U.S. Economy Is Slowing But Not In A Recession; Fed on Course for Two More Half Percentage Point Rate Hikes in June and July
The expansion is slowing amid headwinds from Russia-Ukraine, surging energy and food prices, the end of crisis-era stimulus programs, tighter monetary policy, and Chinese lockdowns. But the U.S. is not currently in a recession, and the first quarter’s negative GDP looks like a red herring. U.S. payrolls averaged a monthly increase of nearly half a million in the first five months of 2022, the unemployment rate is a solid notch lower than at the end of 2021, and industrial production is growing solidly. However, industries that surged during the pandemic like retail, e-commerce, and housing are retrenching as consumer spending shifts from goods back to services.
Inflation likely has peaked in year-over-year terms but will stay well above the Fed’s target through the end of 2022 as Russia-Ukraine keeps food and energy prices elevated. Prices of durable goods including used cars and trucks have started to edge back down, and wage growth is slowing. Retailers are starting to discount consumer goods again after a big increase in inventories since the fall of 2021. But there is no relief in sight for food, gasoline, diesel, and other energy prices as the Russia-Ukraine conflict grinds on.
The auto and energy industries are growing solidly, while mortgage activity has weakened. Carmakers are working through and around the chip shortage and auto production and sales are recovering. Demand for new vehicles will stay solid, even as spending on other categories of durable goods pulls back, fueled by affluent buyers who delayed purchases in 2020 and 2021—and high gas prices are making more consumers open to electric vehicles. Energy production and the domestic rig count are rising, albeit slower than in the last few energy expansions due to worker shortages. The housing market’s fever has broken as higher mortgage rates and home prices price out more buyers, but demand continues to exceed supply in most of the U.S. Housing construction and sales are weakening, but a decline in national average prices looks unlikely.
Fed policymakers are largely aligned behind two more half-percentage point rate hikes in June and July, but less certain about subsequent plans. They will likely raise the federal funds target a quarter percentage point at each of the September, November and December decisions, but could pause if inflation and growth slow sharply. Comerica forecasts a peak for the federal funds rate in 2023 at a range of 2.75%-3.00%, slightly below the consensus forecast, which sees a peak just above 3%. The Fed will likely follow through on its plan to reduce its balance sheet $47.5 billion per month through September, then $95 billion per month subsequently. Balance sheet reductions will likely continue at this pace at least through the end of 2023. Longer-term yields face upside risk from the Fed shrinking its balance sheet, as well as oil and food prices, and downside risks from slowing growth, a cooling housing market, slowing inflation, and reduced Treasury issuance as the fiscal deficit shrinks.
For a PDF version of this publication, click here: June 2022 U.S. Economic Outlook
