Economic Commentary

Service sector showing some cracks, too: Weekly Economic Review & Outlook

June 13, 2023
A waitress serving food to a group of men at the restaurant.

Coming off the blowout jobs report and the debt ceiling agreement, last week was a slower week for economic data. The ISM services index declined but remained narrowly in expansion territory and, importantly, saw continued easing of input price pressures. There was also a jump in initial jobless claims, but it’s premature to suggest that this is the beginning of a slump in the labor market.

Key Takeaways:

What we learned last week: (pg. 1)

Price growth in the service sector continues to fall

While still climbing, input price growth for service industries has slowed significantly.

Pick-up in jobless claims

Jobless claims climbed to an 18-month high in early June, but the four-week moving average hasn’t move meaningfully and is still lower than it was at the end of April.

What we’re watching this week: (pg. 2)

June 13: Consumer Price Index (CPI)

May’s prices should relieve some pressure on consumers’ wallets

As we approach the June FOMC meeting, all eyes remain on the consumer price index (CPI) report. The headline print for May will likely be weaker due to the decline in gas prices and gradual softening in food inflation. We expect a modest 0.1 percent rise in the overall CPI. But the core CPI will likely show further pressure, with a 0.4 percent gain expected for May, due to persistent inflation for core services. Still, the year-on-year readings for each measure should decline due to outsized increases last May.

June 13 & 14: FOMC Meeting

Fed poised to skip tightening, but remain hawkish

After the last FOMC meeting in early May, Chairman Powell signaled that the Fed has moved into a different phase of policy making that is more data-dependent. However, despite stronger-than-expected incoming data, the leading officials of the FOMC have indicated that they are inclined to skip a rate hike at the June meeting though it does not preclude them tightening in July.

The guidance from the Fed has become muddled and confusing to the markets. This could become even more confusing if the May CPI reports shows inflation outpacing forecasts. Given the Fed’s guidance, we expect them to hold rates unchanged on Wednesday, but retain a hawkish bias which opens the door to a July rate hike if economic activity and namely inflation do not cool sufficiently.

June 15: Retail Sales Advance

Retail sales likely fall due to a drop in auto purchases

Headline retail sales should decline 0.4 percent in May, reversing April’s gain as auto sales fell a sharp 6.5 percent in May after a large gain in April. Since 2000, a five percent or more decline in monthly auto sales correlated with a 1.5 percent drop on average in retail sales. Sales excluding autos and gas should expand firmly in May as consumers continue to spend broadly and generously on services.

June 15: Industrial Production

Manufacturing sector expected to boost industrial production growth

While the ISM manufacturing index has shown contraction for seven straight months, total production that includes utilities and mining output has improved in recent months. Last month manufacturing output jumped 1 percent, but that followed a 0.8 percent decline in March. Utilities, which tend to be a larger contributor during the summer months, should detract in May. Last month’s cooler-than-usual weather resulted in significantly less cooling degree days than the 1981-2010 normal. Taken together, we forecast industrial production to grow 0.2 percent.

Analysis: Service sector remained narrowly in expansion in May

The ISM services index edged down to a five-month low, falling to the cusp of the expansion/contraction line in May. Demand measures in the survey (i.e., business activity and new orders) softened but remained supportive, suggesting that spending on services is slowly trending downward. The employment index fell into contraction due to an increasing number of firms slowing or freezing hiring activity as they assess the direction of the economy in the second half of the year.

The most encouraging sign in May’s survey was the price index slowing to its lowest level since May 2020, and at a reading of 56.2 is well off the peak level of 84.5 posted in December 2021. Given that inflation remains stickiest in the services sector, a softening of input cost pressures for service industries should be a prelude to further slowing consumer inflation in coming months.

With the ISM manufacturing index remaining in contraction for a seventh straight month (covered in last week’s review), the decrease in the ISM services index lowered the composite index (services and manufacturing weighted by output) into contraction territory, below 50, for only the second time since the end of pandemic lockdowns. Solid growth in the service sector had boosted the composite reading but general business conditions are sagging towards recession.

Analysis: Jobless claims climb, but it’s too early to sound alarms

Initial jobless claims jumped in the week ending June 3 to the highest level since October 2021. As a high-frequency, leading economic indicator, it’s typical to see a jump (or an uptrend) in unemployment claims before slower or negative job growth numbers show up in the monthly employment report. However, it’s likely too early to conclude that the latest rise in initial jobless claims as a sign that layoffs are gathering steam. Jobless claims can be choppy on a week-to-week basis. This is especially the case during weeks that include a holiday that does not have a specific calendar date on a year-to-year basis, like Memorial Day, due to difficulties with the seasonal adjustment calculation. For a less volatile perspective, the four-week moving average for initial claims climbed somewhat but is still well below the long-run average and remains on par with the first week of May.


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