New economic data over the past month leave our picture of the economic situation little changed. The policy outlook, on the other hand, seems to be somewhat improved although still highly uncertain. In this setting our revised forecast is slightly more optimistic than a month ago.
NIPA Data
The second release of data for first quarter GDP had only small and offsetting changes from last month’s advance estimates. Growth for the quarter went up a tick from -0.3% to -0.2%. The largest positive change was $23 billion of additional inventory accumulation, augmented by increases in government spending and business purchases of equipment. On the negative side were decreased estimates of the changes in consumption, the trade balance, and construction of business structures and housing. For construction the revisions moved both series from expansion to contraction.
Other Recent Data
The bifurcation between hard and soft data, with the former mostly positive and the latter increasingly negative, underwent a subtle change this month. Hard data showed some signs of weakness, while soft data seemed to stabilize (albeit at quite reduced levels).
On the hard data side, the most significant negative signs were in the employment data for May. On the establishment side the headline job growth number – at 139 thousand – was okay. But that was undercut by revisions to March and April that totaled -95 thousand. In addition, over 90% of the May gain was accounted for by health care and leisure. Goods production and government both lost jobs.
The household data were even worse. The labor force decreased by 635 thousand. This lowered the participation rate by two ticks to 62.4%, reversing gains in March and April. The unemployment rate remained at 4.2%, but this was only due to rounding error. At two digits the rate went up to 4.24% from 4.19% in April. Despite the lowered labor force, the number of unemployed workers rose in May.
Other hard data (all for April) also raise concerns. Consumer spending rose just 0.1% (monthly rate). Disposable income did show a nice increase (0.8%), but well over half came from an increase in Social Security. Industrial production was flat. New orders for manufactured goods reversed a large rise in March with an equally large drop – both aircraft related. Nonresidential construction dropped, its fourth straight month of weakness. Housing starts were about flat with March at a level toward the bottom of its 1.3 – 1.5 million range of the past two years.
Turning to soft data: Both ISM indexes declined in May with the index for services falling barely into contraction territory. More positive, small business sentiment rose, while consumer sentiment stabilized in May (after four months of significant decreases) and then jumped in preliminary June data. Also encouraging, first quarter corporate profit reports were generally positive, and the stock market rose strongly in May and early June.
Overall, an economy with objective indicators showing some signs of weakening, but with subjective sentiment perhaps having hit bottom.
Baseline Forecast
[Note: As this writeup was being finalized, news of the Israeli attacks on Iran was breaking. The economic impacts of this (likely negative, at least in the short run) are not included in this report or forecast.]
Beyond the data reviewed above there is one further development of importance for the economic outlook. That is a recalibration downward of our tariff stance toward China. On the question of whether this is part of a shrewd bargaining strategy, or a return to economic sanity, or an instance of TACO we have no insight. But whichever, it is a positive development for the economy.
As can be seen in the chart, our revised forecast is more optimistic for the second half of this year, with growth that is about 0.5% higher than in our May outlook. This improvement comes from reduced weakness in household spending on goods and business spending on equipment. The trade deficit is also improved (that is, smaller). These (modestly) positive changes are partly offset by lower growth in inventories.
Likewise, the labor market exhibits a slightly reduced deterioration. We now expect an unemployment rate rise that peaks in the first half of next year at just below 5%, as opposed to slightly above that rate. Over the year through 2026Q2 payrolls now show barely positive growth with a monthly average of plus 6 thousand jobs. Last month we had that average at minus 31 thousand. This amounts to an increase of nearly 450 thousand jobs.
On the inflation front, our revised outlook is also marginally more optimistic. We now have 12-month inflation for core personal consumption expenditures peaking at 3.8% early next year. This is lower and somewhat later than our May peak of 4.0%. For comparison the rate for this April was 2.5%.
Discussion
In his first inaugural address at the depth of the Great Depression Franklin D. Roosevelt told Americans that “the only thing we have to fear is fear itself.” That was not literally true – there were lots of scary things going on in the 1930s. But FDR believed that the most dangerous thing facing the nation was not the economic crisis itself, but the paralyzing fear and despair it had created. Our current economic predicament does not rival that in the 1933. Not even close. But the same sentiment does apply, with “fear” replaced by “uncertainty.”
The good news of some movement of accommodation with China might be progress in this regard. Or it might be simply the latest move in a continuing up and down and up again dynamic that has been the recent norm. Our revised forecast is based more on the former possibility. But with fingers crossed.