A Fourth Dose, Slower Chinese Growth, the Fed in a Pickle

According to a study out of Israel’s Sheba Medical Center, Omicron was detected in many who received a fourth dose of the Covid-19 vaccine, although?“a bit less than in the control group, but still a lot of infections.”?According to the report,?the?findings suggest,?“The vaccine is excellent against the Alpha and Delta [variants], for Omicron it's not good enough."?Thus, researchers have concluded a fourth shot should be given to those at higher risk.

While the trial was many times smaller than traditional studies (just 154 medical staff were given the extra booster in December), it is reportedly the only known study of the effects of a fourth dose of the Covid-19 vaccine. It’s important to note, the findings are also preliminary and not yet published.

The push for additional booster shots is also preliminary here at home as according to recommendations from the CDC, those with a weakened immune system are eligible for a fourth shot to keep them protected.

Additionally, however, some states are rewriting the definition of fully vaccinated. Hawaii, for example, announced that travelers to the state must have received a Covid-19 vaccine booster if they want to skip a five-day quarantine. According to Hawaii Governor David Ige, the adjustment in protocol is to keep people safe and further stem the spread of the virus. The new protocol will go into effect January 24.?

In international news, China’s GDP reportedly slowed to a 4% pace in the fourth quarter, from 4.9% Y/Y growth in the Q3. According to reports, the decline in activity is the result of a growing property market crisis and new coronavirus outbreaks – or the zero-Covid policy in response to cases of coronavirus.

Following the report, the People's Bank of China (PBOC) cut key interest rates for the first time since the peak of the pandemic in 2020. Specifically, the PBOC lowered the interest rate on 700 billion yuan ($110.19B) worth of one-year medium-term lending facility (MLF) loans to some financial institutions by 10bps to 2.85% from 2.95% in previous operations. The central bank also lowered the borrowing costs of seven-day reverse repurchase agreements by the same margin to 2.10% from 2.20%.

What does this mean for the U.S. and more broadly the global recovery? First of all, the decision to cut rates by the PBOC is contrary to the Fed’s presumed pathway to higher rates this year. Although, this dichotomy simply represents the varying central bank policy pathways that are expected in 2022. According to?Bloomberg, 16 global central banks are expected to raise rates this year including the Bank of Canada and the Bank of England, while 5 are expected to hold steady including the European Central Bank and the Bank of Japan, and two are expected to cut (including the PBOC).

The second takeaway is the broader effect of developed market policy on the recovery. When we ask the question: When will supply chain issues be addressed or when will dislocations dissipate? Much of the answer will depend on the global policy response to the latest and subsequent variants. With much of the developing world, however, reinstating significant safety protocols, like China’s zero-Covid policy, attempts to fully restore structural fluidity to the global exchange of goods and services will likely be several years out.

The equity market, meanwhile, appears to be bracing for materially slower growth here at home against the backdrop of a more aggressive Fed committed to reining in inflation – and quickly.

Equities have been dragged down markedly with the Dow down 1.2% in the first two weeks of the year. This morning, equities are down 0.8% with the Dow trading at 35,499 as of 9:18 a.m. ET.

Meanwhile, rates continue to push higher with the 10-year rising 35bps from before the Fed’s December FOMC meeting to 1.78% at Friday’s close, the highest level in nearly two years.

This morning, the 10-year is up 3bps, trading at 1.82% as of 9:18 a.m. ET.

The question remains, however, has the backup in rates been overdone? The market is pricing in three rate hikes with the possibility of four, but can the Fed hike 100bps without undermining financial market momentum? Or can the Fed hike three or four times without derailing the economic recovery which appears to be poised to return to pre-pandemic levels of activity circa a minimal 2% growth rate??Is the Fed willing to tighten the economy into recession?

Additionally, the Fed appears to be facing a difficult scenario of supply-side inflation, thus will hiking rates address cost-push price pressures with much of the developed world retuning to stringent safety measures? Or with the consumer losing momentum already as shown by a dismal December retail sales report, does the Fed need to aggressively tighten if demand-side price pressures are poised to dissipate on their own??

At this point, there remain more questions than answers, leaving the Fed in quite the pickle, not to mention sparking fruitful debate among policy members as to the appropriate pathway for policy. At present, two Committee members anticipate four rate hikes this year, although five members anticipate only two, or at least they did as of December. More recent guidance suggests at least some additional policy members may be adjusting to a more hawkish lean. According to Federal Reserve Chairman Jerome Powell, the Committee is willing to do?“more”?if needed. But how much more is?“more?”

On Friday, retail sales dropped 1.9% in December, more than the 0.1% decline expected and the weakest monthly pace since February’s 2.9% drop. November sales, meanwhile, were revised down a tenth of a percentage point to a 0.2% increase. Year-over-year, retail sales rose 16.9% in December, a two-month low.

Car sales fell 0.4% in December, following a 0.2% gain the month prior, while gasoline stations sales declined 0.7% following a 2.2% increase the month prior. Excluding autos, retail sales fell 2.3% in December and gained 18.8% over the past 12 months. Excluding autos?and?gasoline, retail sales fell 2.5% and rose 16.5% year-over-year.

In the details, building materials sales increased 0.9%, health and personal care sales rose 0.5%, and miscellaneous sales jumped 1.8% at the end of 2021, a three-month high. On the weaker side, non-store retailer sales plunged 8.7%, furniture sales dropped 5.5%, and general merchandise sales declined 1.5%, due to a 7.0% decline in department store sales. Also, sporting goods sales fell 4.3%, eating and drinking sales declined 0.8%, clothing sales decreased 3.1%, and food and beverage sales fell 0.5% in December, a five-month low.

Bottom Line:?Consumer activity slowed markedly at year-end. While consumers are still spending, at least in some areas, they’re taking home less with inflation complicating the picture. With prices on the rise, many consumers adopted a buy-now mentality, meaning we better buy what we need today because it will cost more tomorrow, if it’s available at all, pulling forward historically or traditionally end-of-the-year spending. Meanwhile, for others, accumulated savings during the pandemic either from government programs or an adjustment to spending habits have dwindled greatly. Furthermore while wages are up 4.7%, against a backdrop of 7% inflation, many families are beginning to feel the pinch of rising prices at the pump and grocery stores.

Going forward, that’s not to say the consumer is likely to fall off a cliff in 2022. In fact, we do expect consumers to remain on still solid, positive footing throughout the year, but at less than half the pace recorded at the start of last year. Keep in mind, one silver lining to a reduced level of spending is that as robust demand fades coupled with an eventual smoothing of international supply chain disruptions in the aftermath of the effects of the latest Covid strain, inflation loses or will lose upside momentum. For the time being, however, elevated costs will be a painful drag on the consumer.

Also on Friday, import prices unexpectedly declined 0.2% in December following a 0.7% gain the month prior, and the weakest pace in four months. According to?Bloomberg, import prices were expected to rise 0.2% at the end of the year. Over the past 12 months, import prices rose 10.4%, the weakest pace since September.

Additionally, industrial production unexpectedly fell 0.1% in December following a 0.7% gain the month prior. According to?Bloomberg, industrial production was expected to rise 0.2% at the end of the year. Capacity utilization, meanwhile, also unexpectedly fell from 76.6% to 76.5% at the end of 2021, a two-month low.

Business inventories increased 1.3% in November, as expected, and following a similar pace in October.

Finally on Friday, the University of Michigan Consumer Sentiment Index declined from 70.6 to a reading of 68.8 in January, a two-month low. In the details, consumer expectations fell from 68.3 to 65.9, and consumers’ assessment of current conditions declined one point to 73.2 at the start of the year.

Yesterday, the economic calendar was empty as markets were closed in observance of Martin Luther King Day.

This morning, the Empire Manufacturing Index plummeted from 31.9 to -0.7 in January, the lowest reading since May 2020. According to?Bloomberg, the index was expected to fall to 25.5 at the start of the year. In the details, new orders fell from 27.1 to -5.0, unfilled orders declined from 19.0 to 12.1, and shipments contracted from 27.1 to 1.0 in January. Also, the number of employees declined from 21.4 to 16.1, and the average workweek fell from 12.1 to 10.3 at the start of the year. Additionally, the six-month outlook index fell from 36.4 to 35.1, an eleven-month low.

Also this morning, the NAHB Housing Market Index unexpectedly declined one point to a reading of 83 in January. According to?Bloomberg, the index was expected to remain at a reading of 84 for the second consecutive month.

Tomorrow, housing starts are expected to decline 1.7% and building permits are expected to fall 0.8% in December.

Later this week, on Thursday, initial jobless claims are expected to fall 5k to 225k in the week ending January 15, and existing home sales are expected to decline 0.5% to a 6.43m unit pace in December.

Finally on Friday, the Leading Index is expected to rise 0.8% in December following a 1.1% gain the month prior.

-Lindsey Piegza, Ph.D., Chief Economist