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TrendTracker Update - November 2019

By Art Raymond

After authoring four annual TrendTrackers and ten years of quarterly TrendTracker Updates, this edition will be my last. Created by the late Sue Regan, the report aimed to inform HMA members about the ever-evolving state of the hardwood economy, and the factors that affect demand for that beautiful material. Born during the run-up to the Great Recession, its publication will end in the midst of the longest recovery in the U.S. since WW2, having reported good news and bad.

Thanks are due to the many educated economists and business writers who provided the opinions and news that I synthesized into each edition, and to Ms. Penny, my 11th grade English teacher who taught me how to construct a sentence. I hope you found TrendTracker useful in your decision making, and will continue to monitor the metrics we believe are important to your business. Thank You!

TrendTracker’s Opinion: As the U.S.-China tariff battle weighs on the numbers, growth in the U.S. is moderating. The risk of a recession is rising. And the U.S. Hardwood industry is painfully aware of the economic damage that the imposition of tariffs is doing.

U.S. Gross Domestic Product
3Q2019, GDP grew by 1.9 percent, down from 2.0 percent in Q2. The consumer remains the most important driver of this metric, with a strong 2.9 percent increase in spending.

Residential investment rose by 5.1 percent and provided its first positive contribution to GDP since 4Q2017. Also contributing to growth was government spending, up 2.0 percent from the prior quarter, although down from Q2’s 4.8 percent.

Non-residential fixed investment dropped 3.0 percent, following the prior quarter’s 1.0 percent decrease. Remember that nearly two years of healthy investment by businesses preceded the last two quarters following Trump’s tax and regulatory reform. Following that performance came his trade intervention and its negative impact on business confidence. Along with Q3’s decline in net exports, these contractions led to the Fed’s interest rate cut implemented on October 31.

Holding GDP up with consumer spending cannot last forever. The consumers’ cash must eventually flow into business investments that improve productivity. Companies however, are not investing, as they await some conclusion to the U. S. – China trade negotiations and the British exit from the European Union.

Given a choice between healthy business investment and a housing recovery, most economists would pick the former. Residential construction does not stimulate the critical productivity gains and higher wages that more permanent business investments generate.

In summary, growth in the U.S. has reverted to that endured during the Obama years.

The U.S. economy continues to generate new jobs. Payroll employment increased by a solid 128,000 in October, in spite of having temporarily lost 42,000 manufacturing jobs on the General Motors picket lines. Last month became the 112th consecutive month of job market growth, the longest streak on record. Through October, job growth this year has averaged 167,000 per month.

The headline Unemployment Rate remained at 3.6 percent, only 0.1 point above September’s 50-year low. Those jobless for 27 weeks or more was essentially unchanged at 1.3 million in October, and accounted for 21.5 percent of the unemployed population.

The share of Americans working or seeking a job, as measured by the Labor Force Participation Rate, was 63.3 percent. That ratio reached an all-time high of 67.3 percent in January 2000. The rate for Hispanic-Americans rose to 67.3 percent, the best since September 2010 and another positive talking point for Republicans.

The Employment-Population Ratio held at 61.0 percent. It reached a peak of 63.4 percent in 2007, just prior to the onset of the Great Recession. Both ratios were up by 0.4 percentage point over the last year as more people joined the work force.

The October Total Unemployment Rate came in at 7.0 percent, down 0.5 points from a year ago. This metric, known as U-6 and considered the most accurate measure of the under-employed by many economists, is based on a broader definition of unemployment status that includes:

  • persons marginally attached to the labor force who are currently not working, nor looking for work, but have searched for a job during the past year and indicate that they are available for a job. In October, this category totaled 1.2 million, down 262,000 from a year earlier.
  • involuntary part-time workers who want full-time work but have settled for a part-time position. This category totaled 4.4 million in October, down only slightly over the last 12 months.

In October the average work week for all non-farm employees was unchanged at 34.4 hours. In manufacturing, the work week fell by 0.2 hours to 40.3 hours. Average hourly earnings rose by 6 cents to $28.18. Over the last 12 months, average earnings grew by 3.0 percent.

In September, the Job Openings & Labor Turnover Summary – better known simply as JOLTS – showed evidence of moderating labor demand. Job openings fell 3.8 percent to 7.024 million – the lowest total since March 2018 and down 5.0 percent over the last 12 months. Hires rose to 5.934 million, up 0.9 percent. The 1.09 million, spread between September hirings and openings, is the smallest since February 2018.

The 2.9 percent decline in quits is another indicator that job growth may be shifting to a lower gear. Look for the October JOLTS report to be released on December 17, for additional evidence that job growth is waning.

For the week of November 2, the four-week moving average of New Jobless Claims came in at 215,250. That metric hit a low of 201,500 the week of April 13. During the four months since mid-July, the four-week moving average has traced a narrow band between 212,000 and 219,000. Could this metric be forming a bottom? Pay attention to this metric going forward.

Some economists argue that a bottom in claims marks the end of a recovery. Press releases from the Bureau of Labor Statistics are published every Thursday morning. The best chart illustrating the history of claims is found on the St. Louis Federal Reserve web site.

Manufacturing hit a serious air pocket in August, ending a 35-month expansion during which the ISM Manufacturing Index averaged 56.5. The October index showed some improvement at 48.3, up from September’s reading of 47.8, which was the lowest score since June 2009.

Remember that the ISM Index is a complicated composite based on 10 sub-indexes covering 18 core industries. An Index reading above 42.9 over a period of time generally implies an economic expansion. Therefore October is considered as the 126th consecutive month of growth in the economy.

Only the sub-index for New Export Orders showed growth in October with a score of 50.4, a 9.4 point rebound from September’s 41.0. Note that the September performance for New Export Orders was the worst score since March 2009. The remaining sub-indexes came in at levels associated with contraction.

Of the 18 industry sectors, five experienced higher production in October, including Wood Products and Furniture & Related Products. Twelve other sectors reported contraction.

Comments from the survey participants reflect an improvement from September, but sentiment remains cautious. Global trade remains the most significant issue across all of the industry sectors.

Today, our economy is less reliant on production. Manufacturing makes up about 11 percent of GDP versus 16 percent 20 years ago. Its share of the workforce, at 8.5 percent, is down from 13 percent in 1999.mIn spite of its smaller impact on the overall economy, a serious contraction in domestic production could disrupt hiring and investment. Rest assured that the Fed is keeping a close watch on manufacturing in considering its interest rate policy. The fed funds rate was cut on October 30 for the third time this year. The resulting negative real interest rates leaves the Fed less able to react, in the event of a further decline in GDP.

As might be expected when new hires are added to a company’s workforce, productivity suffers as hours worked increase faster than output. This situation results in higher unit labor costs until the new workers become efficient. In Q3, productivity fell by 0.3 percent and labor costs rose by 3.6 percent as the influx of recently-added hires are being trained.

In the manufacturing sector, Q3 saw productivity decline by 0.1 percent, up from Q2’s 2.4 percent drop. While output increased by 1.1 percent, the number of hours worked rose by 1.3 percent. The result was a 3.6 percent rise in unit labor costs. This situation is likely to extend into Q4 as demand slows.

Residential investment continues to disappoint in this recovery. Traditionally, upturns in new construction and existing home sales have led the economy out of downturns. What is missing this time?

Three critical prerequisites underpin a healthy housing market: (1) a strong job market for young buyers, (2) reasonable borrowing costs, and (3) an adequate inventory of affordable starter homes. The first two conditions are in place. The problem is the third.

The average price of lower-priced starter homes has risen 64 percent in the six years from 2012 through 2018, versus 40 percent for higher-end houses. As a result, the homeownership rate in the U.S. for adults age 25 to 34 lingers at 40 percent, down from 48 percent in 2001. For all ages, the combined rate is around 64 percent.

This situation creates a negative ripple effect through the market. Without a first-time buyer, owners of starter homes cannot trade up to a larger home. Demand is negatively impacted across the full spectrum of homes. Older owners of larger homes seeking to downsize may find a dearth of buyers too.

Currently, homeowners are exacerbating the situation by remaining in their homes five years longer than in 2010. The direct consequence of this delay is a smaller supply of homes for sale. This lower inventory translates to higher prices, which squelches demand.

At an annual rate of 1.256 million, September Housing Starts continue to fall well below the level that balances supply and demand. Drilling into the numbers, however, reveals that 918,000 were single family homes that require more GDP per unit, than multi-family starts. The three-month average for single family is up sharply at 901,000. Permits are keeping pace ensuring a continuation of this trend in the near term.

Unfortunately multi-family starts are down 5.1 percent this year, and were off 28.2 percent in September. That disappointment may derail the possibility that residential investment could contribute to GDP following six negative quarters.

New Home Sales in September came in at an annual rate of 701,000, following August sales of 706,000. This two-month performance represents the best showing in 10 years. As a result, sales year-on-year are up 15.5 percent. Unfortunately price concessions appear to be supporting sales, even though the supply of new houses is a low 5.5 months.

Based on its three-month average, Existing Home Sales experienced a 0.6 percent uptick in September to 5,433 million. This performance was the fourth consecutive gain and the best since May 2018. Taken alone, September’s sales were up 3.9 percent, the best reading since March 2017.

Unlike new construction, prices of existing homes are rising. For the year, the median price is up 5.9 percent, the best performance since January 2018. The low inventory of homes on the market is keeping prices up. Since last September, inventory is down to 4.1 months from 4.4 months.

Note too that mortgage rates, now under 4 percent, are boosting the possibility of a solid performance in 2019 housing.

Bottom Line: Performance in the elements considered critical to the hardwood industry remains uneven:

  • GDP enters its 11th year with growth slipping to 1.9 percent in 3Q2019, from 3.5 percent in 1Q2018, and is dependent on healthy consumer spending.
  • Employment Situation continues to experience healthy job creation, but shows signs of moderation as the economy cools.
  • Manufacturing continues to decline from its August 2018 high.
  • Productivity slipped to negative as demand wanes and newly-hired workers undergo training.
  • Housing contributed to GDP for the first time since 4Q2017, but remains below more normal levels of demand.

The greatest unknown, without question, is the size and duration of the U.S.-China trade war’s impact.

This uncertainty has undermined the confidence of company owners and executives, and resulted in lower business investment. Reliance on the Fed’s current interest rate policy may not be enough to keep the economy growing. Remember that the zero rates and quantitative easing of the Obama years failed to boost GDP growth above 2 percent. That experience proved that bad macroeconomic decisions cannot be remedied by monetary policy alone.