U.S. Economic Activity Is Worsening Fast

by: Matteo Radaelli

A lot of relevant economic data will be released over the next week regarding all the sectors of the economy. These data should confirm that the economic activity may soften in H2 '12. While a recession for the U.S. economy is not our base scenario, the economic growth in the second half will depend from the consequences of the fiscal cliff and of the debt crisis in the eurozone on both consumer and business confidence.

With regards to the industrial sector, we expect industrial production to increase by 0.4% month/month and 4.9% year/year in June. The manufacturing production is likely to lead the advance (0.6% m/m), in line with the increase of the index aggregate weekly worked hours in the latest labor market report of the Bureau of Labor Statistics. The employment in the manufacturing sector rose more than expected in June (+11k vs +7k), signaling that the short-term outlook for the sector remains positive.

However, the first business confidence indices for July - the Empire manufacturing index and the Philadelphia Fed - should confirm that the outlook for the second half of the year is worsening. Indeed, the uncertainties on the economic outlook due to the incoming "fiscal cliff" and the crisis in the eurozone are likely to weigh on business morale in the short term. The positive effect of the oil prices decline is not likely to offset the negative factors. The NY Empire manufacturing index fell to 2.29 in June from 17.09 in May and we expect the downward to continue in July, with the index falling to 0.5. The Philadelphia Fed tumbled from -5.8 to -16.6 in June, remaining in contractive territory for the second consecutive month. While we expect a rebound in July to -6 as the perspectives of the economic activity do not justify a further decline, the index should continue to signal a contraction of the manufacturing sector in the Philadelphia district in Q3 '12.

The leading indicator for June should confirm that the U.S. economic outlook is deteriorating fast even if it will not signal a recession before year-end. The index is expected to edge down by 0.1% m/m due to decline of the ISM new orders index, of the yield spread, of the consumer expectations index in the University of Michigan consumer confidence index and the rise of the initial jobless claims.

With regards to the outlook of consumer spending, the retail sales data for June should confirm that the most likely scenario in the short term is for a moderate rate of growth. In line with anecdotal evidences and the auto sales, retail sales are likely to rebound by 0.2% m/m. It would be the first monthly increase after two consecutive 0.2% m/m decline. The ex-auto sales should remain unchanged and the data ex-auto, gas and building materials should increase by 0.2% m/m. Retail sales data for June would be in line with a 0.2% m/m increase in real consumer spending.

A positive piece of news for consumer spending should arrive from the consumer price index for June. With the oil prices stabilized below $90 per barrel, the CPI should remain unchanged on a monthly basis, with the year-over-year change falling from 1.7% y/y to 1.6% y/y. The CPI core should rise by 0.2% m/m and 2.2% y/y. Unless a strong rebound of oil prices, inflationary pressures are likely to decline in the second half of the year.

With regards to the housing sector, over the next week some signs are expected that the sector may continue improving in the next few months. The residential sector is expected to contribute positively to economic growth in H2 '12 as it happened in the last five quarters.

The NAHB housing market index is expected to extend the recent upward trend, rising from 29 to 30 - the highest since May '07. The data, despite remaining on a historically low level - should indicate that the slight recovery of the housing sector may continue in H2 '12 as the stock of houses on the market is falling (i.e. inventory of existing home sales is 20% below one year ago) and the decline of the unemployment rate.

A confirmation of the improvement in the sector should arrive from the housing starts data. It is expected to rise from 708k to 745k - the highest since October '08. Despite the improvement, the data should remain well below the long-term average of 1.5m, signaling that the conditions in the sector are far from normal.

Finally, existing home sales also are expected to go in the direction of an improvement of the sector, rising from 4.55m to 4.65m.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.