The good days are over, at least according to Goldman's Jan Hatzius. Now that "Cash For Coolers", aka April in February or the record hot winter, has ended, aka pulling summer demand 3-6 months forward, and payback is coming with a bang, starting with what Goldman believes will be a 125,000 NFP print in April, just barely higher than the disastrous March 120,000 NFP print which launched a thousand NEW QE rumors. But before you pray for a truly horrible number which will surely price in the cremation of the USD once CTRL+P types in the launch codes, be careful: from Hatzius - "Despite the weaker numbers, we have on net become more, not less, worried about the risks to our forecast of another round of monetary easing at the June 19-20 FOMC meeting. It is still our forecast, but it depends on our expectation of a meaningful amount of weakness in the economic indicators over the next 6-8 weeks. In other words, our sense of the Fed’s reaction function to economic growth has become more hawkish than it looked after the January 25 FOMC press conference, when Chairman Bernanke saw a “very strong case” for additional accommodation under the FOMC’s forecasts. This shift is a headwind from the perspective of the risk asset markets....So the case for a successor program to Operation Twist still looks solid to us, and the FOMC’s apparent reluctance to deliver it is a concern."
Reaction function, huh? The only reaction the Fed has is whether the RUT is above or below +/- 700. Translating Hatzius' words in English means that in an election year where gas prices are oh so important, the Fed may be forced to do QE only if the Russell 2000 drops below 625 instead of the usual 700. Yet so habituated is the market that any downtick is an automatic catalyst for more easing, that perhaps it is precisely the Chairman's idea, for once, to disappoint momentum traders to the downside in an attempt to regain some credibility. Naturally, if that meme were to gather steam, the backlash in risk would be violent since the S&P has a cool several hundred points in implied future easing as is (ignoring the 1000 points in the index already purchased with the $14 trillion in historical global easing, as noted previously [11]).
Here is how Goldman views the recent contraction in the economy, and why it thinks things are getting worse:
For much of the last six months, the wind has been at the back of the financial markets. The US economic activity data in Q4/Q1 came in mostly ahead of (depressed) expectations, and global central banks steered an easy course. Financial markets have responded by pushing up the price of risk assets. While the advance has stalled in recent weeks, equity markets remain up more than 10% on the year.
Has the Tide Turned on Growth?
[12]However, we see signs that the environment is getting tougher. On the growth side, the data have clearly slowed both in absolute terms and relative to expectations. As shown in Exhibit 1, our current activity indicator (CAI)—a statistical summary of 25 monthly and weekly indicators of economic activity—has decelerated from 3% in January/February to 2½% in March, and the weaker-than-expected 2.2% growth pace for real GDP in the first quarter after 3.0% in the fourth quarter sends a similar message. Moreover, our US-MAP—a weighted surprise index for all of the US economic indicators—has moved from steady positive to negative surprises over the past few months.
We expect the softer tone of the data to continue over the next few months, for three basic reasons:
1. Weather payback. A substantial payback for the boost from the warm winter is likely, especially in the employment and housing data. This is the main reason why we estimate that the US economy created just 125,000 new jobs in April. This is despite the fact that we expect a bounce back in retail employment following the 37,000 decline seen in March.
[13]Exhibit 2 shows the rationale for expecting a large weather effect by contrasting employment growth in the normally cold half of the country vs. the warm half. The chart plots the percent change in nonfarm payrolls and makes two points. First, all of the acceleration in payrolls during the winter has come in the cold states. Second, there was not much payback in March, as the payroll growth pace in the cold and warm states was in line with the pre-winter pace; this suggests that the payback for the elevated growth rates in prior months has yet to occur. We believe that the partial normalization of the weather—and more importantly, the fact that weather doesn’t matter as much for the level of payrolls after March—will lead to a payback of at least 50,000 in the April report.
2. Inventories. The first-quarter GDP report contained more evidence that the inventory cycle is turning from a growth tailwind to a headwind. Exhibit 3 shows that the level of inventory investment relative to GDP now stands at 0.6%, toward the top end of the range seen in the past decade. This means the level of production is relatively high compared with the level of final sales and may need to be trimmed in coming months. We therefore expect modestly negative inventory contribution to growth in the second quarter.
3. Final demand. Domestic final sales grew only 1.6% in the first quarter. While the news on consumption was a bit better than expected, we recently argued that the generally firmer auto and retail sales figures of the past few months were unlikely to mark the beginning of a sustained acceleration. The reasons are that real income growth remains soft (partly because of higher energy prices), wealth effects are not yet particularly positive, consumer confidence remains modest, and again some of the recent strength in retail sales probably reflects weather effects.
[14]
The signals on capital spending have also been downbeat. The first-quarter GDP report showed a surprising 2.1% decline in real nonresidential fixed investment—the first drop since late 2009—and core capital goods orders have been soft in recent months. It is possible that some of this is due to a bigger impact from the reduction in the depreciation bonus from 100% to 50% at the end of 2011, and/or the impact of changes in environmental regulations on some industrial equipment, than we had anticipated; in this case, one would expect the weakness to be relatively short-lived. But we would view at least some of the weakness as a signal that the underlying demand trend remains soft.
And while two months ago Goldman would be all over this expected economic deterioration as the signal for more QE, it appears changes to the Fed's recent language, but more importantly actions over the past few months, have made at least Goldman, into a believer that the Fed's hawkish tone may be more than just bluster... at least until the late summer, after which point what happens to gas prices is irrelevant and when America will have to content with another debt ceiling raise fiasco whereby the true nature of the Fed - that of the ultimate funder of the US budget deficit is once again reprised.
Will Policymakers Respond?
Despite the weaker numbers, we have on net become more, not less, worried about the risks to our forecast of another round of monetary easing at the June 19-20 FOMC meeting. It is still our forecast, but it depends on our expectation of a meaningful amount of weakness in the economic indicators over the next 6-8 weeks. In other words, our sense of the Fed’s reaction function to economic growth has become more hawkish than it looked after the January 25 FOMC press conference, when Chairman Bernanke saw a “very strong case” for additional accommodation under the FOMC’s forecasts. This shift is a headwind from the perspective of the risk asset markets.
Some of the Fed’s reluctance to ease again is a straightforward response to the slightly higher recent inflation data. The disinflation in the core indexes has been more gradual and halting than we had expected, and Exhibit 4 shows that business surveys also report slightly more price pressures than earlier in the year.
But we doubt that new information about the economy is the entire story. The inflation surprise has been modest, the US growth outlook on net has not changed much since January, and the “significant downside risks” from global financial market turbulence (and the US fiscal cliff) still look real, as this week’s FOMC statement acknowledged. So the case for a successor program to Operation Twist still looks solid to us, and the FOMC’s apparent reluctance to deliver it is a concern.
A concern maybe for projecting 2013 discretionary budgets on Wall Street (because if 2012 bonuses are a deja vu of 2011, just like everything else so far, god help the bankers)... hardly much of a problem for the 90% or so of the population that only sees the inflationary drawbacks of QE and none of the benefits.