As expected, the Federal Open Market Committee hiked rates .25% yesterday. It moved the Fed Funds Rate to a range of 5.25% to 5.5%. This is a 22-year high. Fed Chair Jerome Powell said it was too soon to tell whether this was the last hike. However, former Fed Chairman Ben Bernake indicated this may, in fact, be the last one in this rate-hike cycle which started March 2022. Bernake also said the September meeting on possibly raising rates is “very much up for grabs.”
There’s lots of reasons why yesterday’s increase could be the last and other reasons why it might not be. Let’s look at some of the key indicators the Fed reviews that are currently providing mixed signals:
Financial health of consumers and businesses. A good way to get information on consumers and businesses is to review the earnings reports of the biggest banks, like JPMorgan Chase, Bank of America, Citibank, and Wells Fargo. They have lots of business and consumer customers. Bank reports show that consumer spending continues to hold up, though there has been a small deceleration to the normal pace. Travel, concerts and movie theatres are doing super. However, consumer debt is rising. Yet, the level of consumer debt is actually lower than before Covid hit. We may be getting back to “normal.” Bank earnings are good as well.
Labor Statistics. Yes, unemployment is still very low and wages are still growing at around 5%, but job postings are coming down and job growth is slowing. In addition, another indicator reviewed is the hours worked by employees which is also traced by the Department of Labor. Typically, a company, before hiring a new worker, will ask current workers to put in a few more hours. And, when companies are feeling pinched, they cut hours since they prefer not to permanently fire someone. Hours worked have been coming down. This may be signaling that the economy is weakening somewhat and more Fed rate increases are not needed.
Housing. The housebuilding industry is booming, yet home prices on average fell for the second month in a row. With interest rates up, no one wants to sell their house, so supply is low. But sales of newly constructed homes are booming. Today, 34% of home purchases are made with cash.
Manufacturing. Orders for new manufacturing equipment and new hires by manufacturers are down. It does not appear that manufacturers are about to ramp up production and sales.
Inflation. Inflation in June was 3%, down from a 9% peak a year ago. The U.S. ranks second behind Japan in having the lowest inflation rate among the largest developed economies in the world. However, the Fed also looks at “core inflation” which excludes volatile food and energy costs. Core inflation rose 4.8% in June. Robert Armstrong, the Financial Times U.S. financial commentator believes the Fed has a “rule book” which says that the Fed “shall aim for two percent inflation.” It may be very tough to get there.
Conclusion: We need to see what happens in the next 2-5 months and what data the Fed will be reviewing in September, November and December. The mixed signals now actually seem to indicate that the U.S. economy is in fact coming in for a “soft landing” with lower growth. This would be great. In addition, 3% inflation and 5%-6% mortgage rates are not all that horrible. Many of our readers paid mortgage rates of 15% or more in the early 80s. If the Fed is insistent on getting to 2% inflation and keeps raising rates, that could cause a more severe recession. We won’t know what the data will be and what the Fed will do until this fall. Stay tuned. And stay invested. Markets have gone up significantly in the last eight weeks once the bank failures ceased and the debt ceiling crisis was resolved. If you have any questions about the markets or the economy, please let us know.