G-20 Meeting - Very Strong November Empire Fed Report

Before going into the G-20 Meeting, let's go over some stats from the November Empire Fed Report.

Not every manufacturing survey from the Fed was weak in November. The first example of this is the Empire Fed report. It came in at 23.2, which beat estimates for 20. Also, it was above the high end of the expected range which was 22.2. It was above October’s report of 21.1.

New orders index fell slightly from 22.4 to 20.4. It’s still close to the highest reading in 5 years. Shipments were up 1.7 points to a new 5 year high of 28.

Inventories were up sharply from 0.8 to 10.1. That would suggest the supply chain isn’t running hot.

However, the decline in delivery time from 5 to 4.4 and the increase in unfilled orders from -8.4 to 0 suggest otherwise.

Just like the Philly Fed report, inflation remained almost unchanged. The prices paid index was up 2.5 to 44.5 and the prices received index was down 1.2 to 13.1. Those changes are bad for margins.

The employment market turned sharply positive.

Number of employees index increased 5.1 points to 14.1 and the average workweek increased 9 points to 9.2. The 6 month forward index also improved.

As you can see from the chart below, expected capex in the NY Fed and Philly Fed reports increased. Philly Fed reading is higher even though it had a weaker report. Empire Fed capex reading increased 8.8 points to 24.8 and the technology spending index increased 10.5 points to 19.7.

Overall forward index increased 4.6 points to 33.6 and the new orders index was up 4.6 points to 39.7.

G-20 Meeting - Big Meeting Between Presidents Trump and Xi

The biggest potential positive catalysts for stocks are the Fed becoming dovish and America making a trade deal with China.

On the latter issue, President Trump and Chinese President Xi Jinping will be meeting at the G-20 meeting of the world’s developed economies.

The G-20 will take place in Argentina from November 30th to December 1st. China and America are making progress on a deal.

President Trump told reporters that China sent America a list of changes it’s willing to make. But Trump didn’t approve of it yet. The keyword there is “yet.”

That implies with continued progress a deal will be made in the next few weeks or months.

Unfortunately for American soybean farmers, the deal will come too late for them to sell this year’s crops to China.

As you can see from the chart below, soybean exports from America to China usually peak in November. They steeply fall in the spring. China’s lack of purchases from America this season are being made up. This is by early purchases from America before the tariffs went into effect. And also by extra purchases from Brazil.

The Brazilian harvest season is over, but China still has extremely high inventories of soybeans. Even if a trade deal was struck today, China would still not need to buy American soybeans. They have enough until next season.

Two impacts of tariffs are slowing trade growth, which lowers specialization and economic activity. The Second is increasing prices.

The latter is examined in the chart below. Increasing inflation because of tariffs will be interesting to monitor. Commodities prices, especially oil are falling.

G-20 Meeting - Prices overall might fall because of declining economic growth. 

Housing prices should weaken because of affordability issues. Increasing wages will pressure inflation to the upside. Although it’s questionable how large of an impact wages will have.

As you can see, the peak effect of the current imposed tariffs on core inflation is only about 0.1%. That’s not a big deal as the other impacts I listed earlier will overwhelm that.

Once the tariffs are lapped, the impact on inflation disappears.

Interestingly, if a trade deal is made, this will switch to a negative impact on core inflation.

The biggest impacts on both core inflation and growth are the 25% tax rate which will be enacted at the start of 2019 and the potential auto tariffs.

Goldman Sachs shows its base case impact will peak at 0.15%. And the worst case will peak at increasing core inflation by 0.3%. That would be a disaster for the Fed. Inflation would be pushed higher and growth would be pushed lower.

That’s a stagflationary event.

Personally, I think a deal will be made soon. It appears China is giving in to some of America’s demands as its economy is seeing slower growth.

If President Trump doesn’t make a deal in the next few months, he’ll lose his position of strength. The American economy is seeing slower growth. His trade policy will get some of the political blame for the weakness.

Interestingly, in the past 9 months of Merrill Lynch fund manager surveys, a trade war was the most common answer 8 times.

G-20 Meeting - Import & Export Prices

Import prices were up 0.5% month over month which beat estimates for 0.1% in October while growth in September was revised from 0.5% to 0.2%.

Export prices were up 0.4% which beat estimates for 0.1% and flat growth in September. On a year over year basis, import prices were up 3.5% and export prices were up 3.1%.

Petroleum drove up import prices as they increased 2.8%. Without petroleum, import prices were up 0.2%. Export prices were hurt by agriculture which fell 0.3% month over month and 4.5% year over year.

Export prices were up 3.9% year over year without agricultural products. Tariff effects caused import prices of agricultural products to increase 2.2% month over month.

G-20 Meeting - Conclusion

The Empire Fed index shows manufacturing growth isn’t slowing in all the Fed districts.

Tariffs could act as a countercyclical factor which pushes up inflation. They will also slow growth in 2019.

The good news is President Trump and President Xi are making progress on a trade deal.

Personally, I think there will be a deal made in early 2019. The American economy won’t be able to handle any more negative factors. Monetary policy is about to be contractionary.