⭐️6/27 St. Louis Fed latest economic report fully translated and posted‼️ 'Stubborn Inflation and Economic Resilience- Main Themes in the US Economic Outlook'
Key Themes of the US Economic Outlook: Stubborn Inflation and Economic Resilience
June 27, 2023
Kevin L. Crisen
Key Points
June 27, 2023
Kevin L. Crisen
Key Points
During the FOMC meeting held in June 2023, the hike in the target range for the federal funds rate was deferred and kept at 5% to 5.25%.
In addition to monetary tightening, the headline inflation rate has decreased due to the decline in energy prices and moderate increase in food prices, but the core inflation rate remains elevated.
The US economy continues to outperform expectations, as indicated by positive growth in real GDP, sustained healthy job growth, and low unemployment rate.
FOMC's job #1: Restoring the inflation target to 2%
The Federal Open Market Committee's (FOMC) strategy to return to the 2% inflation target has been a major theme in the outlook for the US economy. Since March 2022, the FOMC has raised its target range for the federal funds rate from 0%-0.25% to 5%-5.25%, an increase of 500 basis points. While the FOMC kept the target range unchanged at its June 2023 meeting, Federal Reserve Chairman Powell said in the post-meeting press conference (PDF), "Almost all committee participants see it as likely that it will be appropriate to raise rates further at some point this year to help bring inflation down to 2% over time."
The actions of the Federal Reserve have dampened inflation rates and reduced inflation expectations. The 12-month percent change in the Personal Consumption Expenditures Price Index (PCEPI), which includes all items, decreased to 4.4% in April 2023 from a peak of 7% in June 2022. The more widely followed Consumer Price Index (CPI) decelerated from a peak of 9.1% in June 2022 to 4.1% in May 2023. Non-financial factors have also contributed to the slowdown in inflation, notably the decline in energy (crude oil and natural gas) prices and the moderation in food price increases.
Many professional forecasters argue that the Federal Reserve's tightening measures have increased the probability of an economic downturn in the next 12 months. However, the rise in the real federal funds rate has not yet become a trigger for a widespread slowdown in the US economy. Since the second quarter of 2022, US real gross domestic product (GDP) has been growing at an annualized rate of 2.4%.
In theory, the economy expands through the combined effects of labor input, capital investment, and technological innovation. The latter two series are roughly captured by labor productivity growth, which is an important determinant of long-term living standards. Unfortunately, labor productivity has only increased at an annual rate of 0.2% over the past three quarters. In other words, the increase in labor input has been the main factor driving output growth.
Employment and hours worked are widely followed indicators of labor input. From March 2022 to May 2023, the number of wage earners increased by 4.7 million. In fact, the increase in May was 330,000, significantly exceeding expectations. The total weekly hours index increased at an annual rate of 1.7% during the same period (March 2022 to May 2023).
The combination of robust labor demand, such as continued high levels of job openings, and healthy production growth has kept the unemployment rate relatively low and nominal wage growth relatively high. The unemployment rate in May 2023 was 3.7%, almost unchanged from the unemployment rate in March 2022 (3.6%). Furthermore, the Atlanta Fed's Wage Growth Tracker increased by 6% over the 12-month period ending in May 2023.
The strength of the labor market has also boosted the growth of real personal consumption expenditure (PCE), which accounts for goods and services. The growth of real PCE over the past three quarters (from the third quarter of 2022 to the first quarter of 2023) contributed an average of 1.6 percentage points to the overall real GDP growth rate of 2.4% during this period. Despite rising interest rates on new car loans, automobile sales have remained strong.
The rise in interest rates has been less gentle for other interest-sensitive industries, including housing sales and construction. Real residential construction spending decreased by 18.4% from March 2022 to April 2023, and total housing sales (new and existing) decreased by 20.8% through May 2023. According to industry insiders, rising mortgage rates and a low level of available housing inventory have hindered sales. However, there are also signs that the housing market has hit bottom. Both housing sales and housing starts have increased slightly compared to the previous year, and bidding wars for homes have returned in some regions of the country.
Does the FRB still have trees to cut?
In this way, the latest data suggests that the FRB's tightening measures have not only lowered the inflation rate, but also not substantially weakened the broader economy. This has two implications. First, monetary policy is probably not sufficiently restrictive (James Bullard, President of the St. Louis Fed, recently argued that monetary policy is indeed at the lower limit of the level that can be considered adequately restrictive, given the current macroeconomic situation). Second, the effects of the FRB's policy rate hikes may become evident in a few months. However, there seems to be differing opinions on the time lag between changes in policy rates and their impact on the macroeconomy.
As an example, the yield curve of government bonds (the difference in yield between 10-year government bonds and 3-month government bonds) usually inverts during a tightening phase by the FRB and often serves as a precursor to an economic downturn. This yield curve has been inverted since November 2022. According to an analysis in 2018, on average, an economic peak occurs 10 months after the yield curve inverts. Literally interpreted, this result suggests the possibility of an imminent economic downturn. The fact that the unemployment rate rose from 3.4% in April 2023 to 3.7% in May of the same year could be an important signal in this regard. However, as mentioned earlier, other indicators suggest that the labor market remains vibrant.
With few signs of an impending economic downturn, the focus of the FRB is on the inflation rate. Core (or trend) inflation rate, excluding food and energy prices, is stubbornly high and is likely to significantly exceed the FOMC's inflation target of 2% until 2024.
In the June 2023Summary of Economic Projections (SEP), the median forecast of FOMC participants envisages a decline in the core PCEPI inflation rate from 4.8% in 2022 to 3.9% in 2023 and to 2.6% in 2024 (see chart below). The core PCEPI inflation rate for the period up to April 2023 increased by 4.7% compared to the previous year, and the core CPI inflation rate up to May increased by 5.3%. Implicitly, both professional forecasters and FOMC participants expect a substantial slowdown in the core inflation rate from the rest of this year through 2024. The FOMC's projections are conditional on the possibility of further rate increases.
Inflation forecasts for 2023-24
Projected real GDP growth rate and unemployment rate, 2023-24
Sources of the two figures: Federal Reserve Board of Governors' Summary of Economic Projections (SEP) in June 2023 and Walter C. Krämer's Blue Chip Economic Indicators in June 2023.
Annotations of two values: PCEPI, core PCEPI inflation rate and real GDP actual and forecast growth rates are the rates of change from the fourth quarter of the previous year to the fourth quarter of the current year. For the unemployment rate, the actual and forecast values are the average of the monthly data for the most recent three months, which is the fourth quarter of the current year. The SEP forecast is based on the median of each forecast series.
At the same time, FOMC participants acknowledge that there is still a high degree of uncertainty in inflation outlook. If energy prices were to fall sharply or if the US economy were to slow down more than expected or even enter into a recession, the inflation rate could decline more than expected in the short term. According to the minutes of the Federal Open Market Committee (FOMC) in March 2023, the staff of the Federal Reserve Board (FRB) expects a mild economic downturn to begin in the second half of this year due to recent disruptions in the banking sector. However, at this point, financial market stress measured by the St. Louis Fed Financial Stress Index remains slightly below average levels. The Blue Chip Consensus broadly aligns with the FRB staff's expectation of an economic downturn in the second half of this year.
There is also the risk of inflationary pressures increasing. As mentioned above, the economy has been surprisingly strong over the past three quarters. If the Atlanta Fed's GDPNow tracking model turns out to be accurate, the real GDP growth rate could again be higher than expected in the second quarter of 2023. Therefore, if the economy continues to strengthen and monetary policy is not sufficiently restrictive, the inflation rate may not decline as much as anticipated.
Other risks lie beyond the control of the FOMC, making the challenges faced by the FOMC in lowering the inflation rate to its target of 2% more complex. Among these risks are the uncertainty of the global economy arising from the Ukraine conflict and weakness in the Chinese economy, the rise in commodity prices resulting from the occurrence of El Nino phenomenon and drought in much of the Midwest, and the potential for consumer price inflation and an increase in oil prices.
Conclusion
The economy is always responding to unexpected developments, referred to as shocks by economists. Therefore, the outlook for the US economy and inflation could change significantly in a few months. This is the main reason why forecasting is difficult. However, currently, one word that describes the current macroeconomic environment is "resilience". Resilience in the overall economy and resilience in the underlying indicators of inflation, i.e., trend indicators.
Note
The 12-month change rate of the CPI is based on non-seasonally adjusted data series. The seasonally adjusted CPI for May 2023 increased by 4% compared to the previous year.
Disclaimer: Community is offered by Moomoo Technologies Inc. and is for educational purposes only.
Read more
Comment
Sign in to post a comment
