One Print Doesn’t Make Pattern

Question:  

What does the phrase “data-dependent” mean?

Answer:

In terms of Federal Reserve Open Market Committee (FOMC) economic and interest rate policy, data-dependence is the use of facts, figures, and statistics to analyze economic information to determine planning actions and policies based on these specific metrics or data. Inflation is the data point currently receiving the most attention. In addition, consumer expectations as measured by the New York Fed’s survey are at a two- year low and inflation is hotter than anyone would like and influence planning and policies. 

There are several leading economic indicators (LEIs) that economists evaluate when formulating policy. LEIs are used to spot trends and measure the direction of the economy. In no particular order, here they are: 

Durable Goods Orders reflecting corporate and consumer expenditures.

Beige Book (a broad set of data of economic conditions from every part of the country to indicate levels of strength or weakness).

Consumer Confidence Surveys assess consumer optimism or pessimism.

Institute for Supply Management (ISM) Statistics gauge pricing and activity trends.

Employment Indicators quantify jobless claims, unemployment and labor force participation rates.

Retail Sales Index measures sequential sales growth representing strength or weakness. 

Home Sales and Home Building Statistics indicate consumer and real estate developers’ confidence levels in the economy.

Gross Domestic Product (GDP) measures the rate of economic growth compared to a year earlier.

Consumer Price Index (CPI) measuring changes in prices for a wide range of goods which can be erratic from month-to-month.

Producer Price Index (PPI) measuring changes in production and wholesale sectors. Many economists use core numbers that do not include food and energy due to seasonal volatility as with CPI. 

The Fed uses the phrase “one print doesn’t make a pattern” to explain interest rate policy and inflation’s path meaning that trends matter more than individual reports. 

Current data indicates elevated inventories which could lead to markdowns in apparel and household goods. Precious shelf space needs to be cleared before the holiday season allowing consumers to benefit from price reductions and may help to ease inflation. As of mid-September, commodity prices for oil, copper and lumber have already fallen 29%, 27%, and 67% from their respective peaks and could also improve economic conditions. 

Interest rate increases have dulled housing price increases. Rents tend to lag the housing market by one year. House appreciation is decelerating from the previous 20% year-over-year (YOY) to the mid to low single digits. With rental rates and housing cost increases slowing, inflation rates will likely follow suit. 

Beyond cyclical data, the calendar influences inflation. Last year’s super-hot inflation numbers from October and November 2021 (0.90% and 0.70% respectively) will soon roll-off the YOY numbers and likely slow the data driven rate of inflation reports. 

Being so “data dependent” isn’t an optimal or desirable position. Inflation remains high and the job market is still solid. This means inflationary data will continue to influence the Fed’s path ahead, which in turn influences financial market movements. The good news is that ISM prices show lower price increases and moderate wage growth. At the same time, higher inflation readings offset those positive reports and gains. 

High inflation continues to be the major issue weighing on consumers, disposable income and purchasing power. The longer inflation stays high, the more risk of it staying rooted in our economy. Stickier inflation data could lead to the Fed staying hawkish and looking to continued interest rate increases to slow inflation, bringing it down to a more reasonable level. 

Increased Fed tightening will negatively impact lending and economic growth going forward. Bond yields recently rose based on the higher Fed expectations which puts pressure on equity market valuations. For example, stock valuation (relative to bonds) has not become more attractive on the pullback due to higher bond yields. Equity valuation is data dependent regarding the path of inflation and interest rate levels.

Lower commodity prices could help ease inflation to a more moderate level. Supply and demand matter too, as well as wage levels. Following the trend of data may indicate that the worst is behind us. Data dependent economic policy takes time to digest and flow through an inflationary environment. The path forward will not be smooth or rapid making the case for a personalized financial plan imperative. Stay focused and plan accordingly.