The Federal Reserve has been battling inflation for more than two years now, raising interest rates and removing liquidity from markets in hopes of cooling the economy. Despite Wall Street’s fears that these policies could trigger a recessionThe US economy has proven remarkably resilient in recent years.
Consumer spending has steadily overcame expectations; THE unemployment rate has remained in a limited range between 3.7% and 3.9% since last August; and GDP growth has been healthy, although slowing, rate of 1.6% in the first trimester. However, in part because of the economy’s resilience in the face of the Fed’s hawkish policies, inflation continues to be a thorn in the side of Fed Chairman Jerome Powell.
The Fed’s Favorite Inflation Indicator: The Core personal consumption expenditures (PCE) price index, which excludes more volatile food and energy prices, rose 2.8% year-on-year in March. That’s down from its March 2022 peak of 5.3%, but still well above the Fed’s 2% target rate. Today, Barry Bannister, chief equity strategist at the brokerage and investment bank Stifel, worries that Fed officials’ goal of getting that gauge back to 2% is unrealistic unless their cuts long-planned interest rate changes will not be significantly pushed back.
“(T)he 2% core inflation sought by the Fed is a pipe dream,” he wrote in a Sunday note. “We expect the Fed’s rate cuts to be pushed back further, causing stocks to correct mid-quarter.”
In the Wall Street veteran’s view, this higher interest rate environment means the stock market is headed for a painful correction that will see the S&P 500 fall about 10% to 4,750 by the end of the third trimester.
A “pseudo-recession” allowed disinflation, but it is now over
The key to Bannister’s argument is his belief that the economy already experienced a “pseudo-recession” between January 2022 and summer 2023, which helped reduce inflation from its peak aged 40 from June 2022, above 9%.
During this difficult period for the economy, he explains in the note, there was a decline in demand for labor, a rapid decline in productivity and a sharp fall in the index Purchasing Managers ISM (PMI) for manufacturing, which measures activity in the manufacturing sector. this key sector of the economy. This was not enough to be considered a full-fledged recession by most economists, but according to Bannister, it was a minor, discrete form of recession. And it’s this period of economic slowdown that has really driven inflation down in recent years, he argues, not the Fed’s interest rate hikes.
“The five quarters from 1Q22 to 2Q23 were a ‘pseudo-recession’ and the Fed has already reaped all the normal post-recession disinflation we expected,” he wrote.
Bannister now expects productivity and manufacturing to rebound in 2024, leading to wage increases in a still supply-constrained labor market. He noted that productivity “always increases after recessions, because the increase in output exceeds the lag in hours worked.” And in Stifel’s 2024 outlook In its report, the investment bank argued that the manufacturing industry will benefit from the rise of AI as well as geopolitical tensions that will leave the United States with “a greater need for autonomy and protection of industries criticism”. President Biden’s CHIPS and Science Act and the Infrastructure Investment and Jobs Act are two examples of how the government is already supporting manufacturing domestically to thwart international competition.
All of this, combined with rising wages, could push core PCE inflation above 3% by early 2025, according to Stifel.
Bannister isn’t the only one predicting stubborn inflation and rising interest rates and feeling a little uneasy as a result. THE University of Michigan Sentiment Index fell from 77.2 in April to 67.4 in May, bringing Americans’ views of the economy to a lower level. the lowest in six months. Inflation expectations over a one-year horizon also rose to 3.5% from 3.2%, showing that rising consumer prices – and the rate hikes that could follow – are a concern for Main Street.
As Joanne Hsu, director of consumer surveys at the University of Michigan, explains:
“Consumers have reserved their judgment in recent months, (but) they now perceive negative developments in a number of dimensions. They expressed concern that inflation, unemployment and interest rates could all move in an unfavorable direction in the coming year.”
This story was originally featured on Fortune.com
