​The U.S. economy gained strength in the second quarter, growing at an annualized rate of 2.6% from the previous quarter, far better than the 1.2% pace in the first quarter and in line with the consensus forecast. Compared to a year ago, the economy grew 2.1%, up from the first quarter’s 2.0% pace.

Consumer spending rebounded from a fairly weak first quarter, rising 2.8% from the previous quarter following the first quarter’s tepid 1.9% tally. Spending on goods rose 4.7%, as durable goods spending increased 6.3% and non-durable goods spending rose 3.8%, while spending on services rose just 1.9%. Gross private domestic investment rose 2.0%, but that was coming off a decline in the first quarter. Nonresidential investment rose 5.2%, driven by a strong 8.2% increase in equipment. Spending on structures rose 4.9% while spending on intellectual property inched up by 1.4%. Following a strong first quarter, residential investment fell 6.8%, the biggest decline since the third quarter of 2010. Private inventories actually declined in the second quarter, the first time that has happened since the third quarter of 2011 and certainly a big reason why overall growth was not stronger. Exports rose 4.1% while imports rose just 2.1%, helping to narrow the trade deficit slightly. Government spending rose 0.7%, but it was all at the federal level as national defense spending rose 5.2% while non-defense spending fell 1.9%. Meanwhile, state and local government spending declined 0.2%.

​The contributions to growth were as follows: consumer spending 1.93 percentage points (pp), gross private domestic investment  0.34 percentage points (pp), which was weighed down by a decline in inventories, net exports 0.18 pp and government spending 0.12 pp.

​Today’s report is welcome news following two quarters of fairly weak economic growth, and will certainly be some relief for the Trump administration that appears to be in complete political chaos at the moment. Unfortunately, the vast majority of growth was from consumer spending, while all other parts of the economy contributed very little to growth. It was also disappointing to see one of the economy’s major drivers since the recession, residential investment, take a step back even though mortgage rates have been trending down recently. Should the Federal Reserve either raise the Fed Funds rate or start to trim its balance sheet, mortgage rates could rise and might put a big dent in housing and the economy. Thus, the Fed best tread carefully.

​New home sales rose in June to 610K units on a seasonally adjusted annualized basis, up from 605K units in May, which was revised down from 610K units, and in line with the consensus forecast of 611K units. Sales were up 0.8% from May and 9.3% from a year ago.

Sales rose 12.5% from the prior month in the West and 10.0% in the Midwest. However, sales were flat in the Northeast and fell 6.1% in the South. Compared to a year ago, sales were up 46.4% in the Northeast, 34.3% in the West and 0.6% in the South, but were down a steep 12.0% in the Midwest.

​In the second quarter, the national median price was up 1.8% from the prior year. Prices were up 7.6% in the Midwest and 2.4% in the West, but were down 1.6% in the South and 6.6% in the Northeast. The Census Bureau does not report regional median prices by month, only quarterly and annually. In June, the national median price fell to $310,800, a 4.2% decline from the prior month, following a notable increase in May. Compared to a year ago, the median price was down 3.4%, the third year-ago decline in the past five months. The 12-month moving average trend of price growth has been slowing over the last couple of years, and in June reached a new cyclical low of 2.4%. This suggests new home prices may be getting close to a cyclical peak. The decline in the median price in June had a lot to do with a change in the mix of homes sold, as sales in the $200K-$299K price range rose while sales in the $300K-$399K price range declined.  

As with the existing home market, inventory continues to be a big story right now. In June, there was only 5.4 months’ worth of supply available. Although that is up from 5.0 months in March, it is still far below the supply levels of the previous boom and on the low end of the 5-6 month range generally considered a balanced market. Fortunately, the number of new homes for sale has jumped in the last few months and is at the highest level since June 2009. This has helped to keep prices fairly stable recently. In addition, mortgage rates have been trending down over the last few weeks amid political uncertainty and slowing inflation.

​With inflation slowing and still below the Fed’s target of 2.0%, the Fed held rates steady at today’s FOMC meeting. However, the bigger issue is when the Fed will start to reduce its balance sheet, which they said will begin relatively soon. This will likely push up mortgage rates, but inflation will also play a big part.

​The leading economic indicators index rose 0.6% in June from the prior month following a downwardly revised 0.2% increase in May. The increase was better than the consensus forecast of a 0.4% rise. Compared to a year ago, the index was up 4.0%, far higher than May’s 2.7% pace. Over the six month period ending in June, the index was up 2.5%, up slightly from the 2.3% rate of growth in the six months ending in May.

Building permits led the way in June, contributing 0.21 percentage points to the growth in the overall index, as building permits rebounded from a very weak May to post a strong 1.254 million unit annualized reading for June. The ISM new orders index came in second, contributing 0.17 percentage points as the index rose to 63.5 in June from 59.5 in May. The interest rate spread between the 10-year Treasury yield and the Federal Funds rate was next, contributing 0.13 percentage points to the growth in the index. Although this was the smallest contribution from this component since July as the spread has narrowed, this component has still contributed the most to the rise in the index over the past six months. Consumer expectations for business conditions contributed just 0.06 percentage points, the smallest contribution for this component since November, as consumers have become more concerned that Trump’s pro-growth policies may not come to fruition as soon as previously thought, if at all. The contribution from the stock market held steady at 0.06 percentage points as the market rose slightly in June. For the fifth month in a row, core capital goods orders contributed virtually nothing in June.           

​The only negative contribution came from initial jobless claims, as average weekly claims rose to 244K in June from 240K in May.

Although the interest rate spread is often among the largest contributors, its contribution has been trending slightly lower over the last few months as the Federal Reserve has been gradually raising the Federal Funds rate while the 10-year Treasury yield has come down as investors’ initial optimism about the new administration’s economic policies has been followed by some doubt about the chances for successful implementation.

​Given slowing inflation, weak wage growth and signs of a possible top in housing, the Fed’s June rate hike appears a bit misplaced. However, the LEI is suggesting growth should pick up soon. It remains to be seen if inflation, and interest rates, follow suit.

​Existing home sales fell in June to 5.52 million units on a seasonally adjusted annualized basis, down from May’s 5.62 million units and less than the consensus forecast of 5.58 million units. Sales were down 1.8% from the prior month and up just 0.7% from a year ago, the lowest year-ago increase since August. 

By region, sales increased 3.1% from the prior month in the Midwest, the only region to see an increase in sales in June. The rebound in the Midwest in June was not a surprise since sales in May were very weak. Elsewhere, sales fell 0.8% in the West, 2.6% in the Northeast and 4.7% in the South. Compared to a year ago, sales were up the most in the West at 2.5% and up 1.3% in the Northeast. Sales were flat compared to a year ago in the South and the Midwest. Median prices were up the most in the Midwest at 7.7% compared to a year ago, while they were up 7.4% in the West, 6.2% in the South and 4.1% in the Northeast. The national median price was up 6.5%, up from May’s 5.7% rate of growth and the first increase in the year-ago rate of growth in four months.

By type, sales were flat compared to the prior month for condos and co-ops and down 2.0% for single-family homes. On a year-ago basis, sales were up 1.6% for condos and co-ops and 0.6% for single-family homes. Prices were up 6.6% for single-family homes and 6.5% for condos and co-ops.

Inventory continues to be a big story right now. In June, inventories fell 0.5%. However, since sales fell a larger 1.8%, the ratio of inventories to sales, or the months’ supply, rose from 4.2 to 4.3. Even so, the 12-month moving average slipped a few decimal points to 4.1 months, down significantly from a couple years ago. One big reason that inventories are so low is that some people who bought homes at the peak of the bubble in 2006 still have not recuperated all of their losses. On the other hand, many who would like to upgrade are finding prices too high so they are staying in their current home, preventing others from buying their house and keeping supply limited. What homes do get listed are often scooped up quickly, and sellers are getting multiple offers that in some cases are above the asking price. This suggests a peak in prices may be near.

​Sales fell in June despite a decline in mortgage rates. On Wednesday, the Federal Reserve is expected to provide more details on the plan to reduce its balance sheet, which could push mortgage rates higher. The real estate market would be well advised to tune in. 

​Consumer prices were unchanged in June from the previous month, missing the consensus forecast of a 0.1% increase, following a 0.1% decrease in May. Compared to a year ago, prices were up just 1.6%, down from May’s 1.9% pace and the lowest since October. Core prices, which exclude food and energy, rose 0.1%, missing the forecast of a 0.2% increase, and were up 1.7% on a year-ago basis, matching May for the slowest rate of growth in two years.

Compared to a month ago, prices rose the most for motor vehicle insurance (+1.0%), hospital services (+0.9%), medical care commodities (+0.7%), meats and poultry (+0.6%) and owners’ equivalent rent of primary residences (+0.3%). Prices fell the most for fuel oil (-3.7%), gasoline (-2.8%), airline fares (-2.7%), used cars and trucks (-0.7%) and electricity (-0.6%). Thus, air and road travel both became less expensive, but it became more expensive to insure a vehicle. Owners’ equivalent rent, motor vehicle insurance and hospital services had the largest positive effects on the price index, while the biggest negative effects came from gasoline, household energy and other lodging away from home.

Compared to a year ago, prices were up the most for piped gas service (+12.8%), motor vehicle insurance (+7.7%), tobacco and smoking products (+6.8%), hospital services (+5.7%) and fuel oil (+4.3%). Prices were down the most for used cars and trucks (-4.3%), airline fares (-4.3%), meats and poultry (-0.9%), apparel (-0.7%) and gasoline (-0.4%). Yes, you heard right, gasoline prices are now down from a year ago after being up a whopping 31% from the prior year back in February. The biggest positive effects on a year-ago basis came from owners’ equivalent rent, motor vehicle insurance and hospital services, while the biggest negative effects came from wireless phone services, education and communication services and used cars and trucks. 

​Despite a slew of weak economic data in May, the Fed raised interest rates anyway at the June FOMC meeting, citing a low unemployment rate and expected improvement in inflation and job growth. Since then, we have been treated to another month of weak wage growth, retail sales, producer price data and consumer price data. Although employment growth is strong and unemployment is low, inflation is starting to cool again. This would suggest no rate hike at the Fed’s July meeting, but that’s what we thought last time. If inflation is their priority, a rate hike is not needed. 

​Retail sales fell 0.2% in June from the prior month, missing the consensus forecast of a 0.1% increase, following a 0.1% decrease in May that was revised up from a 0.3% decline. Sales excluding autos and gas missed expectations badly, falling 0.1% compared to expectations of a 0.4% increase. On a year-over-year basis, sales were up just 3.1%, down from the recent peak growth rate of 5.6% reached in January and the least since August. 

The biggest monthly increase in dollar terms was a $213 million, or 0.4%, increase in general merchandise sales. Non-store sales followed with a $193 million, or 0.4% increase. Building and garden supply stores took the third spot with a $161 million, or 0.5% increase. All three of these categories did better than vehicles, which only saw a $128 million, or 0.1%, rise in sales. The biggest decline in sales came from gasoline stations, where sales fell by $484 million, or 1.3%, as gas prices dropped. The miscellaneous category saw sales fall by $338 million, or 3.1%, the largest percentage drop of any category. Food and drink sales followed with a $324 million, or 0.6%, decline. Department store sales fell by $91 million, or 0.7%, as the industry continues to be challenged by online competitors.

​Sales were higher on a year-over-year basis, led by a $4.8 billion, or 5.6%, increase in vehicle sales. Non-store sales were next with a $4.5 billion, or 9.6%, increase. Building and garden supply store sales have also been strong and were up $1.5 billion, or 5.2%, from a year ago. Only two categories were down from a year ago, led by a $528 million, or 6.9%, decline in sports and hobby stores. Department store sales were also down by $518 million, or 4.0%.

If we take out the impact of gasoline sales, which are not really an indication of stronger or weaker economic growth but rather due to changing gas prices, ex-gas retail sales were up only 3.2% from a year ago in June, the least since August. If we also adjust for inflation, we see that real ex-gas retail sales were up just 1.6% in June, still on the lower end of the recent range, which has been trending down for two years.  

​Despite all of the weak May data, the Federal Reserve raised interest rates in June. Today’s retail sales report, along with another month of weaker than expected inflation data for June, suggests the June rate hike was probably not a wise move. If the weakness in housing data that we saw in May continued in June as well, criticism of the Fed may ramp up.

Job growth roared higher in June as the economy added 222K new jobs, much better than May’s 152K increase and much higher than the 170K consensus forecast. Even better, revisions showed 33K more jobs were created in April and 14K more jobs were created in May than previously reported. The rate of job growth held at 1.6% year-over-year.

Healthcare led the way in June with a 59K increase in payrolls, double May’s increase. Leisure and hospitality services followed with a 36K increase after a fairly weak 25K increase in May. Professional and business services added just 35K new positions, one of the lowest readings in the past year, as administrative and waste services saw the weakest job growth since December following a big increase in May. Government was a big surprise as 35K people found new jobs in public service, coming almost exclusively at the local level. The construction industry had a decent month as 16K people found work following three very weak months amid slowing activity in the housing market. Following four straight monthly declines, retail trade finally saw an increase in payrolls in June as the industry added 8K new jobs. Mining and logging had another good month as 8K new jobs were created, the eighth straight increase. After losing 2K jobs in May, manufacturing could only muster a 1K job gain in June as the motor vehicle industry is in a bit of a rut.  

On the downside, information services lost 4K more jobs, the ninth straight monthly decline, which is bad news since these are some of the highest paying jobs in the economy. Motor vehicle and parts manufacturing lost 1K jobs as sales continue to dwindle.

​The 70K difference in job growth in June versus May was largely due to the big increase in local government jobs and the rebound in healthcare services employment.

Although the unemployment rate rose from 4.3% to 4.4%, it was because 361K people entered the labor force, but only 245K of them found work. Thus, the increase in the unemployment rate was for a good reason as people were more confident about finding jobs.  

Average hourly earnings rose 0.2% and were up 2.5% from a year ago, down a bit from the 2.9% pace back in December. With inflation cooling recently, real wage growth has rebounded slightly but remains very weak.

​Today’s report will give the hawks more incentive to push for another Fed rate hike soon. Even so, inflation remains well below the Fed’s target, so a rate hike is not necessary.  

​According to the Commerce Department, total construction spending fell by $287 million, or 0.02%, in May to $1.23 trillion, widely missing the consensus forecast of a 0.5% increase. This follows a 0.7% drop in April that was revised up from a 1.4% decline. Compared to a year ago, spending was up 4.5%, less than April’s 5.5% pace and the slowest since August.

May was one of those rare months when public and non-residential spending rose while private and residential spending fell. While residential spending dropped by $2.5 billion, or 0.5%, from the prior month, non-residential spending increased by $2.3 billion, or 0.3%. These measures were up 10.9% and 0.3% compared to a year ago, respectively.

Non-residential spending growth was led by educational facilities, which rose by $2.6 billion, or 2.8%. Office projects saw a $1.1 billion, or 1.6%, increase in spending. Power projects came in third, spending on which rose $702 million, or 0.7%. Conservation and development and religious projects both saw a 3.7% increase in spending, tied for the largest increase on a percentage basis. The biggest decline in non-residential spending was in manufacturing, which fell by $1.2 billion, or 1.7%. Highway and street projects saw an $876 million, or 1.0%, decline, while commercial spending dropped by $552 million, or 0.7%. The biggest percentage decline came in communications, where spending fell 1.9%. Transportation spending also fell by 1.2%.               

​Private spending plunged by $6.1 billion, or 0.6%, half of which came from residential projects, where the $3.1 billion decline was the largest in nearly three years. On the non-residential side, weakness was seen in manufacturing, which fell by $1.2 billion, and educational facilities, which dropped by $1.0 billion. Meanwhile, public spending rose by $5.9 billion, or 2.1%, driven largely by a big $3.6 billion increase in spending on educational facilities, the most in nearly a year. 

Compared to a year ago, the strongest growth in total construction spending has come from residential, office and commercial projects. Conversely, the biggest declines have been seen in sewage and waste disposal, conservation/development and manufacturing.

​The residential sector of the U.S. economy has been a pillar of strength over the last several years. Thus, the recent spike in interest rates amid talk of the Fed shrinking its balance sheet is cause for concern, for the construction industry and the overall economy.