Business spending on durable equipment did not start the third quarter on a strong note.
Core capital goods orders, which exclude aircraft and defense spending and are a better proxy for short-term business investment in new equipment, decline by 0.1% in July. Shipments of core capital goods fell even more, declining by 0.4% on the month.
The weaker-than-expected demand for durable goods showed the continuing impact of elevated interest rates, and a somewhat softer appetite for forward-looking investment because of uncertainties ahead of the election.
We do not expect the private non-residential investment component to be a key driver for gross domestic product growth in the third quarter.
Spending on aircraft and defense, however, will offset some of those weaknesses. New orders for transportation equipment, including aircraft, rose by 34.8% on the month, after dropping by a sharp 20.6% in June. That came from Boeing, which reported 72 new orders in July. Defense orders rose by 1.2% in July, the fourth monthly increase in a row.
We expect the weaknesses in private demand for new business spending to be a short-term problem. The Fed has signaled that its rate cut cycle will start in September, with the expectation that there will be a series of cuts to follow.
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In our base case, we think that the Federal Reserve is poised to bring its rate back to neutral, which is between 3% and 3.5%, by the end of next year. Such a scenario would be a significant tailwind for capital goods spending, which is one of the most rate-sensitive spending categories, for the next year and a half.
On top of that, we should be able to get a clearer picture of what federal policies will govern our economy later this year. With a lot of cash waiting to be deployed, we expect businesses to regain their confidence once those uncertainties are gone.
