The Divergence Between 'Hard' & 'Soft' Data Explained (And Republican Bulls Won't Like It)
Another dataset, another head-scratching disparity between ostensibly fulsome confidence and evidently sluggish activity. While markets get whipsawed reacting to divergent hard and soft data points, the question that traders need to ask is whether this gap makes any sense.
Bloomberg’s Macro Strategist Cameron Crise may have the answer… If you’re willing to believe that survey respondents allow their political beliefs to color their answers, then it very well might.
I modeled U.S. economic growth since 1975 using the softest of the soft data releases: consumer confidence and the small business optimism survey. I omitted the ISM because it includes factual questions, i.e. are orders increasing? The fit is actually pretty good for such a simple model, with an r-squared of 0.51. As you can see, the model is now pretty upbeat.
I then disaggregated the data and compared the model forecast to actual economic growth for each president since Gerald Ford. The results were fascinating.
- Under Republican presidencies, average annual growth has been 2.7%…but the model has forecast it at 3%.
- Under Democrats, growth has been a little higher, at 2.8%…but the model has forecast growth of just 2.3%.
In fact, the model slightly underestimated growth during the Ford and Reagan years. Since George HW Bush, however, the trend is pretty pronounced: survey respondents have been optimistic relative to underlying growth for GOP presidents and pessimistic relative to growth for their Democratic counterparts.
It seems likely that at least some of the recent boost to confidence is evidence of the same phenomenon manifesting itself. That being said, the model currently projects growth of nearly 3.5%, so even if we were to knock off the usual half a percent for a post-Reagan GOP presidency that would still imply a marked uptick over the post-crisis run rate.
Of course, achieving that growth will probably be contingent on the government enacting some of its more business-friendly campaign promises such as tax reform or deregulation. If they don’t, then the “optimism gap” may close, and not in a way that the White House might like.
Either way, traders will need to keep an eye on government policy and its implications. The efficacy of the Trump administration may not matter on a day-to-day basis for bond markets, but in the long run it probably will.
A glance at the last 20 years or so of ‘soft’ and ‘hard’ data also helps confirm this over-confidence… it’s the hope that pumps… then dumps… and never the reality that jumps…