Business confidence continues to pull back as 2018 ends and expectations of slower growth take hold as the cycle matures. The latest reading saw the lowest level in almost 24 months, last seen since the period leading up to the 2016 U.S. Presidential Election. The buoyant optimism around corporate tax cuts and expected pull back in regulations that defined the pick-up in business confidence earlier in the year has receded. The continued trade war rhetoric and rising geopolitical risks, combined with domestic labor shortages and increasing interest rates, are dampening future growth expectations. However, most measures of economic growth remain strong, which should result in balanced business conditions for the immediate future.
*WTI Crude Oil Spot Price. Data points through end of November 2018. Change represents month-over-month change.
Despite a multitude of rising risk factors creating uncertainty, the ISM Manufacturing and Nonmanufacturing indices have yet to witness any discernable impact. The Manufacturing Index has declined for two consecutive months after hitting a 14-year high in August but remains elevated and well above 50 as fundamentals of the domestic economy remain strong and supportive. Growth in the services sector of the economy has also been flawless as the index posted only a modest decline from its 13-year high in September 2018 as expansion in professional services remains robust. Most respondents remain upbeat about near-term growth, although the risks of further tariffs and labor shortage concerns will remain on the minds of many.
The ongoing tit-for-tat trade tactics employed between the U.S. and China since early 2018 seem to have only had a miniscule impact on domestic trade. U.S. exports declined by 1.7% in 3Q2018 from the previous quarter, although are still up considerably from the same time last year. Appetite for imports by consumers seems to be unstoppable as import volumes to the U.S. have not witnessed a decline and are up north of 10% year-over-year. The national trade deficit now stands near its widest point since July 2008. The St. Louis Fed’s Trade Weighted U.S. Dollar Index continued to rise, growing by 3.5% from 2Q2018 as trade continues to hum along despite tariffs. The rise in the value of the U.S. dollar is boosting consumer buying power for foreign goods which should quell any near-term uncertainty. But discussions between the U.S. and China on trade relations should be monitored closely.
Business investment for machinery & equipment and private sector businesses continued to rise based on the latest 3Q2018 readings. Manufacturing investment posted solid gains, but is growing slower compared to the private sector as trade policies are beginning to take effect. Investment in machinery and equipment grew 5.8% YoY, while private business investment grew by 6.4% over the same time. Although the $1.5 trillion tax break for corporations was expected to be the impetus to accelerate domestic business investment growth, the data has failed to show significant lasting improvements with growth levels in line with those seen in 2017. It is quite possible, given the deceleration in business confidence, that businesses remain uncertain and wish to remain on the sidelines until trade policy guidance becomes more concrete..
The endurance of the domestic economy has pushed after-tax corporate profit levels to new cycle highs, reaching nearly $ 1.8T in 3Q2018. As a percent of GDP, after-tax profits remained at 9.6%, levels in line from the previous quarter and the trailing twelve months, and still within the 8-10% range seen throughout this cycle. Although the reduced corporate tax rate introduced late last year has played its part in profit growth, growth rates have only marginally improved. Despite the solid increases which should have equity markets cheering with glee, recent volatility has investors taking a long hard look at how much room is there left to grow past the next twelve months.
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