U.S. economy remains resilient as services sector expands

On the latest edition of Market Week in Review, Chief Investment Strategist Erik Ristuben and Equity Manager Research Analyst Michelle Batjargal discussed how the latest U.S. economic data could impact the future path of interest rates. They also chatted about weakening economic growth in the eurozone and China’s economic slowdown.

U.S. services PMI, August jobs report point to ongoing strength in economy

Batjargal and Ristuben kicked off the segment by reviewing the latest economic reports from the U.S. Ristuben noted that the U.S. nonfarm payrolls report for August, which he characterised as the king of economic data, showed that the labour market added 187,000 jobs last month. That number was slightly better than expected, he said, demonstrating that the U.S. economy is still doing well. “The August jobs report is clear evidence of the resilience of the U.S. economy,” Ristuben remarked.

Additional evidence was also seen in the Institute for Supply Management (ISM)’s services PMI (purchasing managers’ index) from August, Ristuben said. The PMI reading rose to a level of 54.3, marking the eighth straight month of expansion for the services sector, he noted. A reading above 50 indicates expansionary conditions, and a reading below 50 indicates contractionary conditions, Ristuben said. “Approximately 77% of the U.S. economy is services-based, so when the services sector is doing well, the overall economy usually is too,” he stated.

The better than anticipated economic reports likely helped fuel a decline in markets the week of Sept. 4, Ristuben said, noting that the benchmark S&P 500 Index was off 1.4% as of market close on Sept. 7. “This was a good news is bad news situation – where what’s good for Main Street isn’t good for Wall Street,” he said, explaining that a more robust than expected economy might make the U.S. Federal Reserve (Fed) hold interest rates at high levels for a longer period of time.

Markets are still anticipating that the Fed will keep rates unchanged at its Sept. 19-20 meeting, but see the odds of a November rate increase as closer to 50-50, Ristuben said. This means that U.S. economic data released between now and then will be carefully scrutinised for clues as to what the Fed might do, he explained.

“Multiple Fed officials have talked a lot recently about proceeding carefully when weighing future rate increases, given that the central bank has already raised rates by 5.25% since March of 2022,” Ristuben said. He explained that because monetary policy works with a lag, it typically takes 18 months for the full effects of a rate hike to be felt by the economy.

“This means that the U.S. economy has probably only experienced the full impact of the first 25-basis-point (bps) rate hike delivered in March 2022. In other words, there’s still 500 bps of rate hikes that have yet to fully impact the U.S. economy. This leads me to believe that the Fed might be thinking some of these impacts will show up a little more noticeably in the data that’s released between now and November,” Ristuben stated.

Eurozone economy slows while retail sales disappoint

Turning to Europe, Ristuben said that second-quarter GDP (gross domestic product) growth in the region was recently revised downward by Eurostat. “Previously, the growth rate for the eurozone during the April to June period was estimated at 0.3%, but the latest estimate lowered this number to 0.1%,” he explained.

Recent eurozone retail sales numbers also disappointed, he said, edging downward 0.2% in July from a month earlier. Meanwhile, the composite PMI for the eurozone dipped further into contraction territory in August, declining to a reading of 46.7, Ristuben noted.

“At the end of the day, the European economy isn’t doing quite as well as the U.S., although it’s not doing horribly,” he concluded.

China’s exports fall again

Batjargal and Ristuben wrapped up their conversation with a look at the struggles of China’s economy. Ristuben noted that newly released data showed that for the fourth straight month, Chinese exports dropped, falling 8.8% in August on a year-over-year basis. He said that this decline represents another challenge for China, which is also grappling with sluggish consumer spending and a struggling real-estate sector.

“In my opinion, all of these issues together are putting more and more pressure on the Chinese government – and President Xi Jinping in particular – to respond with larger stimulus measures,” Ristuben stated. He explained that so far in 2023, government stimulus has been small in size and generally reflective of a piecemeal approach.

Ristuben said that amid recent projections by Bloomberg that the Chinese economy may not surpass the U.S. economy in terms of size until the mid-2040s, China today finds itself in an interesting situation where it has many reasons to stimulate its economy – in both the short- and long-term. “Ultimately, we’ll have to see whether more stimulus measures are unveiled at some point, “ he concluded, noting that the issue is one constantly being debated by markets.

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