The U.S. economy continues to enjoy its Goldilocks moment – at least with respect to inflation. Consumer prices rose 1.9% year-on-year in March, up from 1.5% in February, largely driven by increases in energy prices (Chart 1). Core inflation came in at 2.0%, and while not the Fed’s preferred metric, is consistent with price pressures running neither ‘too high’ nor ‘too low’.

Several months of muted inflation readings have strengthened the Fed’s decision to keep rates where they are. Minutes of the March meeting showed that board members saw little in the data to prompt a shift in policy. This rhetoric is expected to continue through the end of 2019, with signs of an improving labor market balanced against risks to growth from a struggling global economy. The Fed’s European counterpart (the ECB) on the other hand, while leaving rates unchanged this week, signaled that there could be substantive changes to monetary policy at their next meeting in June. With anemic growth among member countries and lingering policy uncertainty, it signalled a willingness to act to ensure a return of inflation to target and bolster the region’s faltering growth.

On the trade front, relations with China seem to have taken a turn for the better, with talks between high-level officials ongoing. As cooler heads prevail in one trade negotiation however, disputes are heating up in another. The U.S. is threatening to impose tariffs on approximately $11 billion of EU imports. The threat comes after 14 years of litigation at the WTO over subsidies for European aircraft manufacturer Airbus, which America argues puts U.S. based Boeing at a disadvantage. The U.S. emphasizes that this move is independent of current ongoing trade talks with the bloc; but the timing could be seen as an attempt to gain leverage in those negotiations.

Boeing for its part continues to deal with fallout from the grounding of its 737 MAX airliners. There were no commercial orders for the product in March, the first time this has occurred since May 2012. Boeing will reduce production of the jet starting mid-April, while it works to fix flaws with the model which resulted in two fatal crashes. If the production cut lasts to the end of the quarter, they could shave 0.1 to 0.2 percentage points off Q2 GDP growth.

Internationally, Britain’s attempt to leave the EU continues to push past deadlines. This week the EU granted another flexible extension to October 31st for the UK parliament to agree to a deal. The gesture, however, came with strings attached, as the UK will have to hold EU parliamentary elections if they have not ratified the deal by the end of May or risk exiting without a deal on June 1st.

Given these and other uncertainties, the IMF downgraded projections for global growth in 2019 to 3.3%, citing ongoing trade tensions and declining confidence (Chart 2). This brings their forecast in line with our own view published in March. Growth in 2020 is expected to rebound to 3.6%, slightly above our expectation for 3.5% growth.

Shernette McLeod, Economist | 416-415-0413

Progress on U.S.-China trade negotiations helped support risk appetite in financial markets this week. Major U.S. stock indices, such as the S&P 500 – up 2% on the week – had a strong run. As money flowed into equities, Treasuries sold off, boosting bond yields, particularly for longer maturities. This helped keep the spread between long-term and short-term yields in positive territory, easing some of last week’s anxiety about any recession signal from the yield curve’s inversion.

Economic data, though not entirely positive, was broadly supportive. February retail sales undershot market expectations, falling by 0.2% m/m, instead of rising by a commensurate amount. The miss on the sign in the headline print seemed like a cruel April Fools’ joke. But, the hefty upward revision to January mitigates the downside to 19Q1 spending (Chart 1). Proving more constructive was a strong bounce-back in auto sales in March to 17.5 million, after two consecutive monthly declines. But, even with a decent showing in March, first-quarter consumption growth is unlikely to surpass 1% annualized. This soft performance is really no surprise given the drag from ‘residual seasonality’ and the government shutdown.

Lower interest rates and a steady Fed, together with a robust labor market, should continue to shore up spending in the months ahead. On the employment front, the payrolls report did not disappoint, with job gains making a comeback in March (Chart 2). The economy added 196k new jobs last month, while the unemployment rate managed to hold on to a low 3.8%. In addition, the prior two months of data were revised up by 14k combined. Other details were less rosy, such as the participation rate ticking down 0.2 ppts to 63% and wage growth easing a touch.

The March jobs data confirms that the weak February print was but a speed bump. That said, we still expect a tightening labor market to curtail the pace of job gains to below 150k per month on average through the remainder of 2019. This is slower than last year, but still decent – a theme that aligns with the broader economic narrative of GDP growth slowing to just above 2% this year.

The recent performance of manufacturing and service industries  supports this view. The ISM indices have decelerated on a trend basis from last year’s highs, but both remain well in expansionary territory. In March, the two indices diverged, with the non-manufacturing index undershooting expectations (-3.6 points to 56.1) and the manufacturing index surprising on the upside (+1.1 points to 55.3). Still, both signal an economy expanding at a healthy pace.

The resilience of the U.S. manufacturing sector has been remarkable, given the slump in activity elsewhere. Although manufacturing  improved in China and a few regional partners in March, it remained in contraction in the Euro Area. The Old Continent is going through a rough patch, and, with economic growth expected to clock in at a low 1.3% this year, it remains a source of downside risk to the global economic outlook (see here).

Admir Kolaj, Economist | 416-944-6318

Hang on to your hats folks. With Fed speeches, Brexit votes, and a slew of economic data, this week was exhilarating.

First, on the data front, the American economy expanded by 2.2% (annualized) in 2018Q4, down from the 2.6% rate initially reported (Chart 1). The revision brought annual average growth to 2.9%, though Q4/Q4 growth was 3%. Consumer spending, government expenditure and business investment were all revised lower, while net exports showed a smaller deficit. Corporate profits also stalled in Q4. These data point to a slowing trend and a weaker handoff to 2019. Reinforcing this narrative, personal income and spending kicked off 2019 with tepid gains. PCE inflation was also muted at 1.4% (y/y) overall and 1.8% for core.

Housing data also came in on the disappointing side. Housing starts declined 8.7% in February, giving back most of the gains in January. The turn lower was concentrated in the single family segment. Meanwhile, the pace of new home sales perked up to the best rate in almost a year (4.9%). Additionally, in January, home price growth decelerated to the slowest rate in almost 4 years – 4.3% (y/y) down from 4.6% a month earlier. It also marked 10 consecutive months of slowing growth (Chart 2). Higher mortgage rates earlier in 2018 and the past run-up in home prices dented affordability. However, recent declines in rates, smaller price gains, and rising wages should result in improved activity going forward as housing demand rebounds (see report).

On the trade front, the trade deficit narrowed sharply in January, from $59.9bn to $51.1bn, implying less of a drag on GDP growth from net trade in 19Q1. The improvement largely reflected shifting trade with China. Fortunately, there appears to be some progress in negotiations. China is offering concessions on technology-related issues, which had been a major sticking point for U.S. negotiators. Trade talks continue in Washington next week.

Across the pond, the Brexit saga continued to unfold, leaving a lingering air of uncertainty. The UK’s Parliament failed to come to a consensus on alternatives to the withdrawal agreement on Wednesday. Out of eight options proposed, not one was able to garner the needed majority. Parliament voted for a third time against the deal today, the day Britain was originally set to leave. Prime Minister May, who offered her resignation in exchange for support, continues to face an uphill battle to consolidate opinion on a deal. Debate on a deal is expected to continue next week.

Lastly, a parade of Fed speakers made the rounds this week. Among them, Chicago Fed President Evans echoed sentiments expressed in last week’s Fed statement – a rate hike for 2019 is likely not in the cards, while his Philadelphia counterpart, Patrick Harker, suggested one hike could be appropriate. All told, policy normalization at the Fed is quite likely nearly complete, as rising global risks leave the U.S. exposed to foreign shocks.

Shernette McLeod, Economist | 416-415-0413

It was a busy week for Canadian data and financial markets. The S&P/TSX lost ground this week as oil prices gave up earlier gains in light of Friday’s manufacturing data that signalled a deteriorating global economic outlook. Meanwhile, the budget-heavy week was joined by data that did little to change the downbeat domestic economic story.

The big-ticket event was the Federal Government’s release of its FY2019-20 budget on Tuesday (see commentary). The government’s projected deficits for last year were lower than initial estimates, with the windfall used to finance new initiatives. Some of the measures include a focus on incentivizing education and job training, with new refundable tax credits and EI support, and reduced interest costs on Canada Student Loans. Other areas of focus included environmental initiatives, where the government is introducing a credit for electric vehicles and transferring $1 billion to municipalities for greening initiatives.

Arguably, the most attention-grabbing parts were its housing demand measures (see commentary). Specifically, its First Time Home Buyer’s Initiative includes a shared equity mortgage program and an increase in RRSP withdrawal limits. This may help increase home ownership rates, but the impact on sales and prices is likely to be minor. Indeed, we anticipate both to be only around 3% higher by the end of 2020 if implemented. Still, not all markets are expected to benefit, with some like Toronto and Vancouver likely not benefitting as much due to the price cap, and with tight markets potentially experiencing higher price impacts.

On the revenue side, the budget contained little change, with the most notable being a cap on the value of stock options subject to tax-preferred treatment. All told, the new budget’s measures are unlikely to have material implications on growth or monetary policy projections. Importantly, the deficit trajectory (Chart 1) is mostly unchanged.

Meanwhile, three provincial governments showcased a commitment to balanced budgets this week. New Brunswick’s decent starting point and planned spending restraint should help keep its books in the black within the projection horizon. Saskatchewan’s government also signaled a commitment to surpluses going forward, an encouraging feat given its outsized deficits following the 2014 oil price shock. Last but not least, Quebec’s new government tabled its first budget, introducing an array of new measures, with an intention to maintain surpluses of $2.5-$4 billion.

Budgets aside, two top-tier data releases capped the week. The CPI inflation print was unsurprising; with the headline coming in at 1.5% and the Bank of Canada’s core measures hovering slightly below its target, at an average of 1.8% (Chart 2). Retail sales disappointed for the third straight month, declining 0.3% and with volumes almost flat, consistent with expectations of a slowdown in consumer spending in Q1. Wholesale trade was decent, with a 0.6% uptick. Altogether, the data reinforce the expectation that the Bank of Canada will likely remain on the sidelines for a long period to come.

Omar Abdelrahman, Economist | 416-734-2873

In a year marked by high expectations for deals, 2019 is shaping up to be a rough year for the global economy, and advanced economies in particular. Our new quarterly economic forecast expects global growth to slow to 3.2% in 2019 from 3.6% last year (Chart 1). That’s down about 0.2 ppts from our December outlook.

This outlook is consistent with global demand growing roughly at the same pace as capacity, and, correspondingly, subdued inflation pressures. However, the headline print itself masks the disparate regional challenges. For example, a soft end to 2018 and a disappointing start to 2019 results in a much weaker growth outlook for G7 economies this year. Add a global manufacturing slump, and you have the impetus for a relatively weak economic expansion relative to past years. Downgrades like this justify the pivot to patience by G7 central banks. Interest rate hikes are effectively cancelled through the end of 2019.

In contrast, economic activity in the developing world is expected to heat up later this year. An anticipated improvement in global manufacturing activity, weaker inflation and lower global interest rates all support a firmer outlook in emerging market economies. That said, a slowing Chinese economy and elevated trade policy uncertainty vis à vis the U.S. could weigh further on major trading partners, stifling any sort of rebound in global economic activity.

The U.S. economy is expected to prove more resilient than its G7 peers (Chart 2). Although it too will see growth slow in 2019, the decline is largely due to the waning impulse from fiscal stimulus. Growth for 2019 is still expected to average an above-trend pace of 2.4%, half a point shy of last year’s strong performance. The government shutdown and continued phenomenon of residual seasonality weigh heavily on the first quarter, bringing down the annual average. However, both consumer and business spending fail to rebound to the heady quarterly growth rates observed in 2018 through the remainder of this year.

Spending on consumer durables, such as automobiles, is expected to decelerate. Moreover, although a rebound in housing activity is expected later this year, very weak momentum acts to ensure that residential investment contracts for a second consecutive year. Net trade is also expected to weigh on growth again this year, with import demand outpacing exports.

The data this week acted to support this outlook. January retails sales staged a solid rebound from December lows. Combined with solid wage gains in February’s employment report, this sets the table for an uptick in economic activity later this quarter. That said, geopolitical events this week proved less constructive. Trade talks between Presidents Trump and Xi have been punted to at least April, and Brexit will likely be delayed at least through June. This suggests that elevated political and trade policy uncertainty will continue to weigh on global economic activity for at least a couple more months.

Fotios Raptis, Senior Economist | 416-982-2556

In a welcome change from the recent doom and gloom, this week started off on an upbeat note. An uptick in the ISM non-manufacturing index got the ball rolling. Diverging from its manufacturing counterpart, the headline rose 3.0 points to 59.7 in February, reversing two consecutive declines in the prior months. An improved performance in the services sector is echoed in consumer confidence that rebounded with the conclusion of the partial government shutdown and a turnaround in equity markets. It also reaffirms that domestic demand remains solid, corroborated by gains in all 18 industries in February.

Housing data was also encouraging this week. Sales of new homes rose 3.6% in December, edging higher for the second month in a row. Ditto for housing starts. After ending 2018 on a sour note, homebuilding started the year on better footing with starts surging by 18.6% in January. The gain in single-family construction was even more impressive, with starts up by 25% – the highest monthly gain since 1979. As we discuss in our recent report, the housing market has room to grow and demand should rebound alongside rising affordability. With low vacancy rates, housing construction should continue to make gains over the next year.

The positive economic news faced a setback on Friday as the payroll report showed job growth slowing to just 20k new jobs in February. The headline was a big miss on expectations, but notably came after two months of strong consensus-beating gains. There was also plenty of encouraging news in other parts of the report. The unemployment rate edged lower, the labor force participation rate maintained January’s gain and hourly earnings accelerated, rising to 3.4% year-on-year – the fastest pace in almost ten years.

There is good reason to look past the dour headline, which was probably influenced by temporary factors and poor weather. We expect job growth to slow in the months ahead, but it will be on the back of a labor market that for all intents and purposes has achieved full employment rather than any pronounced deterioration in domestic demand.

Still, the soft payroll print will reinforce the Federal Reserve’s current “patient” approach. On that front, the Federal Reserve has been joined by other global central banks. This week, the ECB unveiled a package of cheap funding for the Eurozone’s banks and said it would keep rates on hold until 2020 on the back of softening economic momentum and rising uncertainty related to Brexit and trade. The Bank of Canada’s statement this week was similarly dovish – noting the increased difficulty in reading the economic tea leaves given the increase in global crosscurrents. The dovish turn in other global central banks means the U.S. dollar is likely to remain relatively strong, giving the Fed even more reason to remain on the sidelines until at least the second half of this year.

Data released this week confirms that in 2018 the U.S. economy clocked its best annual growth since 2015. The bad news is that a repeat performance is unlikely, with higher-frequency data suggesting the economy is heading into 2019 with decidedly less gusto.

The fourth quarter GDP report painted a picture of solid but moderating growth. For the year as a whole, the economy expanded by a robust 2.9% in 2018. However, the headline conceals the fact that growth moderated as the year progressed, slowing to 2.6% (annualized) in Q4 from the 3.4% and 4.2% pace seen in Q3 and Q2, respectively. Looking at the individual components, consumer spending moderated to 2.8% in Q4 from 3.5% in Q3. Business investment surprised to the upside, with growth accelerating to 6.2% from a 2.5% pace in the previous quarter. However, trade and residential investment were a drag on growth both in Q4 and for the year as a whole.

A solid end to 2018, but momentum has clearly waned at the start of this year. Consumer spending data for December confirmed that the weak retail print was not a fluke, as the negative mood led consumers to hold on tight to their wallets. In what’s become a recurring theme, first quarter growth will be bleak. The government shutdown and soft consumer spending translate to growth slowing to 1% in Q1 (Chart 1). However, as in prior years, the slowdown should prove temporary, with output forecast to rebound to an above 2% pace in the second quarter.

Spring training got underway this week, a reminder that better weather is just around the corner. But, it will likely be some time before we see signs of spring in the U.S. economy. Various indicators pointed to soft momentum at the end of 2018 and early in 2019. Last week it was retail sales and industrial production. This week, the bad news came from durable goods orders and existing home sales.

Overall durable goods orders rose 1.2% in December, but the underlying business-investment gauge – nondefense capital goods orders ex-aircraft – declined 0.7%, the fourth decline since August. Capex spending had already slowed in the third quarter of 2018 after a period of strength (Chart 1), and the durables data suggests a similarly modest pace in Q4. That lines up with our capital expenditure tracker, (based on Fed sentiment surveys) and points to more modest growth into early 2019 as well.

Uncertainty related to trade policy and slower growth abroad likely contributed to more modest business spending in the latter half of 2018. Markets were optimistic about ongoing China-U.S. talks this week, but there is no concrete news yet. The President also indicated that March 1st is not a magic date, providing hope that an escalation in tariffs isn’t imminent. It could also mean that talks drag on, keeping the cloud of uncertainty hanging over investment. The U.S. housing market also started 2019 on a weaker footing. Existing home sales fell 1.2% in January, hitting the lowest level since November 2015. It is likely sales were somewhat depressed by uncertainty due to the government shutdown, but the trend was already soft.

Deteriorating affordability has cut into housing demand over the past year, but mortgage rates have dropped about 60 basis points since late 2018, which should show up in improved sales in the months to come (Chart 2). Homebuilder confidence also improved in February, supporting a more positive housing narrative ahead.

Finally, on the data front, the delayed fourth quarter GDP report is released next week. We expect growth moderated to 2.2% in Q4, after running above 3 ½% through the middle of the year. With the government shutdown and the continued phenomenon of residual seasonality, the first quarter of 2019 is likely to be even weaker at 1.6%. For now, this lackluster data affirms that the Fed made the right choice to shift off of gradual rate increases, and wait patiently to see if the U.S. economy remains resilient in the face of global weakness. The minutes from the January FOMC meeting showed members debating whether further rate hikes will be necessary, but not contemplating cuts. Members continued to view sustained expansion strong labor market conditions, and inflation near 2% as the most likely path ahead. We too expect economic momentum to improve in the spring, and remain modestly above trend through the remainder of 2019. As long as there are no curve balls, the Fed is likely to raise rates once more in the latter half of the year.

They say good things come to those who wait. But judging from developments this week, we’ll have to wait a bit longer. The delayed December retail sales report finally came out this week, but the results were deeply disappointing. While consensus had set a low bar for a nearly-flat print, sales fell a whopping 1.2% m/m – the worst decline since September 2009 (Chart 1). Moreover, the pullback was broad-based. Apart from gains at autos and building materials stores, everything else was in the red. Sales in the ‘control group’, which strips out volatile categories and is then  used in the calculation of GDP, fared even worse (-1.7%).

The weak report raised a few eyebrows, with its reliability in question among economics circles. December’s result is hard to square with other industry reports, such the Redbook index, which shows same-store sales accelerating in year-over-year terms in December. The fact that non-store sales (-3.9%) weren’t spared from the pullback also raises some suspicion. This category is largely made up of online sales, where there were no other major signs of stress during holiday season. Still, giving the Commerce Department the benefit of the doubt here, it would appear that the threat and subsequent materialization of the late-year government shutdown, together with a sharp selloff in equity markets amidst elevated trade tensions with China, prompted Americans to keep a tight grip on their wallets.

Consumer spending in the fourth quarter is now tracking around 2.6% ann. – softer than we previously expected, but still a pretty good showing. The December weakness also provides a weak handoff to the start of 2019. The fact that the government shutdown dragged on until late-January and consumer confidence deteriorated on the month (Chart 2), further reinforces the notion of softer spending, with consumption expected to advance at just below 1.5% (ann.). A pullback in small business confidence and industrial production in January provide further credence to the view for a soft quarter overall.

Similar to last year, however, we don’t expect the first-quarter performance to set the pace for the rest of the year, so long as a resilient labor market shores up spending. Consumption is expected to rebound in the second quarter, provided that there is no major disruption on the trade front or another government shutdown. Progress appeared to have been made on both of these areas this week. Reports indicate that Chinese and U.S. negotiators made headway in agreeing on broad principles, with negotiations to continue next week in Washington. It appears that President Trump will get his border wall funding by declaring a national emergency, and is also expected to sign a bipartisan spending bill that will avoid a second shutdown.

This week’s developments reinforce the notion that the Fed will stay put until muddy waters begin to clear. The other part of the Fed’s calculus, inflation trends, provide added comfort for patience. Core CPI has been holding at just above the Fed’s target recently (2.2% y/y), with little indication that it will shift in either direction. For now, it’s all about keeping the faith and playing the waiting game.

Admir Kolaj, Economist | 416-944-6318

In a week where economic data was sparse (partly due to delayed releases as a result of the government shutdown), global developments filled in the gap. On the heels of the Fed’s decision last week, the Bank of England (BoE) and the Reserve Bank of Australia (RBA) both left policy rates unchanged this week.

The BoE cited the likelihood of slower growth due to elevated financial uncertainty on the possibility of a no-deal Brexit, while the RBA highlighted trade-related downside risks to global growth. Elsewhere, the European Commission also significantly reduced its GDP outlook for the euro zone in 2019 and 2020 as it expects growth in the bloc’s largest economies to be held in check by global trade tensions.

The decidedly dovish shift in U.S. and global central banks’ statements reflects the turn south in economic and inflation momentum in the latter half of 2018, as well as the accumulation of event risks over the next several months. Among these, trade tensions between the U.S. and China looms largest.

On that front, prospects for a trade deal were dealt a blow this week with the announcement that President Trump is unlikely to meet with Chinese President Xi before the March 2nd deadline for additional U.S. tariffs. Continued uncertainty about the tariff hike has led to volatility in the international trade data. Imports fell fairly substantially in November, perhaps reversing some earlier inventory hoarding, as hopes for a trade deal increased (Chart 1). They could rebound again in the months ahead as prospects dim.

As long as the economic tea leaves remain cloudy, expect data-dependent central bank officials to remain cautious, taking the time to evaluate the cumulative impact of tighter financial conditions and slowing trade (see here). Stateside, this will have to be balanced against economic data that so far has continued to show resilience. As expected, initial jobless claims fell by 19k back towards post-recession lows during the week ended Feb 2nd as the effects of the longest U.S. government shutdown faded. In conjunction with the jobs report released last week, the data points to continued labor market strength.

Still, there are signs that the shutdown has had a negative impact on activity. The pace of expansion in the services sector decelerated in January. The ISM non-manufacturing index fell to 56.7 in January from 58.0 in December, reflecting concerns about the government shutdown, which negatively impacted new orders (Chart 2).

In his State of the Union address President Trump pleaded for unity, but continued to press a hardline on border security and immigration. All eyes will be watching the February 15 deadline for a longer-term funding package to avert yet another government shutdown that could take an additional toll on U.S. economic growth.

Shernette McLeod, Economist | 416-415-0413