Economic Update 3-20

Top 5 Takeaways This Week:

• Producer prices came in hotter than expected, with PPI rising 0.7% in February.

• Energy costs are contributing to inflation pressures, largely tied to geopolitical tensions.

• Manufacturing data showed modest improvement, with new orders turning slightly positive.

• The Federal Reserve held rates steady, citing uncertainty and inflation concerns.

• Markets remain volatile due to geopolitical risks, though we continue to invest cautiously.

On Wednesday of this week, we had the release of the Producer Price Index (PPI) for February. The release showed an increase for last month of 0.7%. That was higher than the forecasted rise of only 0.3% and also above the January level of 0.5%. In fact, this was the highest monthly increase since July of last year. The gain in prices was primarily due to a rise in the price of goods, led by fresh and dry vegetables. Not surprisingly, we also saw increases in diesel fuel, gasoline, and jet fuel due to the war in Iran.

The Core PPI Index for February rose by 0.5%. While this was also above the forecasted level of 0.3%, it was below the January level of 0.8%. Producer prices climbed 3.4% on a year-over-year basis. This was the largest increase in a year and well above the forecasted rate of 2.9%. Given the recent rise in oil prices, primarily due to factors relating to the war in Iran, we are seeing inflation forecasts rise somewhat by many economic firms. While not surprising, we view the rise in oil and energy costs as being temporary. The recent military actions impacting Iran’s capabilities should allow oil and energy costs to revert back to levels seen before the conflict.

On a more positive note, new orders for manufactured goods in the U.S. rose by 0.1% during January of this year. This contrasted favorably with a decline of 0.4% seen during December of last year. The rise in orders was generally a result of non-durable goods gaining by 0.3% for the month. Surprisingly, orders for defense aircraft fell almost 24% during January. Given the recent conflict in the Middle East, I would expect defense spending to rise substantially. This index is a reliable indicator of economic strength going forward. I expect we will see economic growth in the U.S. continue upward and remain strong.

Another important development this week was the conclusion of the Federal Reserve meeting on Wednesday. Following the two-day meeting, Chairman Powell announced the Fed was keeping the federal funds rate unchanged. This was a much-anticipated outcome given the uncertainties surrounding the war with Iran and the elevated oil and energy costs, which are contributing to somewhat higher inflation. The last interest rate cut by the Fed was in December, and we were expecting at least two additional cuts this year. However, the various aspects of the war with Iran have probably put these additional cuts on hold until we have a better understanding of how the situation evolves and what agreements can be achieved going forward. Chairman Powell mentioned both the war and inflation as two key elements in keeping rates unchanged.

Overall, we continue to view the domestic economy as remaining strong and in a good place. The one area in which we have some concerns is employment. Coming out of a difficult winter period has kept job growth at relatively modest levels across many sectors.  We have also seen employment in the government sector decline in some months. This had been anticipated due to greater cost controls being applied to reduce debt levels. However, given that this is the first day of Spring and weather forecasts are improving significantly, we would expect employment numbers to begin to improve over the upcoming months.

The financial markets have not responded well to the conflict with Iran. Equity markets are down since the war began, and interest rates are modestly higher.  We have done some buying in a controlled manner but have kept cash available to put to work when we get closer to an expected conclusion of the conflict, most likely with an agreement that is favorable to the U.S., Israel, and other Middle East countries going forward. The next few weeks will likely alter the direction of world stability in a major way.

Have a good weekend and enjoy the spring weather.