The first batch of September's economic reports are out and they suggest that the economy continued expanding last month. The ISM manufacturing and services indices (released on Friday and yesterday, respectively) show an economy that's still growing. It’s a mistake to read too much into these numbers, given the challenges that still confront the U.S. There are also several weeks of September reports to digest in the month ahead. But the early signs from the ISM benchmarks, at least, offer support for cautious optimism.
No one expects a robust expansion any time soon, in part because the job market continues to sputter. Maybe we'll learn otherwise on Friday with the update for September payrolls. (The consensus forecast, by the way, anticipates a mild net increase of 74,000 nonfarm jobs last month, according to Briefing.com.)
While we're waiting, the threat that there's a new recession in the offing looks a touch less potent in the wake of the twin ISM reports. Last Friday, the ISM manufacturing indicated growth in this corner of the economy, albeit at a slower pace from August. Better news arrived in yesterday's update for services, which showed that this sector grew last month, and at an accelerated pace. The ISM services sector index rose to 53.2, up from 51.5 in August (a reading above 50 indicates growth). The new-orders component of services also rose at faster rate in September vs. the previous month. That's encouraging because new orders are considered a leading indicator that economists use as a proxy for future demand.
The stock market took the hint today and rose sharply on Tuesday. The S&P 500 jumped more than 2% on the day, a gain that puts the market at its highest level since May. The surge helps erase the summer selloff that was accompanied by rising anxiety that a new recession was imminent. The stock market isn't a flawless forecaster, of course, and so we must be cautious in assuming too much from short-term trends in equity prices. But as we discussed at some length in an issue of The Beta Investment Report late last month, the linkage between stocks and the economy, while imperfect, is sufficiently robust on a rolling 12-month basis. Accordingly, the gains in the stock market for the past month are worth monitoring as a possible signal that there's a change brewing in the macro outlook.
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Perhaps it's no accident that the rally in stocks that began in early September has been accompanied by a rebound in the annual rate of growth in the money supply. The 12-month change in the MZM measure of the nation's money stock, for instance, has turned up recently and is now increasing for the first time since this year's first quarter, as the chart below shows. The Fed, in other words, seems to be favoring more liquidity injections to juice the economy. That's a sharp change from the summer, when the rapidly falling year-over-year pace in money supply was fueling worries that the economy was headed for a new round of trouble.
Another encouraging sign comes from the bond market, if only marginally. The Treasury market's 10-year inflation forecast (measured by the yield spread between 10-year nominal and inflation indexed Notes) has been inching higher lately. As of yesterday, this outlook for inflation was 1.85%, the highest since early August. Deflation worries, it seems, are retreating. If the trend has legs, it's a bit tougher to argue that a new recession is approaching.
To the extent that higher inflation expectations are the answer to deflation/recession fears, the central bank appears to be leading a new frontal attack. As The Wall Street Journal reports today, "the dollar came under pressure again Wednesday amid expectations that the Federal Reserve will expand its quantitative-easing policy." Meanwhile, gold's ongoing rally to record highs also suggests that the deflationistas are on the run.
Yes, it could all be temporary. The real test is whether the economic reports for September provide corroboration or rejection of the stock market's recent optimism. The answer will dribble out over several weeks. Meantime, hope is still alive. We're a long way from a strong recovery and it's premature to dismiss the double-dip recession threat completely. But maybe, just maybe, the risk of a new contraction is receding. The equity market is inclined to think so. Let's see what the rest of September's economic reports have to say.