Financial News for the Week of August 5th, 2022

This week in financial news, the debate on whether the Fed will be able to achieve a soft landing intensified. Equities were trading up most of the week as investors bought into the positive economic news with an expectation that a slowdown in economic growth will avoid a severe downturn. In contrast, the bond market took a grimmer view of the future, by pushing the 10Y2Y yield inversion deeper into negative territory, suggesting a recession may be looming on the horizon.

Investors weren’t the only ones arguing about the economic prospects. In academic circles, the debate on whether a soft landing can be achieved was out in the open. At its core is the argument that job vacancies can’t decline by a large amount without the economy falling into recession. This week’s release of June’s Job Openings and Labor Turnover Survey (JOLTS) showed that job openings dipped to 10.7 million while job vacancy rate continued to decline, indicating we have likely already surpassed peak tightness in the labor market. Still, demand for workers continued to outpace supply – a sign of a still strong labor market.

Indeed, anyone in search of more signs that the economy is in fact not in a recession need to look no further than today’s jobs report. July data shows that the economy added a whopping 528k jobs (well above the consensus forecast of 250k), while revisions resulted in additional 28k jobs – enough for the payroll figures to surpass their pre-pandemic level (Chart 1). The unemployment rate declined by a tenth of a percentage point to 3.5%, while the labor force participation rate fell slightly to 62.1%. Furthermore, average hourly earnings accelerated – not quite what the Fed was looking for as this increases the possibility of inflation becoming entrenched.

Meanwhile, sentiment indicators also surprised to the upside in financial news. The Institute for Supply Managements’ (ISM) readings for the manufacturing sector slipped modestly but came in above expectation. Demand is clearly slowing with new orders contracting for the second month in a row. Still, this comes with less pressure on suppliers, as supplier delivery times rose at their slowest pace since before the pandemic. Moreover, the inventories subindex continues to show improvement. This corresponds with rising auto inventories, where increased production helped improve market supply to roughly 28 days from February’s low of just 24 days.

The ISM services index pointed to a broad pickup in services activity, proving again that there is still plenty of pent-up demand. The gap between the supplier deliveries time and the rest of the index’s drivers narrowed in July – a month after a similar improvement in the manufacturing sector. This seems to have contributed to a decline in the prices paid component in both sectors of the economy (Chart 2). The sizeable deceleration in the ISM price subindexes may very well be a harbinger of a slowing pace in broader price growth, which we’ll hopefully see in next week’s CPI report.

Still, at the 40-year high price growth is too overwhelming for the Fed to scale back on rate hikes. For now, robust employment growth adds further conviction that the economy remains on a solid footing and suggests the FOMC needs to remain aggressive in tightening rates to help cool inflation and re-anchor inflation expectations.

Maria Solovieva, CFA, Economist  | 416-380-1195