Overview of the US Economy
The current state of the US economy can be described as both resilient and vulnerable. At the same time, recent data shows an upward revision in the third quarter GDP and a strong labor market, other indicators, such as the US Leading Economic Index, point to deteriorating economic momentum and the potential for a recession in 2023.
Strong Third Quarter GDP and Tight Labor Market
Recent data has shown resilience in the US economy, with the Commerce Department upgrading growth to a 3.2% annual pace during the third quarter and new filings for unemployment benefits remaining close to a multi-decade low. These indicators suggest a strong rebound after two quarterly declines and a continued rise in US payrolls.
Negative Outlook for US Economy
Despite signs of strength in the labor market and improving consumer confidence, the US Leading Economic Index's annual growth rate has continued to slide into negative territory, highlighting deteriorating economic momentum. This, combined with the Federal Reserve's tightening monetary policy, has led to projections of a recession starting at the beginning of 2023 and lasting through mid-year.
Impact of Tightening Monetary Policy on the Economy
The Federal Reserve's rate hikes have been a major factor in the ongoing slide of the S&P 500 Index and failed rallies in the stock market this year, as bearish expectations linked to rate hikes and slow growth weigh on equities. The policy-sensitive 2-year Treasury yield is now trading below the mid-point for Fed funds for the first time in nearly three years, indicating that the Fed's rate hikes may be close to peaking. However, incoming inflation data will play a key role in determining the trajectory of future rate hikes, with the potential for more hikes to strengthen the risk of a recession.
Inflation Data and Future Rate Hikes
Inflation data will play a crucial role in the Federal Reserve's decision-making process for future rate hikes. If pricing pressure does not decrease fast enough to satisfy the Fed's plans, it is likely that more rate hikes will be implemented. This scenario would strengthen the risk of a recession, as tighter monetary policy can curtail economic activity and raise the risk of an economic contraction.
Market Reactions to the US Economy
Both bond and stock markets seem to be indicating a bearish outlook for the US economy, despite strong signs of resilience in the labor market. The S&P 500 Index has continued to slide, and the policy-sensitive 2-year Treasury yield is trading below the mid-point for Fed funds for the first time in nearly three years. This implies that the Federal Reserve's rate hikes may be peaking or have already peaked and that tighter monetary policy raises the risk of an economic contraction.
Expert Analysis of the US Economy
Christopher Rupkey, Chief Economist at FWDBONDS, notes that the revision of third quarter GDP suggests that the economy's rebound after two quarterly declines has a strong tailwind. However, he also warns that the Federal Reserve may need to raise interest rates even higher in 2023 due to the persistence of upward price pressures. Oren Klachkin, Lead US Economist at Oxford Economics, similarly points to the firmer Q3 GDP data as encouraging but cautions that the economy will be tested soon by past tightening in financial market conditions and rate hikes by the Fed. Ataman Ozyildirim, Senior Director of Economics at The Conference Board, states that the US Leading Economic Index's slide into negative territory suggests that the Federal Reserve's monetary tightening cycle is curtailing aspects of economic activity, particularly housing. As a result, he projects a likely recession starting at the beginning of 2023 and lasting through mid-year. Chuck Carlson, CEO at Horizon Investment Services, notes that the consensus among experts is that a recession will occur in 2023 but adds that the market's level of discounting for this event makes it difficult to accurately assess the situation.
