Northwestern Mutual

Financial Markets Commentary For the week of Jul. 17, 2017

The Federal Reserve still rules.

In a week of high drama that began with revelations about President Donald Trump’s son meeting with Russians and included the Senate’s unveiling, and the subsequent delay, of the GOP’s revised health care bill, it was the words of the Fed’s Chairwoman Janet Yellen before Congress that moved the stock market. And her message – that the Fed would go slow when it came to raising its benchmark rate – coupled with weak reports on retail sales and inflation, persuaded investors that the Fed’s rate would stay low in the near term, and that stocks were, for now, the best bet. As a result, the S&P 500, the Dow Jones Industrial Average and the Russell 2000 all hit new highs on Friday, while the Nasdaq closed less than 10 points from its record finish.

Yellen on Capitol Hill

Congress came back from its holiday recess on Monday, and Yellen appeared before both the House and Senate banking committees to deliver her twice-annual Monetary Policy Report. Yellen’s message was broadly upbeat about the state of the economy, with her telling the Senate Finance Committee on Thursday, “I don’t see anything inherent in the nature of the expansion that suggests it will come to an end anytime soon.” Still, she said the Fed would be circumspect when it came to raising its rate because of sluggish inflation, telling the House Banking Committee, “We’re watching this very closely and stand ready to adjust our policy if it appears the inflation undershoot will be persistent.”

That “go slow” approach was buttressed later in the week when the government reported that retail sales were down 0.2% in May from the month before – an increase of 0.1% had been forecast. In addition, the Producer Price Index (PPI) was up just 0.1% in June from May and 2.0% over the past year, compared to a year-over-year increase of 2.4% in May. Core PPI, excluding food and energy, rose 0.2% month over month and 1.9% year over year. And the Consumer Price Index (CPI) was unchanged from May as core prices were up 0.1%. Over the past year, CPI increased 1.6% and core CPI rose 1.7%, both coming in below the Fed’s target of 2% inflation.

Job security

In both sessions, Yellen was also asked about her job status – her term ends in February – but demurred to elaborate. A recent The Wall Street Journal poll of economists, however, found that only 20.8% of the 63 respondents thought President Trump would nominate her for a second term, even though there was no consensus on who would replace her.

The health care bill redux

Having failed to round up enough votes with the first version of his plan to replace the Affordable Care Act, the Senate Majority Leader Mitch McConnell (R, Kentucky) introduced a revised bill on Thursday that was designed to sway both conservative and centrist Republican senators. However, two GOP senators immediately said they wouldn’t vote for it, which means McConnell will need every other Republican senator to come on board to pass it. He had hoped to begin discussing the bill this week, but on Saturday discussions were put on hold because Senator John McCain (R, Arizona) is recovering from eye surgery. McConnell, who needs McCain’s vote to move the bill forward for discussion, did not announce a new timetable. Earlier last week, McConnell announced that the Senate’s August month-long recess would be cut in half so that he could move forward on the new president’s legislative agenda.

“MAGAnomics”

On Thursday, Budget Director Mick Mulvaney introduced the administration’s plan for reaching “sustained” 3% gross domestic product (GDP) growth in an op-ed piece in The Wall Street Journal. The plan, dubbed “MAGAnomics” (a hybrid of “Make America Great Again” and “economics”) would get to 3% through such steps as tax cuts, infrastructure spending, renegotiating trade deals, curbing unnecessary regulation and overhauling welfare. Yellen, when asked about the plan in the Senate on Thursday, said that reaching 3% would be “challenging” because productivity remained stagnant. Mulvaney was in the news again on Friday when he said that the budget deficit for the president’s first two years would be $250 billion higher than originally projected because of lower-than-expected tax receipts and a revised projection for military health care costs. As a result, he forecast a deficit of $702 billion in 2017 and $589 billion in 2018.

The White House and the CBO

On another budget note, the Congressional Budget Office (CBO) said the projections in President Trump’s budget were quite different. His version forecasts a slight surplus by 2027, for example, whereas the CBO said there would be a deficit of $720 billion, or 2.6% of GDP. In response, the White House released a video which stated that the CBO’s “numbers don’t add up.”

In other news, investors were upbeat about the Fed’s latest Beige Book report which said that growth was “slight to moderate” in each of its 12 regions. The Fed also said that industrial production was up 0.4% in June from May, the fifth straight month-over-month increase, while manufacturing climbed 0.2%. Capacity utilization rose 0.2% to 76.6%. Wholesale inventories registered their biggest gain in five months in May, rising 0.4%. The National Federation of Independent Business Index of small business confidence slipped from 104.5 in May to 103.6 in June but remained near its recently achieved decade high. The University of Michigan’s preliminary consumer confidence reading for July was 93.1 compared to June’s 95.1. The Labor Department reported that the number of job openings in May fell from a record high, down 301,000 to 5.7 million, but hiring rose as did the number of Americans leaving their jobs, indicating that the job market was still solid. And for the week ending July 8, first-time jobless claims fell 3,000 to 247,000; the four-week moving average rose 2,250 to 245,750.

A look ahead

This week’s economic calendar includes updates on import and export prices, housing starts, consumer confidence, the Conference Board’s Leading Economic Indicators Index and more reports on second-quarter corporate earnings.