Average hourly earnings growth continues to rise, albeit at a leisurely pace. Average hourly earnings for all employees in the private sector grew at 2.92% over the last 12 months, while production and nonsupervisory employee earnings grew at 2.80% over the same period. The Fed is likely to adopt a more restrictive stance if hourly earnings growth, representing underlying inflationary pressures, exceeds 3.0%. So far the message from Fed Chair Jerome Powell has been business as usual, with rate hikes at a measured pace.
Rising wage rates to-date have been unable, up to Q2 2018, to make a dent in corporate profits. Corporate profits are near record highs at 13.4%, while employee compensation is historically low at 69.5% of net value added. Past recessions have been heralded by rising employee compensation and falling corporate profits. What we are witnessing this time is unusual, with compensation rising, admittedly from record low levels, while profits rebounded after a low in Q4 2016. There is no indication that this will end anytime soon.
Weaker values (1.17%) on the Leading Index from the Philadelphia Fed reflect a flatter yield curve. A fall below 1.0% would be cause for concern.
Our surrogate for real GDP, Total Payrolls x Average Weekly Hours Worked, is lagging behind recent GDP growth (1.9% compared to 2.9%) but both are rising.
Another good sign is that personal consumption expenditure, one of the key drivers of economic growth, is on the mend. Services turned up in Q2 2018 after a three-year decline. Durable goods remain strong. Nondurables are weaker but this may reflect a reclassification issue. New products such as Apple Music and Netflix are classified as sevices but replace sales of goods such as CDs and videos.
There is no cause for concern yet, but we will need to keep a weather-eye on the yield curve.
Markets are constantly in a state of uncertainty and flux, and money is made by discounting the obvious and betting on the unexpected.
~ George Soros
