Macro – US

US teeters on the edge

12 June 2023

By Henk Potts, London UK, Market Strategist EMEA

 Please note: All data referenced in this article is sourced from Bloomberg unless otherwise stated, and is accurate at the time of publishing.

Key points

  • While the US economy is chugging along for now – thanks, in part, to a buoyant labour market and household savings built up during the pandemic – there are signs momentum may be slowing
  • US house prices have come under pressure with mortgage rates surging to 21-year highs. Worse still, tougher financial conditions are on the cards with troubled regional banks expected to lend less    
  • Resilient consumption, inflation and labour market data indicates a higher terminal fed funds rate than expected at the start of the year. Policymakers are now likely to deliver two additional 25-basis point rate hikes by the end of the year, pushing the target range to 5.5%-5.75% 
  • This combination of higher interest rates, coupled with the turmoil in the regional banking sector, is expected to prompt tighter credit conditions – and a 2024 recession remains possible 

While the US economy grew, if uninspiringly, in the first three months of the year (Q1), the outlook remains challenging. Q1 growth hit an annualised rate of 1.1%, which was slower than economists had expected and represents a sharp deceleration compared to 2.6%1 in the final quarter of last year. 

The primary driver of the expansion was consumer spending, as household demand jumped 3.7% in Q1, compared to the 1% gain recorded in Q4 20221. However, the quarterly average was aided by a raft of purchases in January (following bad weather at the end of last year) with sales declining in February and March. Growth was also boosted by positive government spending on goods and services.  

Elsewhere in the first quarter, lacklustre levels of business investment, and a fall in the build-up of inventory, hit activity levels. Business demand for equipment saw its biggest decline (7.3%)1 since the start of the pandemic and inventory investment subtracted 2.3% from GDP growth1

Services sector outperforms manufacturing  

The services sector has mushroomed in 34 out of the past 35 months. The Institute of Supply Management (ISM) stated that its services purchasing managers’ index (PMI) reading rose to 51.9 in April2, as consumers switched to buying services from goods, and new orders were lifted by rising exports. 

After the post-pandemic boom, the services sector expansion is likely to ease, while still supporting growth.  

Although the US services sector has prospered, manufacturers (accounting for 11.1% of the economy3) have struggled this year. PMI for the sector was 47.1 in April4, and a reading below 50 suggests a sector is contracting rather than growing (in this case, for the past six months). The weakness remains broad-based with only two sub-sectors (petroleum and coal products, and transportation equipment) seemingly growing output. 

Manufacturers appear to be delaying placing orders amid rising economic uncertainty and higher prices. Despite the weak demand and improving supply chains, factory-gate prices rose at their fastest pace of the year in April. New orders contracted for the ninth consecutive month in April, as customers cut back on investing in inventory for fear of weakening demand. This does not bode well for future production levels.  

Industrial production will likely remain under pressure over the next 18 months, including a 3% year-on-year (y/y) contraction in Q4, and a 2.5% reduction in 2024. 

Labour market defies forecasts 

The worsening of the buoyant labour market expected at the start of the year has proved to be misplaced. 

The US economy still created more than a third-of-a-million jobs in May and the unemployment rate of 3.7% remains close to a five-decade low. Whilst technology companies have been cutting staff numbers, after a hiring spree early in the pandemic, jobs have been added at pace in the healthcare, professional and business services, and hospitality and leisure sectors.  

But is momentum slowing?

While the labour market may appear to be booming on the surface, there are early signs that momentum may be slowing. The latest Job Openings and Labour Turnover Survey (JOLTS) showed the number of job openings increased by around 358,000 at the end of April to 10.1 million, but this is still down from a peak of 12 million in March 20225.   

Women have been returning to the workforce which has led to an improvement in the participation rate, which held steady at a post-pandemic high of 62.6% in May, albeit still below the 63.3% pre-COVID level6. Average hourly earnings growth cooled in May to 0.3% month-on-month (m/m) and 4.3% y/y compared to 0.5% m/m and 4.4% y/y increase registered in April. 

Given the scale of economic slowdown, payroll growth will probably weaken and turn negative in the second half of the year. Indeed, the US unemployment rate is predicted to creep above 4% in the coming months and finish the year at 4.2%.   

Consumer dips into their pandemic savings

The US consumer has been impressively resilient over the past year, with households now spending more of the excess savings built up during the pandemic to counter squeezed living standards. Demand was also supported by the historically low levels of unemployment and hardy wage growth. US consumer spending increased more than expected in April, with personal-consumption-expenditures (PCE) jumping 0.8% in April from March, double the consensus forecast.   

This year, consumers have either been forced to, or prefer to, spend their wages rather than save them. The US personal savings rate fell to 5.1% in March, against the long-term average of 8.9%7

There are, however, signs that the post-pandemic excess savings tailwind is starting to fade, and pressure from higher interest rates will start to take its toll on demand. May’s University of Michigan consumer confidence survey backed up this prognosis as the sentiment index slid to 57.7, its lowest level since November.   

Given the expectations of a slowing economy, the moderate rise in unemployment and recent hit to disposable incomes, private consumption growth is likely to slow over the next 18 months. Demand is forecast to ease from 3.8% in Q1 to be flat in the final quarter of this year and first half of next year. Private consumption growth is projected to average just 0.3% in 2024. As household demand accounts for around 70% of activity8, this will obviously damage American growth prospects. 

Housing market steadying  

US house prices have come under pressure as mortgage rates surged to 21-year highs9. The Case-Shiller Home Price Index declined for seven consecutive months before returning to growth in February10. The rebound accelerated in March with a 1.3% m/m increase, although the national composite for home prices is still 3.6% below the peak of June 2022. 

Mortgage rates have stabilised over the past few weeks and a lack of inventory continues to support prices. However, economic uncertainty, mortgage rates above 6% and tighter mortgage financing are all likely to be a headwind for the sector.  


Weakening US price pressures will be a relief for the US Federal Reserve (Fed). The headline consumer price index (CPI) rose 0.37% m/m, and 4.9% y/y in April, compared to 5% in March11. Core consumer prices rose 0.4% and the annual rate ticked down to 5.5%11

The breakdown of the latest inflation report showed that core goods prices rose more than expected, helped by a robust increase in used cars. This was partially offset by declining prices for airfares, hotels and new cars.  

Shelter costs, which make up around a third of the CPI, rose 0.4% last month11 its smallest increase this year. This slowing trend is a positive sign, given that housing costs are a lagging indicator and so will take longer to moderate.    

Most importantly, annual inflationary pressures have now eased for 10 consecutive months. For the first time in two years, the CPI is back below 5%, and a substantial improvement on the 9.1% peak in June 202211. In terms of the outlook, inflation is forecast to ease through the year and return to 2.5% by December.   

Central bank prepares to take its foot off the accelerator 

The Fed hiked rates by another 25 basis points (bp) in May. The latest increase pushed the benchmark rate up to between 5% and 5.25%, its highest level in 16 years12. The central bank, which since March 2022 has increased rates at 10 consecutive meetings and by a full five percentage points, continued to signal that the tightening bias would remain in place.  

The Federal Open Markets Committee (FOMC) statement stated that “additional policy firming may be appropriate to return inflation to 2% [the target level] over time”.  The FOMC will now determine the trajectory of price pressures on an ongoing basis, based on the incoming data. The clearest message from Fed chair Jerome Powell was that officials’ outlook for inflation does not support imminent rate cuts. 

Resilient consumption, inflation and labour market data indicates a higher terminal fed funds rate than we were projecting at the start of the year. The FOMC is now expected to deliver two additional 25bp rate hikes by the end of the year pushing the target range to 5.5%-5.75%. The timing of these increases remains more debatable.  

The recent strong non-farm payrolls report suggests that the June meeting is live, although markets are only pricing a 30% probability of a hike. June’s policy decision is likely to be a close call and the committee might decide to postpone hikes until the July and September meetings. 

As inflation moderates, labour markets cool and activity slows, the Fed is expected to flip to an easing stance in 2024, delivering 150bp of cuts, with the fed funds target range forecast to finish 2024 at 4-4.25%. 

Tighter financial conditions 

The combination of higher interest rates, coupled with the turmoil that hit the regional banking sector in March, is expected to prompt tighter US credit conditions, which will weigh on growth prospects.  

The Fed’s senior loan officer opinion survey (SLOOS) on bank lending practices in April showed that the net share of banks that tightened lending standards to large firms rose to 46%, from 44.8% in January13. Data also showed that demand for loans has been much weaker.  

Mild recession on cards for 2024  

America’s growth is expected to come under pressure in the second half of this year and through 2024, in the face of tighter financial conditions, easing domestic demand and a prolonged slowdown in manufacturing activity. The economy is forecast to grow by 1.2% in 2023, then shrink for three consecutive quarters from Q4 this year, resulting in a 0.3% contraction in 2024 (see table).

US economic forecasts, year-on-year (%, F = forecast)

US economic forecasts, year on year

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