Interest Rate Cuts? Not So Fast
At the end of 2023, inflation was on a decided downward trend. Headlines proclaimed that the Federal Reserve was signaling at least three cuts in the Effective Federal Funds Rate during 2024. The markets were more ambitious, forecasting several more cuts this year.
Then came an increase in the Consumer Price Index and Personal Consumption Expenditure Index. These and other factors prompted the Fed to keep the EFFR at its current 5.25% to 5.50% at its March 2024 meeting.
Or as John Beuerlein put it: “Expectations for the timing and number of interest rate cuts by the Fed in 2024 were sharply revised in February due to the ongoing strength of the labor market.” Beuerlein, chief economist at the Pohlad Companies (parent company of Northmarq), added that “higher for longer” will continue as the Fed’s interest rate policy.
The Consumer Spending Downturn
Beuerlein outlined the current economic picture in his March 2024 commentary by explaining that while the CPE and PCE increased, consumer spending slowed in January 2024, growing only by 0.2%. When measuring on an inflation-adjusted basis, “consumer spending declined for the first time since August,” he said. While the savings rate did improve to 3.8%, it was below the 8%-9% historic average.
Finally, taking information from the Fed’s Beige Book ending February 26, Beuerlein pointed out “anecdotal reports of increased price sensitivity on the part of consumers who continue to trade down and shift spending away from discretionary purchases.”
Meanwhile, on the Lending Side . . .
Beuerlein said the January Senior Loan Officer Survey reported that banks continued tightening lending standards on most loan categories in Q4 2023. However, that tightening was lower than in Q3 of the same year. Less than 2.0% reported they were easing those standards. Furthermore, banks reported “increasing spreads of loan rates over their cost of funds for commercial and industrial loans, as well as weaker demands for all categories of loans,” Beuerlein explained.
Nor is the outlook going to change any time soon, with banks indicating that standards would likely remain in place for commercial, industrial, and real estate loans while tightening further for credit card and auto loans. Beuerlein also noted that banks anticipate strengthening loan demand across all categories and a deterioration of loan quality across most loan types.
Finally, the Labor Market
Beuerlein said the labor picture varied, depending on whether the focus was on the establishment survey (showing a gain of 275,000 jobs) or the household survey (reporting a 184,000 job decline). The unemployment rate, at 3.9%, is “now at the highest level since January 2022,” he said.
Yet the index of aggregate hours worked in Q1 2024 is flat, which has implications for quarterly GDP growth. Said Beuerlein: “Barring a significant increase in this index during March, first-quarter growth will have to come from an increase in productivity.”
What Would the Fed Do?
According to Fed Chair Jerome Powell’s recent Congressional testimony, there isn’t any rush to lower interest rates. Instead, Powell said the Fed wanted more confidence that inflation is moving sustainably toward that 2% rate. It will be appropriate to dial back some of the policy restraints at that time.
Beuerlein acknowledged that the extent of the tight monetary policy will be difficult to forecast or anticipate. The Federal Reserve has a mandate of both price stability and maximum employment. Because of this, “the decision to lower interest rates, and the pace at which easing proceeds, will likely be dictated by the strength of the labor market as long as inflation continues to ease,” Beuerlein observed.
Article courtesy of Amy Wolff Sorter of connectcre.com.
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