Optimism in Financial Markets Fails to Show in Real Economy

“Hopes for a prolonged period of 3% GDP growth sparked by Trump’s victory have largely vanished.”

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By Ben Leubsdorf

The Wall Street Journal
July 14, 2017 3:08 p.m. ET


Optimism in financial markets isn’t showing up in the real economy.

Though stocks have been hitting records and big U.S. banks reported stronger-than-expected earnings Friday, consumers pulled back their spending at midyear and became less optimistic about the future, while inflation on consumer purchases softened.

Taken together, the indicators pointed to an economy that is entering the ninth year of expansion steady and still creating jobs at a healthy clip, but without obvious additional momentum. President Donald Trump has set out an agenda to push economic growth beyond the 2% pace that has prevailed since the recession ended in 2009, but so far there is little sign of a real breakout happening.

Modest price pressures are a possible sign of slower underlying economic momentum and a headache for the Federal Reserve, which has struggled to reach its 2% annual inflation goal since the 2007-09 recession.

“To be sure, the data do not suggest an impending recession,” said Richard Curtin, chief economist for the University of Michigan’s consumer-sentiment survey. “Rather, the data indicate that hopes for a prolonged period of 3% GDP growth sparked by Trump’s victory have largely vanished, aside from a temporary snapback expected in the second quarter.”

On the positive side, factory output picked up in June, and domestic energy production is rebounding. Overall economic activity appeared to accelerate in the second quarter following a weak start to 2017, when gross domestic product expanded at a 1.4% annual rate during the first quarter.

For the recently ended second quarter, forecasting firm Macroeconomic Advisers on Friday projected 2.3% growth and the Federal Reserve Bank of Atlanta’s high-profile GDPNow model predicted a 2.4% growth pace.

Reports on Friday offered fresh insights into the state of the economy, a broadly healthy picture with some downbeat signals headed into the second half of 2017.

Several of the biggest U.S. banks released mixed reports that, while showing stronger-than-expected earnings, sent their shares lower.

J.P. Morgan Chase & Co., the largest U.S. bank by assets, reported record quarterly profit of $7.03 billion. But it also trimmed forecasts for growth in loans and net interest income.

Wells Fargo & Co. reported a $6.7 billion decline in average loans from the first quarter. The company’s chief financial officer, John Shrewsberry, noted “softness across the industry,” but also cited specific actions the bank has taken “primarily driven by our own risk discipline which have caused our growth to slow.”

The bank has pulled back, for example, in auto lending, part of an $11.1 billion drop in the San Francisco bank’s consumer loan portfolio from a year earlier.

Retail sales — a gauge of consumer spending at stores, restaurants and websites — decreased a seasonally adjusted 0.2% in June after falling 0.1% in May, the Commerce Department said. It was the first back-to-back sales drop since July and August 2016.

Sales excluding motor vehicles and gasoline fell 0.1% last month, the first decline for the measure in almost a year.

In the second quarter, total retail sales were up just 0.2% from the first three months of the year. But more broadly, sales rose 3.9% in the first half of 2017 compared with the year-earlier period.

Fed Chairwoman Janet Yellen told lawmakers this past week that growth in household outlays “continues to be supported by job gains, rising household wealth and favorable consumer sentiment.”

But the University of Michigan’s sentiment gauge dropped in July for the second straight month, with a preliminary July reading of 93.1 versus 95.1 in June and 97.1 in May. The decline was driven by weaker expectations for future economic gains, though the overall index was still 3.4% higher in June from a year earlier.

On inflation, the Labor Department said its consumer-price index was unchanged in June from the prior month. Excluding the often-volatile categories of food and energy, so-called core prices rose just 0.1% for the third straight month.

On an annual basis, overall inflation softened to a 1.6% annual gain in June, while core inflation was steady at 1.7% annual growth.

The Fed is tasked with achieving maximum sustainable employment and stable prices. With unemployment at 4.4% in June, it appears the Fed has closed in on half of its mandate. Inflation, however, remains well shy of its 2% target.

The Fed’s preferred inflation gauge, the Commerce Department’s price index for personal-consumption expenditures, poked above the central bank’s 2% goal in February for the first time in nearly five years. It has settled lower each month since. The most recent data, for May, showed a 1.4% year-to-year gain.

“We’re starting to see some signs of cyclical weakness,” said Laura Rosner, senior economist at research firm MacroPolicy Perspectives. She said recent soft inflation data “really raise questions about whether we will get to 2% on a sustained basis before the next recession, and I think that raises very thorny questions for the Fed.”

The Fed has penciled in one more increase for short-term interest rates this year, and also plans to begin shrinking its $4.5 trillion asset portfolio. Continued soft readings on core inflation could damp enthusiasm for higher rates, though Ms. Yellen has said she expects the current weakness will prove transitory and inflation will firm alongside a tightening labor market.

Speaking in Mexico City on Friday, Federal Reserve Bank of Dallas President Robert Kaplan reiterated he would like to see more evidence that inflation is moving toward the 2% target. The Fed’s policy-making committee is expected to remain on hold at its July 25-26 meeting, but Mr. Kaplan said the Fed should begin the process of shrinking its balance sheet “very soon,” as early as the U.S. central bank’s September policy meeting.

The industrial side of the economy looked a bit stronger last month. Industrial output — a measure of production by manufacturers, mining companies and utilities — grew 0.4% in June from May, the Fed said. Production rose 2% over the past year.

The rebound has been driven by mining output, which grew 1.6% in June and has risen nearly 10% over the past year as energy companies boost oil and gas extraction. Growth in manufacturing output has been more modest, with factory production climbing 0.2% in June and up 1.2% on the year

–Aaron Lucchetti, Jeffrey Sparshott, Josh Mitchell, Josh Zumbrun and Anthony Harrup contributed to this article.

Write to Ben Leubsdorf at ben.leubsdorf@wsj.com




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