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The Global Markets Weekly – 11/2/18
Still “the Economy, Stupid”?
The midterm elections in the U.S. this week come amid significant tailwinds for the U.S. economy, with the jobless rate nearly the lowest on record, significantly firmer GDP growth than seen in quite some time, strong manufacturing performance, and robust corporate profit growth. The political catchphrase above will get a test next week, as Republican majorities face a tough test given the combination of normal losses for the President’s party in a midterm year, and an unpopular President. There is a high likelihood at least the House flips to Democratic control, with the math in the Senate still strongly favoring Republicans. Prediction markets and election modelers agree that split-Congress outcome is likeliest, but probabilities around that “most likely” outcome leaves plenty of scope for a surprise in both directions.
Forecasting “the market’s” response to the outcome rests on getting the outcome right, and the response to that outcome right. Both legs present unique challenges, but we think it’s important to remember that the major changes to tax and spending policy cannot be easily reversed.
A clear message from Friday’s jobs report is that those changes are playing a role in shifting both the demand and supply levers in the U.S. economy, creating a different set of outcomes than the slow-growth slog many expected just a few short years ago. More people are coming into the workforce, which on balance increases the potential growth rate of the economy. Beyond that, changes to the tax code also favor business investment that would help to lift productivity, the other key determinant of real economic growth.
To DE, the combination of strong demand and supply-side effects remains bullish for stocks and the economy, albeit with the prospect of higher interest rates helping to cause some shakeout over the near-term. DE continues to expect the unemployment rate to stay low or press lower ahead, while sustained growth in corporate earnings (slowing in 2019, solid) to support higher equity market prices over time, for major U.S. averages. We expect real GDP growth to hold at 3%+ on average through 2019, and possibly into 2020.
Reductions in tax rates coupled with increased federal government spending are key tailwinds. The impact of the tax cuts on the economy will be greater in 2019 than 2018, important to keep in mind as consensus and Fed projections call for slowdown in Q4 and 2019.
Coming Week’s Key Indicators and Events
|Release||DE / Consensus||Comment|
|U.S.||Oct ISM NM (Mo)
|-4.2 to 57.4 / -2.2
Hold / Hold
|Some settling in the Manufacturing Survey last week. DE sees one more hike in December, three in 2019. Statement little-changed this week, wait for the Minutes for more meat.|
|Euro||Light week save for some German factory updates and trade data.|
|U.K.||Q3 GDP (Fr)
Services/Composite PMI (Mo)
|0.6% / 0.6% q/q||BoE maintaining hawkish bias, firm signs in economy and sturdy inflation could drive further hawkish shift if earlier-than-expected Brexit resolution.|
|Japan||Light week, soft GDP the following week for Q3 hints 2017 likely high water mark for GDP growth rate.|