CDI Economic Summary: US Fed to further pressure economy with rate hikes

NEW YORK (ICIS)–Take US Federal Reserve chair Jerome Powell at his word – that the Fed will keep raising interest rates “until the job is done” in tamping down inflation.

The latest jumbo hike of 0.75 percentage point at the September meeting was further evidence of that commitment – “ongoing increases…will be appropriate” – and there is likely more to come.

The hike brings the benchmark Federal Funds rate to 3.00-3.25%. The median projection by Fed members is now for the key rate hitting 4.40% by December.

The Consumer Price Index (CPI) reading for August came in hot, showing a 0.1% gain month-on-month and 8.3% year-on-year, dashing hopes for a Fed pivot.

While gasoline prices fell hard, food, electricity, natural gas and rents were up. The core CPI (excluding food and energy) surged 0.6% sequentially.

The CPI release on 13 September triggered a plunge in both the US equity and bond markets.

The deepening inversion of the Treasury yield curve (2-year Treasury yield higher than 10-year yield) intensified recession fears as this has historically been a key leading indicator.

Yet consumer spending continues to hold up for now. U.S. retail sales in August rose 0.3% month on month and were up 9.1% year on year.

The labour market continues to be strong, with wages still rising and the unemployment rate at a subdued 3.7%.

While there have been a growing number of corporate layoff announcements, robust wage growth may be in store for some workers. A tentative rail workers deal includes a 24% raise over five years.

Manufacturing momentum is weakening but has yet to completely roll over. This is based on the US ISM Manufacturing Purchasing Managers’ Index (PMI) remaining in expansion territory (over 50) with the latest August reading flat versus July at 52.8.

The US is a stand-out among major economies, as manufacturing PMIs in Europe and China are showing contraction.

The US may be the cleanest shirt in a dirty laundry basket, but it is not immune to global headwinds and rapidly rising interest rates. Cracks are showing with US-based chemical companies such as Eastman Chemical, Huntsman and Olin warning on big earnings shortfalls for Q3. Weak trends are likely to run on into Q4 and 2023, and Wall Street analysts are busy slashing profit forecasts.

The building and construction sector, one of the most heavily impacted by higher interest rates, was highlighted as a key area of weakness in chemical company profit warnings.

US housing starts in August jumped a larger-than-expected 12.2% from July to a 1.575m unit annual pace, off just 0.1% from a year ago.

With the rebound in mortgage rates and homebuilder confidence dropping for the ninth consecutive month, housing starts may reverse direction again in September.

Building permits continued to slide, falling 10.0% to a 1.517m unit pace, leaving permits off 14.4% year on year.

ICIS expects housing starts to fall from 1.59m in 2022 to 1.37m in 2023.

Light-vehicle sales are languishing at low levels, with August figures down 1.1% month on month to 13.2m. This was up 0.7% from a year ago. Year-to-date sales are down 15.2%.

While some expect pent-up demand and easing of supply-chain constraints leading to materially higher sales in 2023, it will be a tough haul with higher interest rates for auto loans and a less confident consumer.

ICIS projects 2023 light vehicle sales to rise from a trough of 14.0m in 2022 to 15.4m in 2023 – still well short of 2019 levels of 17.0m. Overall, ICIS expects US GDP to fall from 5.7% in 2021 to 1.7% in 2022 and then just 0.5% in 2023.

The ICIS US Leading Business Barometer (LBB) fell to 123.3 in August, down by 3.5% month on month and down by 7.1% from its peak in February.

As a rule of thumb, the barometer signals a US recession when it falls for three consecutive months and if the cumulative decline from a recent peak is 3.0%.

The LBB reached that threshold in July, and the signal became louder in the August reading.

Ignore the Fed and leading recession indicators such as the LBB and the Treasury yield curve at your peril. The path to a soft landing for the US economy is getting ever narrower.

The following chart shows how the Federal Reserve’s interest-rate projects have increased in 2022.