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By HaleStewart December 20, 2017 7:01 am
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5 Key Charts For the US Economy in 2018

            The US economy is currently doing very well.  As I recently noted, all the coincidental indicators show an expanding economy.  The leading indicators show more moderate growth and none of the long-leading indicators show any signs of weakness.  But will this trend continue?  No one knows for sure.  However, I believe the following five economic indicators will answer whether or not 2018 will shape up to be a continued expansion or a recession.

            The lack of inflation is a global in nature.  The latest OECD World outlook observed:

Headline consumer price inflation eased in mid-2017 in most major advanced and emerging market economies, helped by the moderation in energy prices. Meanwhile, underlying inflation across the advanced economies is currently subdued in aggregate despite the broad-based cyclical upturn and the continued absorption of slack.

The U.S. is not an exception to this rule. 

The top chart shows the 3, 6 and 12-month averages for core PCE prices.  They have only been above 2% for a brief time since the end of the recession.  The bottom chart shows total PCE prices which have briefly touched 2% once in the last 4 years.  Other inflation measures are also weak:

 

The top chart shows core CPI, which was been above 2% twice since the recession, most recently during 2016.  But it was only slightly above the Fed’s 2% make and is now below that level.  The bottom chart shows the Dallas Fed’s trimmed mean CPI which removes extreme readings under the assumption that they are statistical anomalies.  This measure has yet to breach the 2% mark since the recession. 

            The Fed, however, continues to raise interest rates.  One of their justifications for this policy action is that weak inflation is transitory.  Fed policy makers also believe their model, which has erroneously projected higher inflation for the last five years, is correct and that we’ll see higher price in the intermediate term.   

            So, looking at 2018, we have this central question: will we (finally) see inflation pick up?

            Professor James Hamilton has noted that oil price spikes are one of the primary causes of most post-WW II recessions.  This expansion oil prices have been very tame, largely thanks to OPEC opening the production spigot in 2014 to drive U.S. frackers out of the market (which only happened temporarily).  But oil prices have increased since mid-2016:

There are three key technical features of the daily chart (top chart).  First, prices have been rallying since mid-June, producing a solid uptrend line starting in mid-July.  Second, prices broke through the price resistance provided by the lower-mid 50s.  Third, prices are now consolidating their gains in a triangle pattern.  The weekly hart (bottom chart) shows that prices are consolidating slightly above the 200-week EMA.

            Looking at 2018, we have to ask the following question: will oil prices continue to rally?

            Despite a very low unemployment rate, wages have been very weak:

The top chart is the Y/Y percentage change in real income less transfer payments (which is a coincident indicator used by NBER in recession dating) and the bottom chart is the Y/Y percentage change in the hourly earnings of non-supervisory employees.  Both are increasing but at a far weaker rate than in previous expansions.  This is another economic conundrum that is baffling policy makers.

            This is a very important number.  Currently, retail sales are increasing at a strong pace as are personal consumption expenditures.  But the savings rate is declining as consumers dip into their savings to fund current expenditures.  Wages need to increase   

            Looking ahead to 2018, will we see a meaningful increase in wages?

            Currently, the 10-year-FF spread is ~100 basis points:

 

            According to the latest dot plot, the Fed intends to raise interest rates three times next year.  With the 10-year treasury right below 2.40, three rate hikes would narrow the 10-year-FF spread to the 15-20 basis point range.  That means the curve would be near to inverting.  Currently, there is debate as to whether a yield curve inversion means the same in a quantitative easing world.  Assuming it does, this narrowing would mean the U.S. economy was about 12-24 months away from the start of the next recession.

            Looking ahead to 2018: will we see the yield curve continue to compress?

            Finally, the labor market is currently in good shape.  The unemployment rate is 4.1%,  the employment/population ratio is increasing and the labor force participation rate has stabilized, albeit at lower levels.  While it’s possible we could see further improvement (Japan, after all, has a 2.5% unemployment rate), things are probably about as good as we’ll get.  That being said, we need to monitor the 4-week moving average of unemployment claims, which is one of the best leading indicators not only for the labor market but the economy as a whole:

 

This number is currently near its lowest levels since the 1970s.  The question is what will happen to them in 2018?

     This doesn't mean these are the only areas you should keep an eye on.  But I do think these are the key areas for the next year.

In 2009, F. Hale Stewart, JD. LL.M. graduated magna cum laude from Thomas Jefferson School of Law’s LLM Program.  He is the author of three books: U.S. Captive Insurance LawCaptive Insurance in Plain English and The Lifetime Income Security Solution.  He also provides commentary to the Tax Analysts News Service, as well as economic analysis to TLRAnalytics and the Bonddad Blog.  He is also an investment adviser with Thompson Creek Wealth Advisors. 

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