Economic data on housing, manufacturing and jobs released on Thursday pointed to softer-than-expected economic activity in the second quarter.
Most notably was April’s data on housing starts and permits, which not only came in below estimates, but prior readings were also revised down. Rising mortgage rates were to blame for the disappointment in overall construction activities.
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Housing starts increased by 5.7% to a 1.36 million annualized rate, lower than the 7.6% forecasted, and much lower than the 1.7 million annualized rate that we think is needed to narrow the gap between demand and supply.
Permits, a proxy for future housing starts, dropped by 3% following a downward revision to a 5% drop in the prior month, which was certainly not encouraging news.
That data signaled a tepid quarter for the residential component of gross domestic product, which we think won’t likely be a driver for growth in the second quarter.
In a separate report from the Federal Reserve, industrial production was unchanged in April while March’s data was also revised down to a 0.1% gain from 0.4%. Manufacturing and mining dropped by 0.3% and 0.6%, respectively, while utilities rose by 2.8%.
The plunge in motor vehicle production, down by 2% on the month, was the main driver of the stagnant production growth.
Overall, total industrial production has been on a downtrend since 2022 mainly because of elevated interest rates.
The one silver lining came from the solid growth in production of computers, electronics and information processing goods for manufacturing, a result of the industrial policies promoting advanced manufacturing.
At this point, though, growth in those sectors remains too small to lift the entire domestic production level out of the downtrend.
Finally, initial jobless claims dropped last week to 222,000, slightly higher than expected. That was the second week in a row that new claims stayed above the pre-pandemic average in 2019 of 218,000.
If the claims data has a similar reading next week, we will most likely see more softening in job gains in May as occurred in April.
The takeaway
It is hard to square the soft data on Thursday with the Atlanta Fed’s nowcast of second quarter gross domestic product growth at 3.8%. We think GDP growth will most likely settle between 2% to 2.5% given the signals so far.
The risk, however, revolve around the swings in inventory and trade that are two important reasons why the Atlanta Fed is much more optimistic about the second quarter.
So even if growth is above estimates in the second quarter because of inventory and trade, growth in the core components should not be too strong for the Fed to maintain its hawkish stance.
Our base case is pointing to a scenario where both growth and inflation will in the 2% range while the labor market cools further. That should be sufficient for the Fed to lower its policy rate as early as September.
