Pre-Omicron Economy: Running Hot

The Commerce Department released a flurry of economic data before the Christmas holiday. Everything from consumer spending to home sales and investment were strong in November before the onset of the Omicron variant. It is important to note that much of the data coming out reflects the world before the onset of Omicron and its rapid spread. Financial markets have begun to react to the uncertainty surrounding the new variant, which is overtaking Delta in other countries and looks poised to do the same here.

The emotional reaction, or fear of contagion, has already triggered cancellations. Open Table reservations dropped to the lowest levels since last spring when we were emerging from the winter wave; hospitals are just beginning to get overwhelmed. Movie theater ticket revenues plummeted, while indoor theater and sporting events have been delayed or canceled. New York was on the cutting edge of that; New Yorkers know too well what it means when hospitals are overwhelmed. The strongest protection against hospitalization is natural immunity with a vaccine or boosters with current vaccines. Only about a third of the population has received the booster, although many public and private sector institutions are revising their guidance on vaccine mandates to include boosters.

The bulk of the economic consequences with regard to the winter wave are expected to show up in late December and January. The first quarter of 2022 is the most vulnerable to weakness; we have marked down our forecast to include a larger pullback and a subsequent rebound in growth in the first and second quarters. We had assumed something closer to last summer; that now appears optimistic, depending upon how the contagion affects the supply chain. Lumber mills in the South were left short-staffed for production lines as workers became ill or tragically died due to COVID. That added to the lumber shortages during the summer.

Data Dump
Price Surge Dampens Spending and Income Gains

The personal consumer expenditure (PCE) index, which the Federal Reserve targets for the inflation part of its mandate, jumped 0.6% in November and 5.7% compared to a year ago. That is the fastest pace since July 1982, after inflation started to come down in the wake of the twin recessions under former Fed Chairman Paul Volcker, who broke the back of inflation with double-digit interest rates and those two close recessions, one in 1980 and another in 1981-82.

The core PCE (excluding food and energy) rose 0.5% in November and was up 4.7% from a year ago. That was the hottest read we have seen since 1989. Much like the CPI, gains were more broad-based, which has raised red flags at the Federal Reserve. The consensus among members of the Fed is that variants are more disruptive to supply chains, including labor, than to demand and, therefore, more inflationary. Fed officials have left ample room to reassess if need be, before they start raising rates, which we expect to start in June.

Personal disposable incomes fell 0.2% after adjusting for the surge in inflation. That marks the fourth consecutive inflation adjusted drop in a row. The largest drop occurred in September when COVID-related expansions and supplements to unemployment insurance lapsed. The concern moving forward is both payroll growth and wage gains, especially in areas hardest hit by Omicron. Theaters and sporting arenas closed while restaurants have seen a sharp drop in in-door reservations as Omicron spreads. The slowdown in the week before the Christmas holiday was acute.