Morning Report: ISM report says the economy is slowing dramatically

Posted on December 1, 2023 by Brent Nyitray

Vital statistics:

Stocks are lower this morning as we await two speeches from Jerome Powell. Bonds and MBS are down.

Nick Timaros of the WSJ (one of the journalists most plugged in to what the Fed is thinking) says that the hiking cycle is probably over, however the Fed is reluctant to say so. They are even more reluctant to discuss any sort of rate cuts. The fear is that declaring victory too early while the economy is growing and the labor market is tight risks a credibility issue if inflation resurges.

That said, Fed Governor Waller discussed how the Fed could start cutting rates yesterday, saying that as inflation falls, the real rate of interest increases even if the Fed Funds rate stays the same. You can see that in the chart below, which subtracts the annual CPI from the Fed Funds rate.

Right now, the real Fed Funds rate is the highest it has been since 2007, which means monetary policy is pretty restrictive. In March of 2022, the real rate of interest was -8.3%, which is a record. Prior negative rate lows were -4.8% in 1980 and -5% in 1975.

The December Fed Funds futures are pricing in a 0% chance for a rate hike. The March Fed Funds futures are now close to a 50-50 chance for a 25 basis point rate cut.

The US manufacturing sector contracted again in November, according to the ISM Manufacturing Index. “The U.S. manufacturing sector continued to contract at the same rate in November as compared to October, again posting a reading of 46.7 percent. Companies are still managing outputs appropriately as order softness continues.”

“Demand remains soft, and production execution is slightly down compared to October as panelists’ companies continue to manage outputs, material inputs and — more aggressively — labor costs. Suppliers continue to have capacity. Sixty-five percent of manufacturing gross domestic product (GDP) contracted in November, down from 75 percent in October. More importantly, the share of sector GDP registering a composite PMI® calculation at or below 45 percent — a good barometer of overall manufacturing weakness — was 54 percent in November, compared to 35 percent in October and 6 percent in September. Three of the top six industries by contribution to manufacturing GDP were at or below 45 percent, same as the previous month,” says Fiore.

One of the respondents said the economy is “slowing dramatically.”

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