NEWS / Foreign Exchange

Consumer confidence is likely to decline further in October

• Slowdown in real GDP growth will intensify after Q3
  

• PCE core deflator will probably have remained well below 2 % in September

• ISM manufacturing index could decline further, albeit only slightly, in October

• October non-farm payrolls growth could be disappointing

In September, the Conference Board??™s consumer confidence fell noticeably by almost 6 points to 99.8, and we expect it to decline again to 97.5 in October. Tighter credit conditions, lower home and higher energy prices as well as the deterioration in private employment growth will all have had a negative impact on consumers??™ mood, and elevated stock prices will not have compensated for this, especially since they have now come down again from theirearly October peaks. The further decline in theUniversity of Michigan??™s consumer sentiment and thesharp fall in the latest weekly ABC consumer sentiment also indicate another decrease in consumer confidence.

Despite the decline in consumer confidence, growth in personal consumption expenditures accelerated markedly and could have contributed at least two percentage points to growth in the 3rd quarter. Net exports will have had a noticeable positive impact again, while inventories and government outlays might only have risen moderately. The rise in business investment outlays will not have been able to offset the increased weakness in residential construction. We expect total GDP growth to have reached an annualised 3.0% qoq, before slowing down significantly in the 4th quarter.
The personal consumption core deflator could have risen an annualised 1.6% qoq in Q3, well within the Fed??™s comfort zone of 1 to 2 %.

We expect the employment cost index (ECI) to have increased by 0.8% qoq in Q3, a little less than in the 2nd quarter, because benefit costs might have risen less markedly after having gone up by 1.3% qoq. The annual rate could nevertheless rise slightly from 3.3% to 3.4%.

Construction spending rose unexpectedly by 0.2% mom in August, as strength in commercial construction compensated for the decline in residential construction spending. However, given the significant weakness in the latest housing market data, this is unlikely to have been the case in September, and we thus forecast that construction spending will have fallen by 0.5% mom.

The FOMC lowered the fed funds rate by 50 basis points on 18 September to help forestall some of the financial markets turmoil??™s adverse effects on the broader economy. Money market pressures have eased somewhat, and economic data have been mixed since then. However, fed funds future markets are indicating that there is likely to be another rate cut of 25 basis points to 4.5% on 31 October, as tighter credit is not only intensifying the housing market correction, but will also dampen investment and consumption growth. Despite the PCE core deflator having fallen to well below 2%, the FOMC still seems to see some inflation risks, mainly because of the weak dollar and high energy prices. But the danger to economic growth posed by possible spillover effects from the housing market crisis prevail for the FOMC in its risk-management approach. And as the graph shows, the real fed funds rate appears high compared to the sub-average growth in payrolls.

Initial jobless claims fell by 8k to 331k in the week ending 20 October, but the 4-week moving average continued to rise to 324,75k. Given that the weakness in the housing sector has intensified and is spilling over to other sectors, we expect jobless claims to have gone up to about 335k in the week ending 27 October.

Personal income is expected to have risen by 0.4% mom in September, just like average hourly earnings. The increase would be slightly stronger than in August, but personal consumption could have risen less than in the previous month, as economic uncertainty has increased. We expect nominal personal spending to have gone up by 0.4% mom, supported by higher gasoline prices in particular. As the PCEdeflator may have risen by about 0.3% mom, real personal spending will only have increased moderately, indicating a slowdown in the growth of personal consumption outlays in the 4th quarter.

We expect the PCE core deflator to have gone up a little less than core CPI, which rose a good 0.2% mom. The annual rate could thus remain stable at 1.8%, or even fall slightly again to 1.7%. The favourable development of the PCE core deflator makes it easier for the FOMC to put more emphasis on economic risks than on inflation at present.

So far the regional manufacturing indices have shown mixed results in October: The New York Empire manufacturing index rebounded sharply from 14.7 to 28.8, but the Philadelphia Fed index fell by about 4 points to 6.8. After an unexpected improvement in September, the Richmond Fed index also corrected downwards markedly, from +14 to ??“5, but its correlation to the ISM manufacturing index is not very close. Given the conflicting signals, we expect the ISM manufacturing index to have fallen slightly from 52.0 to 51.0 in October. However, the ISM could continue its downward tendency in the months ahead. The same goes for the Chicago PMI, which could have decreased from 54.2 to 53.0 in October.

Domestic vehicle sales are likely to have levelled off further in October, from 12.5 to about 12.0m, as consumers??™ willingness and ability to buy durable goods has declined due to the deterioration in credit market conditions.

Non-farm payrolls increased by 110k in September. This was only slightly more than the consensus estimate, and thus it was the upward revision of the August figure from ??“4k to +89k that really caused a stir. However, the better outcome was almost entirely due to public sector jobs, and apart from that, job losses occurred in manufacturing, construction and the retail trade. As we expect some downward correction in government jobs, our estimate for the October increase in non-farm payrolls is only 40k. This is less than half the consensus forecast, but it is not clear whether the indicated weakness will be mainly evident in the October figures or whether there will be a downward revision of the September count. The unemployment rate could have remained unchanged at 4.7%. Average hourly earnings are likely to have risen less markedly, by 0.3% mom at best, with the annual rate falling slightly to 4.0%.

Factory orders could have fallen again by about 1% mom in September, after durable goods orders declined unexpectedly by 1.7%, due to plummeting defense orders and a further decrease in automobile orders. In our forecast we assume that non-durable goods orders will have remained more or less flat. The August figure is likely to be revised down slightly.