Jobs Boom, Markets Stagger, Fed Remains Flexible

The jobs boom rolls on. In December the economy added 312,000 jobs, almost twice as many as forecasters expected. Good prospects converted so many couch potatoes into job seekers that the unemployment rate rose from 3.7% to 3.9%. Average hourly earnings rose, and are now 3.2% over last December, with much of the increase coming at the lower end of the wage spectrum. The labor force participation rate ticked up.

Good news? Yes, if you are an American worker. But not if you are trading shares. This strength confirms the Federal Reserve Board in its plan to raise interest rates twice this year, although at an American Economic Association seminar yesterday Fed chairman Jay Powell emphasized that the Fed has “no pre-set policy … [and] with muted inflation readings we will be patient.” That might prove to be good news for share prices, but as John Stoltzfus, chief market strategist for Oppenheimer put it even as he watched an early rally on Wall Street, “The bears are still growling.” It seems that bad news is given greater weight these days than good news. For two reasons.

First, investors do not believe what they call “divergence” can persist, that the American economy can continue to grow at a relatively rapid rate while the rest of the world slows down. Which it is. Italy is in difficulty because the EU to which it has ceded control of its economy won’t allow it to loosen fiscal policy. Paris is burning, forcing President Macron to dish out benefits while lowering taxes, raising France’s budget deficit to a level the EU has refused to allow Italy. Britain is about to crash out of the EU. Germany’s auto industry is in for a tariff hit if rumors are true that the boys from Brussels are adopting a doomed policy of stalling trade negotiations until Trump is no longer president, and that Macron won’t give Trump anything on agriculture even if it results in no deal and tariffs on Germany’s auto industry. And Japan’s economy, the world’s fifth largest, is expected by the OECD to expand at a meager 1.0% rate, which might turn out to be optimistic given the government’s decision to increase the rate of sales tax from 8% to 10%.

Most important, the debt-ridden Chinese economy, the world’s second largest, is slowing in response to the tariffs Trump has imposed on its exports, with more to come if it doesn’t make major concessions. Its manufacturing sector is in serious trouble, retail sales last year grew at the slowest rate in fifteen years, 20% of the nation’s apartments are vacant, and investment in factories and buildings has slowed to the lowest rate in a quarter-century. The central bank reports that credit card bills unpaid for six months were up 30% in September compared with the previous year.

This will inevitably produce a feedback effect, so strong in the case of Apple that the company lowered its earnings forecast, causing its shares to sell off by about 10%, rattling markets that expect more bad news to come out of China for American companies doing business there. Kevin Hassett, chairman of the President’s Council of Economic Advisers, told television audiences, “A heck of a lot of US companies” that do business in China will see a hit to their earnings absent a trade deal. Ford, GM and other companies didn’t need Hassett to tell them that sales in China have slowed.

The second reason bad news is given greater weight than good is that the background, mood music in America is unsettling. Powell on Friday politely called it “general policy uncertainty.” Not my fault says Trump. The partial government closure is due to the refusal of the Democrats to finance a border wall. The markets are twitchy because an obtuse Federal Reserve Board has announced plans to raise interest rates. Sure, I’ve fired the generals and others who were restraining my wilder impulses, started a trade war, and tweet, tweet, tweet until investors are thoroughly confused. But after two years of listening to advisers who aren’t signed on to my agenda, I am unchained. That should make everyone happy.

It hasn’t. Unsustainable divergence from a world that in the end is too much with us, and the prospect of an unbound President, have many forecasters scrambling to lower their very recent projections that profits would grow by 10% this year. Paul Nolte of Kingsview Asset Management in Chicago is expecting no more than 3%-4%. An optimist compared to Scott Minerd, global chief investment officer of Guggenheim Partners, who expects that after “all these stock buybacks” in 2019, the markets will be “on a collision course for disaster… a 40% retrenchment in equities … “. He, in turn, is an optimist compared to John Hussman, who predicted both the dot-com bust and the 2008 financial crisis. The president of Hussman Investment Trust is expecting “a market loss on the order of 60%” when the market crashes.

Whether the Eeyores prove prescient will depend on whether the Fed is right that the economy will grow at 2%-2½%, and that recent weakening in the housing and manufacturing sectors are not the economy’s equivalent of canaries in the coal mine.

Key will be whether Trump and Xi Jinping can cut a trade deal. Both men have reasons for doing just that. Xi, his debt-ridden economy collapsing, knows that if negotiations fail, Trump will ramp up tariffs on all products China sells to America. Trump knows that the 2020 election campaign is under way, that he must deliver continued economic growth, full employment and a recovering stock market if he is to overcome the fear and loathing of voters who turned control of the House over to Democrats in the midterms. Both want a deal, but neither can afford to be seen as surrendering.

For Xi, too many concessions would mean a loss of face and of support from a populace that has traded liberty for economic comfort. For Trump, failure to get a satisfactory deal would mean that the pain tariffs have inflicted on farmers and many American industries was all for naught, and that the man who was elected in part for his claimed prowess as a negotiator, couldn’t deliver the goods. Unless he is as lucky in his opponent as he was the last time, he might find himself back in Trump Tower fending off vengeful suits filed by those who failed to have him impeached, and seek his financial ruin and imprisonment.

Meanwhile, American workers are satisfied with their personal conditions and unhappy about the direction of their country. With good reason for both views.