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June 3, 1994
Good news. In today's labor market report, payrolls grew by only 191,000 jobs in May, half the rise in some forecasts. The report was even weaker than it looked: seventy thousand of the 191,000 were striking Teamsters returning to work.
All other data described moderate growth. The May Purchasing Managers' Index was unchanged at 57.7%, and in April figures, Leading Indicators were unchanged, Factory Orders fell .1%, and New Home Sales fell 6.8%. Tax increases are finally having an impact, knocking April Disposable Income into a .2% decline.
This week's reports are reassuring, but no one should expect a dramatic fall in mortgage rates -- back to the sevens, say. There is enough good news to hold rates in the eights, and compared to last week's inflation fears, that's good enough.
Inflation tends to follow spurts in growth by a few months to a year. This "lagging" behavior means that current reports of inflation are likely to be the predictable after-effects of the 7% surge in economic growth at the end of 1994. The puzzle among most consumers is why this relatively minor inflation has had such a big impact on rates.
The market concern has been that too-rapid growth in the economy would gradually turn a minor matter into a major one. The gods of bonds can tolerate a little inflation in reports now and for the next few months so long as the economy is not speeding up.
The key to interest rates this summer is the market sense of changes in economic speed, not the absolute two, three, or four percent level of growth. The reassurance in this week's reports is the absence of acceleration: the economy isn't slowing dramatically, but it's not speeding up, either.
A pattern of gathering speed in a self-reinforcing spiral is the bond market nightmare, and would be the signal for double-digit mortgage rates. So long as the economy stays in intermediate ground, neither booming nor nearing recession, mortgage rates will stay about where they have been this spring.
Adding to market reassurance this week is a tentative sign from the general direction of the Fed that the Fed is tighter than it looks on the surface. Congress has forced the Fed to be public about its interest rate changes, and the Fed is playing along. However, the Fed has some powers which are so complicated that Congress can't keep track.
A fundamental underpinning (or underminer) of economic growth is the rate of creation of bank reserves. For most of 1993, bank reserves grew at a 10% annual clip. Since March this year, bank reserves have contracted 7.8%.
Maybe the Fed will overdo it, and have a little near-recession accident. Then we'll get the sevens back.
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