Small Business Confidence Falters

Volatility in the stock market combined with the political bias in the survey caused the NFIB small business optimism index to fall from 107.4 to 104.8. You can see this in the chart below.

This report missed estimates for 107 and the low end of the consensus range which was 105.5. The stock market’s decline hurt this index, unlike consumer confidence which was strong.

For the first time in 33 months and the 4th time in this expansion, none of the 10 components in the NFIB survey increased. The reading is still 4.5 points above the average from 1973 to 2007. But it’s weak in the rate of change terms. To be clear, the political weakness was catalyzed by the Democrats winning the House of Representatives in the November election.

Small Business - Economic Confidence Wains

Let’s look at the individual components of the index.

The best parts were the 2 unchanged components which were the expectation for credit conditions and plans to increase employment. Small businesses still need to hire workers but are challenged by the skill gap which is the difference between the qualifications workers need to complete a job and what they have.

There was broad-based weakness in the rest of the categories. The one that stands out is the 11% decline in the expectations for the economy to improve. This is where stock market volatility and the Democrats winning the election affected the index.

Small Business - Political Effects On The Index

The NFIB stated that the index was basically unchanged after the election results were known.

However, my counterpoint is everyone knew the Democrats would win a few days before the election. You might counter that people knew the Democrats would win the House for a few months.

However, small business owners aren’t professional poll analysts. Anything can happen a few months before elections.

As you can see from the chart below, the percentage of firms stating taxes are their biggest problem has increased recently. The recent bounce could be politically motivated. However, the bounce from the lowest level since 1982 early in the year suggests the tax bill didn’t live up to expectations for some small businesses.

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Small Business - If You Assume The Results Are Valid

If you assume the NFIB index wasn’t affected by the election and politics, then its decline is a great leading indicator for the economy.

It has followed the recent increase in jobless claims and the decline in the stock market. It’s dramatically different from the highly positive November ISM PMI readings.

The December ISM report will tell us if the correlation seen in the chart on the left will continue. The chart on the right shows the small business compensation plans survey is highly correlated with the wages and salaries portion of the ECI.

If compensation growth continues, the Fed could keep raising rates in 2019 which will invert the yield curve.

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Small Business - Redbook Same Store Sales Growth Falls

Redbook year over year same-store sales growth has fallen 2 weeks in a row. Growth peaked at 7.9% in the week of Black Friday and fell to 7% in the first week of December. Now it has fallen to 6.6% growth in the week of December 8th.

To be clear, this is still a great report, but it could signal a change. Month to date sales versus November are down 0.5% which matches the weakest reading since June 23rd. The full month gain fell from 6.8% to 6.6%. If the growth rate falls below 5% in the next few weeks, I will start to be concerned.

As for now, we can look forward to the solid November retail sales report which will come out this Friday.

Small Business - First Inflation Report Of November

The November PPI report is the first inflation report which included the crash in oil prices. Headline weakness shows. Month over month headline PPI was up 0.1% which was down from 0.6% growth, but beat estimates for no growth. Year over year inflation fell from 2.9% to 2.5%.

Core inflation, which excludes food and energy, fell from 0.5% month over month growth to 0.3% growth. This beat estimates for 0.1% growth. It increased from 2.6% to 2.7% on a yearly basis. Core inflation which also excludes trade services was up 0.3% which beat last month’s reading and the consensus for 0.2%. It was 2.8% yearly which was the same as October.

As you can see, outside of oil prices, inflation was strong.

Food prices were up 1.3% monthly, but only up 0.4% yearly. Services and trade services prices were up 0.3% monthly. Trade services were up 2.2% yearly.

Energy prices were down 5% monthly, but up 2.9% yearly. Yearly growth will fall sharply if oil prices are stable in the next few months. Wholesale gas prices were down 14% monthly and 1.2% yearly.

In summary, this report shouldn’t change monetary policy because core inflation was strong. The Fed doesn’t like to react to oil prices because they are volatile.

Small Business - Wage Growth Strongest At The Low End

Those who only have a high school diploma have an unemployment rate of 3.5% which is the lowest since 2000. This explains the chart below which shows in October, wage growth was the strongest among lower-wage workers. Lower wage workers’ wage growth was above 4%.

This social justice element supports the dovish argument.

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These doves claim real wage growth for the bottom has been weak in the past few decades. Since headline inflation is weakening, why not pause rate hikes to help lower-wage workers for a few quarters?

We’re at the part of the cycle which is best for low wage workers. There is a temptation to extend it.

Multiple rate hikes in 2019 will probably end this wage growth in the next 1-2 years and increase layoffs. It’s a tough decision for the Fed to hike rates.

Obviously, the volatility in the stock market and the flattening of the yield curve are also pressuring the Fed to alter its guidance in the dovish direction. I expect the Fed to guide for 2 hikes in 2019.