July CPI: No Bad News Is Good News

The July CPI data were largely in line with expectations. Both headline and core CPI increased by 0.2% in July (0.15% and 0.17%, respectively), just a basis point or two off from our forecast going into the release. The details of the report contained a few surprises.

Core goods prices fell more than we expected, led by another large (-2.3%) decline in used vehicle prices.

Core services inflation was a bit hotter than anticipated, led by rebounds in inflation for housing, recreation and communication services.

The broad narrative of continued disinflation remains unchanged. Headline CPI fell below 3% year-over-year for the first time since March 2021. Core CPI declined to 3.2% year-over-year, the slowest pace since April 2021 and roughly half the 6.6% peak hit in September 2022. Furthermore, the annualized pace of core CPI inflation over the past six and three months has been 2.8% and 1.6%, respectively.

Today’s data leave the FOMC in a holding pattern and do not settle the 25 bps or 50 bps debate for September. As we go to print, markets view September as roughly a coin flip between the two outcomes. The continued steady slowdown in inflation, when paired with the rise in the unemployment rate and deterioration in other labor market indicators, leads us to believe the FOMC will want to move quickly towards a more neutral policy stance in the months ahead.

As a result, we expect a 50 bps rate cut at the September FOMC meeting, but the decision ultimately may be determined by the August employment report to be released on September 6 and the August CPI report to be released on September 11. Chair Powell’s expected speech at the Jackson Hole conference on August 23 looms large as the FOMC weighs the balance of risks to its dual mandate.

Source: U.S. Department of Labor and Wells Fargo Economics

(…) Unlike core goods, core services inflation sprang back in July (+0.3%) after increasing just 0.1% in June. The pickup was tied in part to somewhat firmer growth in primary shelter prices.

Rent of primary residences jumped 0.5% in July, which was stronger than the 0.4% average monthly gain in the first half of the year and looks unlikely to persist with the BLS’s more-forward looking measure of new tenant rents having slowed sharply in recent quarters. Owners’ equivalent rent also increased at a faster pace than June, but the 0.36% rise still points to slowing on trend when compared to the first half average increase of 0.43%.

Ex-housing, core services inflation picked up due to a smaller drop in the volatile travel category. The remaining portion of core services (i.e., ex-shelter and travel) rose 0.2% again in July as a drop in medical care prices was offset by rebounds in motor vehicle insurance, recreation and communication services. (…)

A bottoms-up approach to inflation forecasting suggests more housing and other services disinflation is on the way. From a top-down perspective, a weakening labor market and more price-conscious consumers also suggest a bit more disinflation is in the pipeline.

With both the CPI and PPI data in hand for July, we estimate both the headline and core PCE rose 0.13% last month. Core PCE inflation was just 0.12% in July 2023, so the 12-month change would remain at 2.6%, but if realized, this outcome would nonetheless highlight the resumption of progress in lowering inflation with the three-month annualized pace slipping back below 2% (1.8%). (…)

ING adds:

The chart below shows that we have had three consecutive readings below 0.17% MoM for core inflation and that the 3M annualised rate is now just 1.6%. The Fed has told us they won’t wait for the YoY rate to hit 2% (currently 3.2%) before cutting interest rates, because if they do that the risk is they have left rates too high for too long. This would mean a greater chance of an undershoot in late 2025 / early 2026. (…)

US core CPI metrics

Source: Macrobond, ING

The one area of real disappointment was housing with primary rents up 0.5% MoM and owners’ equivalent rent up 0.4%. Recent numbers had been tracking more in line with private surveys on housing costs, so the re-acceleration today is a surprise. The market has seemingly moved to reduce the pricing of a 50bp cut in September on the back of this. (…)

Housing costs MoM% re-accelerate

Source: Macrobond, ING

For now we favour a 50bp to start off as the Fed plays catch-up to the data before reverting to 25bp moves thereafter. However, the jobs report, published on 6 September is critical for this view. A soft payrolls and another move higher in the unemployment rate and then a 50bp move looks assured. A strong jobs number and perhaps a dip in the unemployment rate back to 4.2% and it will be a 25bp cut.

• Excluding shelter, the headline and core inflation rates were only 1.8% and 1.7% YoY in July as Ed Yardeni illustrates:

• “There is now a waiting game for the shelter CPI inflation rate to decline to the inflation rate in new tenant rent, as disinflation in new rents slowly but surely permeates the CPI calculation of rent. Shelter CPI inflation should soon soon decline from 5.1% y/y in July closer to 4.0% in coming months.”

Actually, Ed’s chart is not up-to-date as the BLS New Tenant Rent Index did turn negative YoY in Q2 (-1.1%). But the better series is the All Tenant Rent Index (black) which clocked at +4.0% in Q2, right where Zillow has been all year.

CPI-Rent is still at 5.1% YoY in July when it surprisingly rose 0.42% MoM following 3 months below 0.4% (avg. +0.29%), actually outpacing Zillow. This heavyweight series seems hard to contain.

Lastly on the CPI, goods deflation continues to help overall inflation but producer prices bounced back in July…

… along with import prices (yellow) and container rates (white).

And we might get higher tariffs this fall.

The next chart highlights one reason why deglobalization likely means higher secular inflation. Tariffs can sometimes be a tool used to protect under-utilized domestic production, but the US lacks enough productive capacity to meet demand so tariffs have directly contributed to higher prices. If deglobalization does indeed continue, then secular disinflation seems behind us. (RBA)

Mission not quite accomplished just yet!

China’s Economy Fails to Pick Up After Worst Stretch in Five Quarters Slow consumption and disappointing investment drag on growth.

A surprise slowdown in fixed-asset investment to 3.6% in the first seven months of the year was among the biggest takeaways from data released on Thursday. Retail sales beat expectations largely on a seasonal uptick — boosting China’s stock market — though they remained far below pre-pandemic growth. Industrial production softened slightly even as it continued to outpace consumption. The offshore yuan held onto early losses after the data. (…)

Other Details of Economic Data:

• Industrial output rose 5.1% in July from a year ago, down from June’s increase of 5.3%
• Retail sales increase 2.7% in July, rebounding from 2% in June

The housing slump showed little sign of reversing, even though the pace of its fall stabilized. Home prices dropped at a largely unchanged rate on a month-on-month basis but declined faster in annual terms. New home starts continued to plunge at a clip of around 20% from a year ago.

Overall investment expanded 1.9% in July from a year ago, worse than the 3.7% gain in the previous month, according to Goldman Sachs Group Inc. calculations.

A breakdown of the figures shows a deceleration in infrastructure investment expansion in the January-July period from the first six months of the year. Private firms’ investment also deteriorated and posted no change from a year ago. (…)

Equity markets reacted positively to the better retail sales growth rate, +2.7% vs +2.0% YoY. But Goldman Sachs estimates that seasonally adjusted sales declined another 0.8% MoM after –2.0% in June. Sinking more slowly but still sinking fast.

AI CORNER

Google just announced its Pixel 9.0 AI powered handset, beating Apple by a few weeks. Gemini Live will be available to all Android users. From the Google presentation:

The new Gemini assistant can go beyond understanding your words, to understanding your intent, so you can communicate more naturally. It can synthesize large amounts of information within seconds, and tackle complex tasks. It can draft messages for you, brainstorm with you, and give you ideas on how you can improve your work.

With your permission, it can offer unparalleled personalized help, accessing relevant information across your Gmail Inbox, your Google calendar, and more. And it can reason across personal information and Google’s world knowledge, to provide just the right help and insight you need, and its only possible through advances we made in Gemini models over the last six months.

It’s the biggest leap forward since we launched Google Assistant. Now we’re going to keep building responsibly, and pushing to make sure Gemini is available to everyone on every phone, and of course this starts with Android. (…)

Gemini can handle these kinds of complex personal queries within Google’s own secure cloud, without sending any of your personal data to a third-party AI provider you may not know or trust. And for some of the most sensitive use cases, like summarizing audio from a phone call, or suggesting a helpful reply to an encrypted text message, we’ve pioneered on-device generative AI with Gemini Nano. It’s the first time a large multimodal AI model has been optimized for a mobile device, so the data never leaves your phone.

With Gemini deeply integrated with Android, we’re well on our way to rebuilding the OS with AI at the core. The new Gemini assistant brings the benefits of AI to billions around the world, while helping to keep your personal information secure and private. Android is truly leading the way towards AI for everyone.

From my query to Perplexity.ai:

The new Google Pixel 9 series introduces several innovative AI features that enhance user experience across various tasks:

1. Gemini Personal AI Assistant: Gemini replaces Google Assistant as the default voice assistant, offering a more sophisticated interaction experience. It integrates deeply with Google apps and Android, providing assistance with tasks such as checking schedules, finding details from emails, and more. Gemini Live, a conversational experience, allows users to have free-flowing conversations with the assistant.
2. AI-Enhanced Photography and Video: The Pixel 9 series includes features like “Add Me,” which uses augmented reality to include the user in group photos, and “Magic Editor,” which allows users to reimagine photos using generative AI. The upgraded telephoto lens and Video Boost on the Pixel 9 Pro models enable high-quality zoom up to 20x.
3. Pixel Studio: This new app allows users to create images using text prompts, leveraging an on-device diffusion model and a cloud-based text-to-image model. It’s designed for easy creativity and sharing.
4. Pixel Screenshots: This feature helps organize and recall information from screenshots using AI. Users can search for screenshots through simple text prompts, making it easier to find saved information.
5. Call Notes and Summaries: Call Notes saves a summary of phone conversations, while Call Summary provides detailed overviews of calls. These features ensure users can easily recall important details from their calls.
6. AI-Powered Weather Reports: The Pixel Weather app uses AI to provide customized and accurate weather forecasts, allowing users to prioritize information like UV index or air quality

TechCrunch tested Gemini Live: “In my experience, these low latency, verbal features feel much more natural than texting with ChatGPT, or even talking with Siri or Alexa. I found that Gemini Live responded to questions in less than two seconds, and was able to pivot fairly quickly when interrupted. Gemini Live is not perfect, but it’s the best way to use your phone hands-free that I’ve seen yet.”

McKinsey discusses the enterprise world:

According to a recent McKinsey survey, 65 percent of organizations are now using gen AI, and many businesses are already seeing material benefits from it, write McKinsey’s Alex Singla, Alexander Sukharevsky, and coauthors.

[Gen AI] can serve as a creative assistant that can spark ideas for writing projects, art concepts, technical issues, and more. Need to draft text, code, or design something? Gen AI can provide examples to kickstart your projects.

If you’re stuck on understanding a concept or need information, it can explain, summarize, or point you to the right resources. In technical fields, it can even simulate scenarios, generate data, or help model complex systems.

 New Andre Ng interview. David says “Ng stands out amongst commentators on AI. His scholarly knowledge of AI and computer science is supplemented by a long experience of applying AI in commercial applications.”

Small Business Optimism On the Upswing Greater Sales Expectations Lift Outlooks in July

The NFIB Small Business Optimism Index rose to 93.7 in July, its highest reading since February 2022. It’s hard to mistake this four-month string of upticks for anything other than a trend improvement in sentiment. Although the index remains below its 50-year average of 98, the outlook for business conditions shot up 18 points in July, driven by brighter sales expectations.

Yet, the underlying details continue to reveal hesitancy about the demand outlook amid a cloudy economic and political landscape. The clearest takeaways from July’s survey are vital for the Fed: labor demand continues to ease and price pressures continue to fade. These soft elements of the survey measures, in concert with hard data on inflation and nonfarm payrolls, support our view that the Federal Reserve will begin cutting its policy rate next month at the September meeting.

(…) the share of respondents planning price hikes over the coming months fell to a net 24%, the lowest figure since April 2023. Although the percentage of firms raising prices remained elevated compared to pre-pandemic levels, it similarly dropped five points over the month to a net 22%. (…)

Despite a one-point uptick in July, the net percent of small businesses with outstanding job openings continued to decline on trend. Hiring plans have not budged for three months.

(…) the uncertainty index jumped to its highest point since November 2020, likely driven by the upcoming presidential election. (…)

The percentage of firms expecting higher sales volumes over the next three months, although still a net negative, rose four points to its highest reading this year. Concurrently, reports of greater actual sales fell four points to its lowest reading this year. (…)

The portion of small businesses adding to their inventories dropped six points to a net -9%, the lowest reading since August 2020. (…)

  

Job postings on Indeed stopped declining at the end of June:

EARNINGS WATCH

From JPM:

S&P500 companies so far have surprised on earnings by 3.7% (vs. 4.1% last 4Qs, and 2.0% ex-Financials). If adjusted for JPM’s significant one-time gain on sale of its Visa stake, the earnings surprise was much closer to 2.4%.

For companies that have reported, 2Q revenue growth is 5.0% y/y and net income growth is 12.1% (vs. 10.7% ex-Financials).

As it relates to the Mag7, earnings surprise was well ahead of the S&P 493 (6.1% vs. 3.0%), though the revenue surprise has been more in line (1.1% vs. 1.3%). Mag7 companies continued to exhibit far stronger earnings growth (26.1% vs. 8.6%) and revenue growth (10.9% vs. 4.2%) compared to S&P 493 companies that have reported so far.

Since the beginning of the earnings season (i.e., 7/11), 2Q24 EPS have been revised up 1.8% to $59.73 (+10% y/y), with 2024E EPS flat at $243.45 (+10% y/y). Note, 2H24 expected earnings have been revised down -1.5% (+10% y/y). Looking to 2025, EPS estimates have been revised up 0.3% since the beginning of the earnings season to $279.57 (+15% y/y).

China’s Loan Drop Stokes Fears of ‘Balance Sheet’ Recession Key lending gauge contracted for first time since 2005 in July

China’s first bank loan contraction in nearly two decades has fanned fears the world’s No. 2 economy is careening toward a “balance sheet recession” as Japan did decades ago.

A plunge in new corporate borrowing combined with households preferring to repay debt saw bank loans shrink last month for the first time since July 2005. That deepened China’s years-long battle with weak credit demand, as a property slump spurs caution on buying homes and expanding investment.

Determination among consumers and businesses to pay down debt following real estate collapse is seen as a hallmark of Japan’s stumble into decades of deflation in the 1990s.

Economists have long debated whether China is also facing a similar “balance-sheet recession,” a concept Richard Koo, chief economist at Nomura Research, used to explain Japan’s “lost years.” His theory is families and businesses, spooked by falling asset prices in Japan, focused on clearing debts and stopped spending in the economy. (…)

The problems are being felt across the economy. China’s steel industry is now facing a crisis more serious than the downturns of 2008 and 2015, the world’s biggest producer warned in a statement, as the property downturn and weaker factory activity push prices to multi-year lows. (…)

China’s bond markets are reflecting concerns the country faces a period of stagnation, subdued inflation and low interest rates. Yields have fallen to record lows across the curve and corporate bond spreads have narrowed as investors flocked to fixed income in favor of stocks, despite pushback from Chinese authorities. (…)

The People’s Bank of China has intervened repeatedly with verbal warnings and regulatory action in the government bond market in recent weeks. Policymakers are concerns about a negative feedback loop between falling yields and weakening expectations for the economy.

(…) economists have pointed to some differences that suggest China may not sleepwalk into Japan-style stagnation anytime soon.

For one, the debt-to-gross domestic product ratio for the household sector has largely flat-lined since the pandemic, while that debt level for the corporate sector — which includes state-owned enterprises that are less sensitive to demand shifts — has kept rising.

China’s real-estate price collapse has also been less severe than what was seen in Japan during its prolonged crisis in the 1990s.

The Plaza Accord, signed by major economies in 1985 to weaken the US dollar, caused the yen to appreciate and shattered Japan’s export competitiveness. That shock also contributed to Japan’s lost decade, said ING’s Song, who noted China’s foreign exchange policy is more flexible.

To determine a balance sheet recession, “we need to at least see that companies are deleveraging,” said Larry Hu, head of China economics at Macquarie Group Ltd, noting another distinction. “There isn’t a significant contraction in liabilities.”

• World’s Top Steel Producer Warns of ‘Severe’ Industry Crisis Iron ore collapses to lowest since last year on demand outlook

Conditions in China’s steel sector are like a “harsh winter” that will be “longer, colder and more difficult to endure than we expected,” China Baowu Steel Group Corp. chairman Hu Wangming told staff at company’s half-year meeting, warning of worse challenge than major traumas in 2008 and 2015. (…)

For commodities including steel, the warning from Baowu underscores risks to demand and prices, as well as what ArcelorMittal SA, the industry No. 2, called an “aggressive” surge of exports from China.

China’s steel market — by far the world’s largest — is flashing multiple warning signs as the protracted property downturn shows no signs of ending, while factory activity remains subdued. (…)

Baowu didn’t offer much on the causes of the current downturn, focusing on how employees should respond: by preserving cash and minimizing risks. (…)

US Considers a Rare Antitrust Move: Breaking Up Google Antitrust enforcers soliciting input from outside companies

A bid to break up Alphabet Inc.’s Google is one of the options being considered by the Justice Department after a landmark court ruling found that the company monopolized the online search market, according to people with knowledge of the deliberations.

The move would be Washington’s first push to dismantle a company for illegal monopolization since unsuccessful efforts to break up Microsoft Corp. two decades ago. Less severe options include forcing Google to share more data with competitors and measures to prevent it from gaining an unfair advantage in AI products, said the people, who asked not to be identified discussing private conversations.

Regardless, the government will likely seek a ban on the type of exclusive contracts that were at the center of its case against Google. If the Justice Department pushes ahead with a breakup plan, the most likely units for divestment are the Android operating system and Google’s web browser Chrome, said the people. Officials are also looking at trying to force a possible sale of AdWords, the platform the company uses to sell text advertising, one of the people said.

The Justice Department discussions have intensified in the wake of Judge Amit Mehta’s Aug. 5 ruling that Google illegally monopolized the markets of online search and search text ads. Google has said it will appeal that decision, but Mehta has ordered both sides to begin plans for the second phase of the case, which will involve the government’s proposals for restoring competition, including a possible breakup request. (…)

Divesting the Android operating system, used on about 2.5 billion devices worldwide, is one of the remedies that’s been most frequently discussed by Justice Department attorneys, according to the people. In his decision, Mehta found that Google requires device makers to sign agreements to gain access to its apps like Gmail and the Google Play Store.

Those agreements also require that Google’s search widget and Chrome browser be installed on devices in such a way they can’t be deleted, effectively preventing other search engines from competing, he found. (…)

Google paid as much as $26 billion to companies to make its search engine the default on devices and in web browsers, with $20 billion of that going to Apple Inc. (…)

Mehta’s ruling also found Google monopolized the advertisements that appear at the top of a search results page to draw users to websites, known as search text ads. Those are sold via Google Ads, which was rebranded from AdWords in 2018 and offers marketers a way to run ads against certain search keywords related to their business. About two-thirds of Google’s total revenue comes from search ads, amounting to more than $100 billion in 2020, according to testimony from last year’s trial. (…)

Another option would require Google to divest or license its data to rivals, such as Microsoft’s Bing or DuckDuckGo. Mehta’s ruling found that Google’s contracts ensure not only that its search engine gets the most user data – 16 times as much as its next closest competitor — but that data stream also keeps its rivals from improving their search results and competing effectively.

For years, websites have allowed Google’s web crawler access to ensure they appear in the company’s search results. But more recently some of that data has been used to help Google develop its AI.

Last fall, Google created a tool to allow websites to block scraping for AI, after companies complained. But that opt-out doesn’t apply to everything. In May, Google announced that some searches will now come with “AI Overviews,” narrative responses that spare people the task of clicking through various links. The AI-powered panel appears underneath queries, presenting summarized information drawn from Google search results from across the web.

Google doesn’t allow website publishers to opt-out of appearing in AI Overviews, since those are a “feature” of search, not a separate product. Websites can block Google from using snippets, but that applies to both search and the AI Overviews. (…)