This week the Democrats took the first step toward forcing a large-scale stimulus through the Senate using reconciliation, which only requires a simple majority. But even though it required an all-night session to pass the budget motion that unlocks reconciliation, that was arguably the easy step. It will be harder to get all 50 Democratic Senators to support the full $1.9trn package, which is why we still think the final stimulus will be a more modest $1.0trn and will have the proposed minimum wage hikes omitted.
This week the Democrats took the first step toward forcing a large-scale stimulus through the Senate using reconciliation, which only requires a simple majority. But even though it required an all-night session to pass the budget motion that unlocks reconciliation, that was arguably the easy step. It will be harder to get all 50 Democratic Senators to support the full $1.9trn package, which is why we still think the final stimulus will be a more modest $1.0trn and will have the proposed minimum wage hikes omitted.
Congress takes first step to unlock reconciliation
With the centrist Republicans only willing to support a more modest fiscal package worth around $600bn, this week the Democrats passed a budget resolution after a mammoth session in the Senate, which sets the reconciliation process in motion. But there is still uncertainty whether all the Senate Democrats will support President Joe Biden’s full plan, with Joe Manchin already expressing doubts about the need to send $1,400 stimulus cheques to those that might not need the money and warning that he wouldn’t support a rise in the minimum wage to $15 per hour by 2025, roughly double what it is now.
Minimum wage hike would add to inflation
We will have more to say about the minimum wage in an upcoming Update. But what we can say now is that, while we think the negative impact on employment would be minor and the impact on real GDP would be broadly neutral, we suspect that the biggest impact could be the upward effect it will have on wage and price inflation. Goods prices are already subject to upward pressure from a combination of strong demand, lean inventories and the weaker dollar. With unit labour costs soaring and survey-based prices paid indicators at multi-year highs, 20% increases in the minimum wage for four years in a row would leave us even more convinced that inflation is going to surprise on the upside. (See Chart 1.)
Treasury scales back borrowing requirements
At the start of this week the Treasury announced that, despite the $900bn stimulus enacted in late-December, it will only be borrowing $275bn during the first quarter, a stunning $853bn less than the last projection it made back in November. It also expects to borrow only $95bn in the second quarter, although those quarterly funding requirements would change if Congress agrees on additional fiscal stimulus.
Chart : Unit Labour Costs & CPI Inflation |
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Source: CDC |
The problem the Treasury faces is that because pandemic-related expenditures have been lower than expected and revenues have held up better, its cash on hand at the Fed has swelled to more than $1.6trn. The Treasury’s new funding plan aims to reduce that cash on hand to $800bn by end-March and $500bn by end-June, which would leave it much closer to its pre-pandemic level. That means since it will be buying $80bn of Treasury securities per month, the Fed will absorb all the additional supply over the first half of this year. Furthermore, as the Treasury runs its cash on hand down, there will be a corresponding $1.1trn rise in the reserve balances held by commercial banks at the Fed. With reserve balances currently at $3.1trn, roughly double what they were pre-pandemic, the Treasury’s change in strategy will result in a very sizeable further increase in liquidity, which will only add to financial stability concerns.
The week ahead
The rebound in energy prices likely pushed CPI inflation higher in January. Otherwise, Fed Chair Jerome Powell will be speaking in NYC, but his semi-annual congressional testimony appears to have been delayed by the start next week of ex-President Donald Trump’s second impeachment trial.
Data Previews
Consumer Prices (Jan.) 08.30 Wed. 10th Feb.
Forecasts | Previous | Median | Capital Economics |
Consumer Prices | +0.4%(+1.4%) | +0.4%(+1.5%) | +0.4%(+1.5%) |
Core Consumer Prices | +0.1%(+1.6%) | +0.2%(+1.5%) | +0.2%(+1.6%) |
Inflation muted, but base effects will push it higher soon
CPI inflation will remain subdued for the next couple of months before jumping above 2% in the spring.
The 5.8% m/m rise in gasoline prices will add 0.2ppts to headline CPI in January, with the continued surge in gasoline futures pointing to another rise in February too. The recent jump in agricultural commodity prices poses an upside risk to food prices.
The muted 0.1% m/m rise in core prices in December was partly due to a 1.2% drop in used vehicle prices, but the latest auction price data point to a stabilisation. More generally, with demand now picking up again, low inventory levels are likely to put upward pressure on vehicle prices over the coming months. (See Chart 2.) Otherwise, the recent weakness of medical care prices may have further to run, but we wouldn’t be surprised to see shelter costs starting to pick up again. Overall, we expect a 0.2% m/m rise in core prices, with headline prices up by 0.4%, which would leave both the annual inflation rates little changed.
Chart 2: Auto Inventories & CPI New Vehicles |
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Source: Refinitiv |
Uni. of Michigan Consumer Confidence (Feb.) 10.00 Fri. 12th Feb.
Forecasts | Previous | Median | Capital Economics |
Headline index | 79.0 | 80.5 | 82.0 |
Confidence rebounding only gradually
We estimate that the University of Michigan consumer confidence index picked up in early February, but a sustained recovery will depend on the pandemic being defeated.
The past few months have seen big swings in confidence along partisan lines, as sentiment amongst Democrats has surged following their capture of the presidency and Congress, while the mood among Republicans soured considerably. But the net effect has been muted, with confidence continuing to trend gradually higher while remaining well below its pre-pandemic level. The latest drop-back in new virus cases, the accelerating vaccine rollout and promises of further fiscal aid have probably all given confidence a further lift. But with millions still out of work and daily new cases and deaths still very high, we expect a fairly modest rise to 82.0, from 79.0. That would leave the index consistent with muted consumption growth, but the relationship hasn’t been very close in recent years and both are likely to rebound sharply over the coming months as the vaccine rollout reaches critical mass. (See Chart 3.)
Chart 3: UoM Confidence & Real Consumption |
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Source: Refinitiv |
Economic Diary & Forecasts
Date | Release/Indicator/Event | Time EST (GMT-5) | Previous* | Median* | CE Forecasts* |
Mon 8th | No Significant Data Released | – | – | – | – |
Tue 9th | NFIB Small Business Optimism Index (Jan) | 06.00 | 95.9 | 96.5 | 96.0 |
JOLTS Job Openings Rate (Dec) | 10.00 | 4.4% | – | – | |
Wed 10th | Consumer Prices (Jan) | 08.30 | +0.4%(+1.4%) | +0.4%(+1.5%) | +0.4%(+1.5%) |
Core Consumer Prices (Jan) | 08.30 | +0.1%(+1.6%) | +0.2%(+1.5%) | +0.2%(+1.6%) | |
Monthly Budget Statement (Jan) | 14.00 | -$32.6bn | – | – | |
Fed’s Powell Speaks on Economic Outlook | 14.00 | – | |||
Thu 11th | Initial Jobless Claims (w/e 6th Feb) | 08.30 | 779,000 | – | – |
Fri 12th | Uni. Of Mich. Consumer Confidence (Feb, Prov.) | 10.00 | 79.0 | 80.5 | 82.0 |
Selected future data releases and events | |||||
17th Feb | Retail Sales (Jan) | 08.30 | |||
Industrial Production (Jan) | 09.15 | ||||
Fed FOMC Minutes (27th Jan) | 14.00 | ||||
18th Feb | Housing Starts (Jan) | 08.30 | |||
17th Mar | Fed Policy Announcement | 14.00 | |||
*m/m(y/y) unless otherwise stated Sources: Bloomberg, Capital Economics | |||||
Main Economic & Market Forecasts | |||||||||
%q/q ann. (%y/y) unless stated | Q4 2020 | Q1 2021 | Q2 2021 | Q3 2021 | Q4 2021 | Q1 2022 | 2020 | 2021 | 2022 |
GDP | +4.0 | +6.0 | +11.0 | +4.2 | +4.2 | +3.4 | (-3.5) | (+6.5) | (+4.0) |
CPI Inflation | (+1.2) | (+1.7) | (+3.3) | (+2.5) | (+2.4) | (+2.4) | (+1.3) | (+2.5) | (+2.3) |
Core CPI Inflation | (+1.6) | (+1.8) | (+2.8) | (+2.3) | (+2.2) | (+2.2) | (+1.7) | (+2.3) | (+2.2) |
Unemp. Rate (%), Period Ave. | 6.8 | 6.4 | 5.1 | 4.8 | 4.5 | 4.4 | 8.1 | 5.2 | 4.4 |
Fed Funds Rate, End Period (%) | 0.00-0.25 | 0.00-0.25 | 0.00-0.25 | 0.00-0.25 | 0.00-0.25 | 0.00-0.25 | 0.00-0.25 | 0.00-0.25 | 0.00-0.25 |
10y Treas. Yld., End Period (%) | 0.93 | 1.00 | 1.00 | 1.00 | 1.00 | 1.00 | 0.93 | 1.00 | 1.00 |
S&P 500, End Period | 3756 | 3900 | 4000 | 4100 | 4200 | 4300 | 3756 | 4200 | 4500 |
$/€, End Period | 1.22 | 1.22 | 1.23 | 1.24 | 1.25 | 1.26 | 1.22 | 1.25 | 1.30 |
¥/$, End Period | 103 | 103 | 102 | 101 | 100 | 99 | 103 | 100 | 95 |
Sources: Refinitiv, Capital Economics | |||||||||
Paul Ashworth, Chief US Economist, paul.ashworth@capitaleconomics.com