The Road Ahead? Economic Outlook

Although there is no certainty in the economic environment, some trends are starting to firm up. Here are some things to consider as we move forward. Buckle Up!

The Short Take:

The U.S. economy has demonstrated remarkable resilience despite facing significant headwinds from high inflation and rapidly rising interest rates. Although economic growth is expected to moderate in the coming quarters, a recession appears increasingly unlikely as the economy's strong foundations can weather the current challenges. Inflation remains a key concern but is anticipated to gradually cool over the next year, paving the way for the Federal Reserve to lower interest rates in the latter half of 2024.

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The Work:

Businesses must navigate an economic landscape characterized by slowing growth, elevated input costs, and tighter credit conditions. The sharp rise in interest rates over the past year has made financing more expensive, potentially weighing on capital expenditures and expansion plans. Uncertainty surrounding the demand outlook may also lead to more cautious hiring and investment decisions.

Consumers, meanwhile, are confronting the impacts of higher prices and borrowing costs. Inflation has eroded purchasing power, and many households have drawn down the excess savings accumulated during the pandemic. Simultaneously, debt burdens rise as higher interest rates make servicing obligations more costly. These factors are expected to result in moderate growth in consumer spending in the quarters ahead.

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However, several elements should help limit the extent of the slowdown:

• The labor market remains historically tight, with job openings still exceeding the number of unemployed individuals, providing support to wages and helping to offset some of the drag from higher prices and borrowing costs.
• Household balance sheets are generally in a strong position, with many using the pandemic period to pay down debt and build up cash buffers.

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The Details:

Economic Growth:

The U.S. economy began 2024 on solid footing, with real GDP growing at an annualized rate of 1.6% in the first quarter, exceeding expectations and highlighting the economy's resilience. Looking ahead, economic growth is expected to reaccelerate into the 2-3% range in the second quarter before moderating to a more trend-like pace slightly below 2% in the year's second half.

• Consumer spending, a key engine of the expansion thus far, is anticipated to downshift as the lagged effects of higher interest rates and inflation increasingly bite.
• Business fixed investment is also expected to moderate in the face of higher financing costs and a more uncertain demand environment.

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Labor Market:

The labor market remains extraordinarily tight by historical standards but shows nascent signs of softening. Job growth has slowed from last year's blistering pace but remains robust, with nonfarm payrolls increasing by an average of 175,000 per month in 2024. The unemployment rate has ticked up to 3.8% but remains near multi-decade lows.

• Payroll growth is expected to downshift to an average of around 135,000 per month in the second half of 2024 as firms turn more cautious about hiring.
• The unemployment rate is anticipated to continue increasing, reaching 4.1% by the end of the year.

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Inflation and Monetary Policy:

Inflation has proven more persistent than anticipated, with various measures recovering in the first few months of 2024. However, the recent flare-up reflects temporary factors rather than a re-acceleration in the underlying inflation trend.

• Price pressures are expected to resume cooling in the coming months as the economy slows, labor markets soften, and supply chains continue to normalize.
• Core PCE inflation is forecast to moderate to a 2.4% annual rate in the year's second half.
• Given the expectation for slowing growth and moderating inflation, Some institutions maintain their forecast for the Federal Reserve to begin lowering interest rates in the latter part of 2024.
• The Fed is expected to cut rates by 25 basis points at its September and December meetings, followed by an additional 100 basis points of easing over 2025.
• However, uncertainty around the monetary policy outlook remains high, with the risks around the timing and magnitude of rate cuts appearing roughly balanced.

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The Takeaways:

The U.S. economy is exhibiting significant resilience in the face of the challenges posed by high inflation and rising interest rates. While growth is expected to moderate, a recession looks increasingly unlikely as sturdy household and business fundamentals can absorb the headwinds.

• The labor market will likely soften as the economy cools but should remain healthy by historical standards.
• Inflation has proven more persistent than anticipated but is expected to resume cooling in the coming quarters.
• The interest rate outlook remains highly uncertain and data-dependent. Some
• expect the Fed to cut rates by 50 basis points in the latter part of 2024, followed by an additional 100 basis points of easing in 2025.

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The economic environment is becoming more challenging as growth slows and financial conditions remain relatively tight. However, the resilient consumer sector, a still-healthy labor market, and moderating inflation suggest that the economy can navigate this difficult period without a significant downturn. Careful planning and risk management will be crucial as the expansion matures.