CDI Economic Summary: US economy at a crossroads

NEW YORK (ICIS)–The US economy is at a crossroads with the Federal Reserve “navigating by the stars under cloudy skies” as it attempts to engineer the rarest of economic feats – a soft landing.

Our ICIS base case calls for a rolling recession in the US moving from sector to sector, with the overall economy bottoming in Q1 2024. GDP is expected to decline just 0.2% in Q1 followed by a slim 0.1% recovery in Q2.

This soft landing scenario is gaining traction as inflation eases while the labor market and consumer spending remain resilient for now. For all of 2023, we see US GDP growth of 2.1%, followed by a slim 0.8% gain in 2024.

While inflation is moderating, it stubbornly remains well above the Federal Reserve’s 2% target. The recent surge in crude oil prices will put upward pressure on headline inflation in the coming months.

The Consumer Price Index (CPI) in August was up 3.7% from a year ago with core CPI (excluding food and energy) up 4.3%.

The culprit continues to be the services sector, as goods inflation has eased significantly. The unemployment rate ticked higher to 3.8% but consumers are still spending, largely on experiences while shunning durables.

Retail sales for August rose a much higher-than-expected 0.6% from July and were up 2.5% from a year ago with notable year-on-year gains for restaurants and bars (+8.5%), health and personal care stores (+7.8%) and ecommerce (+7.2%).

Manufacturing is firmly in recession, evidenced by the latest ISM US Manufacturing Purchasing Managers’ Index (PMI) reading of 47.1 in August. While this rose 1.2 points from July, it was the 10th consecutive month of contraction (under 50). In contrast, the Services PMI at 54.5 was in expansion for the eighth consecutive month.

The strike by the United Auto Workers (UAW) against the Big Three US automakers GM, Ford and Stellantis that started on 15 September threatens to upend the sole bright spot for chemicals demand. While strike action at the Big Three is thus far limited to select plants, it is poised to further broaden if negotiations stall.

In H1 2023, the Big Three produced 2.53m light vehicles in the US, representing 46% of total production. ICIS projects light vehicle sales to rebound 12% to 15.3m units in 2023 but this would be jeopardised by an extended strike. Whatever the outcome, it will be inflationary from a wage perspective.

Another shutdown, this one of the Federal government, also looms on 1 October if a spending bill fails to pass. These two developments stand to further dampen the economy in the short term if they turn out to be extended affairs.

Meanwhile, the housing market is rolling over from the weight of the Fed’s rate hikes with mortgage rates the highest in over two decades. Housing starts plunged 11.3% in August to a 1.28m rate – down 14.8% from a year ago. ICIS projects housing starts to fall from 1.55m in 2022 to 1.42m in 2023, flattening out to 1.41m in 2024.

The Fed is signaling higher rates for longer. At the September meeting of the Federal Open Market Committee (FOMC), the median projection for the benchmark Fed Funds rate was revised higher for both 2024 and 2025. Most Fed officials see one more hike this year as appropriate.

After a relentless period of destocking, inventories today are much leaner – not just at chemical companies but throughout the value chain, including all the way downstream at major retailers.

Source: Companies

Recall back in Q1 2022 we flagged the massive pile-up in US Big Box retailer inventories as a clear warning sign for downstream chemicals demand. What followed was the longest and most severe destocking period in history with chemical CEOs harking back to conditions during the Global Financial Crisis of 2008-2009.

So where are we today? At the end of Q2 2023, major US retailer inventories were much lower from the peak in Q1 2022 as well as versus Q2 2022 – both on an absolute basis and as a percentage of sales.

This hardly presages a robust restocking cycle in the immediate future. But lean inventories throughout the chain should remove a big overhang weighing on demand, setting the stage for a bottom.