 6-months lift in the PCE to oil price increases.   These will moderate over the next six month.   Thus, I expect inflation to remain range-bound, near 1.6 – 1.7%.    Don’t be fooled by comments about the CPI – comments that suggest inflation is running too hot.  The CPI is a meaningful metric, but it is outdated.   Because of its design, it consistently overstates the inflation rate.  The most recent reading was 2.7% – almost 1% higher than the PCE.

A few more comments on the FEDs GDP forecast.   For decades, US GDP growth was much, much higher than today.    Essentially, GDP growth is equal to the sum of labor force growth + productivity increases.   Which means, if we subtract labor force growth from the GDP growth rate – for the same quarter – we can see how productivity has trended over time.   Here are the 10-year spans of time, beginning in 1948 when these stats were first tracked:

What does this chart tell us?  First, note I’ve used conditional formatting to highlight differences.   Post WWII, a “productivity component” added well over 2% to annual GDP growth.   Of late, very muted productivity improvements have held GDP growth potential down.

Said another way, the FEDs annual GDP forecast of 1.8% is the sum of an annual 1% labor-pool growth plus about 0.8% productivity improvement. 

I think this is spot on.

How are our steakhouses faring this week?   Let’s take a look.

Yum.  Makes the mouth water, right?   Apparently it’s working:   This week the SHI remained at the high level of a positive 18.   While this is a large decline from last week’s lofty reading of a positive 43, when we compare to the reading one-year ago (a negative -12) the index reading remains quite robust and definitely supportive of the FEDs decision to raise rates:

Here is our longer term trend:

I’ll finish this week’s post with a final comment on a passage from the FEDs press release from 11:00 am today:

“In determining the timing and size of future adjustments to the target range for the federal funds rate, the Committee will assess realized and expected economic conditions relative to its objectives of maximum employment and 2 percent inflation.  This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments. “

Note I’ve underlined the word ‘international.’   Much of the data the FED tracks is domestic.   But the FED knows the US is one of many ships on the global economic sea.  Thus, future events in China and Europe – even Greece – can (and will) impact the FEDs future decisions.  And our US economy.   The upcoming French elections are an economic headwind.

But for now, all is good.  In her press conference after today’s press release, Janet Yellen commented, “The simple message is the economy is doing well.”   ‘Nuff said.

• Terry Liebman