The bad news is time flies. The good news is you're the pilot.
-Michael Altschuler
There’s a saying in the world of Economics, “Don’t Fight the Fed.” Meaning of course the Federal Reserve Bank of the United States. What it’s specifically referring to when it says “fight” is don’t take a position on an investment that relies on the economy reacting the opposite of what the Fed is trying to induce. If the Fed is cutting interest rates, don’t invest in things that benefit from rising interest rates and vice versa. For the last year and a half almost, the Fed has been raising interest rates and the general consensus has been that these increases, while designed primarily to tame much too high inflation, were going to have the unfortunate side-effects of raising unemployment and probably pushing us into a recession. Both of these things may still come to pass, but the overall economy seems to be fighting the Fed pretty effectively so far.
GDP for the first quarter of 2023 rose at 1.3%. That’s not a high number, but it’s higher than the expected 1.1%. The GDP Now estimate put out by the Federal Reserve Bank of Atlanta is currently showing positive growth for the second quarter of this year as well – the current 2.2% estimate (as of June 7th) is even higher than it was a few weeks ago. Once again, this isn’t soaring growth but it’s a far cry from recessionary. Meanwhile on the jobs front, 339,000 people were hired in May and after upward revisions for March and April, those two months came in at 217,000 and 294,000 respectively. Job creation has actually been growing month to month. The unemployment rate did tick up to 3.7% after ticking down to 3.5% in April, but that looks technical at least so far, the rate has been bouncing around between 3.4% and 3.7% since last November. Until it pushes above 4% and we get a month where the job creation doesn’t surprise us to the upside, it’s going to be difficult to say we have an unemployment problem. Meanwhile, the markets jump around all over the place but are still below their previous highs from right around the first of last year. The debt ceiling worry caused some sell offs in late May, but those were quickly reversed on Friday June 2nd with the Dow rising over 700 points. The good jobs number and the passage of a debt ceiling agreement seemed to cause this rally. This was the largest one-day gain in the Stock Market this year and perhaps signals that fears of a recession in 2023 may be greatly exaggerated. Goldman Sachs also came out recently and downgraded their chances of recession in 2023 to only 25% - for whatever that is worth.
But “Don’t Fight the Fed” remember? The assumption that we were going into a recession in 2023 has now been replaced by the assumption that we will not – but that is informed by the assumption that the Fed is done raising rates. I don’t believe the Fed is going to raise rates at their June meeting, which may have concluded before this newsletter hits your inbox, but all bets are off for later in the year or maybe early next year. If inflation keeps coming down then I don’t expect rates to go up, but if employment and wages stay strong, I’m not sure how much inflation can drop – at least in the longer term. In the shorter term, I think we'll see inflation continue to go down over the next few months. A huge portion of The Fed’s inflation calculation contains what is called “Owner Equivalent Rent” which tries to take into account the rising price of real estate and its effect on homeowners vs. renters. This one component makes up 25% of the CPI figure we all see reported each month. But the Bureau of Labor Statistics, that calculates that number, uses a 12-month average of housing prices, not a month-by-month change. As the Fed raised rates housing prices started to drop toward the end of last year, but the full effect of that drop in housing prices is just starting to show up in the CPI (and the PPI, which is the Fed’s preferred inflation gage.) According to the Case-Shiller Housing Price Index the price of homes (Nationally) has dropped by about 4% over the past year. As we go through the summer, I expect CPI to drop even more as that full impact is felt.
But what about longer-term? If recession is off the table for 2023, what about 2024? The number of open jobs appeared to be dropping and a tighter job market would mean those losing their jobs (and several large companies have announced downsizing as of late) can’t quickly get another. After peaking at over 12 million unfilled jobs in March of 2022 that number fell below 10 million in April of this year. But it then unexpectedly rose back above 10 million in May! Was this a statistical abnormality within an overall downward slope, or does it show actual growth in job openings? We will only find that out over the next few months. Also, while certain segments of the economy, like big box retailers and large banks warn about lower earnings in the second half of this year, other companies and industries are still recording record profits. My fear isn’t recession, not for 2023 because I think it’s too late in the year with these positive numbers to push us into one before the Holidays, and not for 2024 because I think any actual recession will be short-lived. My fear is a jump back up in inflation as 2024 goes on. The Fed has been fighting this inflation with higher rates but as high as rates are compared to the last decade, almost all of us out there remember them being significantly higher than this in our lifetimes – and not just in the late 70’s and early 80’s recessionary period even during the boom times of the ‘90’s. The problem is if rates stay where they are and inflation starts up again, they may have to go much, much higher – and that worries me far more than any recession. We’ve built an economy on the availability of cheap credit and so far, the Fed’s increases haven’t hurt that economy very much because everyone assumes it will be short-lived, they’re locked in a low mortgage rate, or they can just put off using their equity line until rates drop back down. But the longer those rates stay high, the more adjustable-rate mortgages reset, more people have to move or do home improvements and can’t wait for lower rates, and the more impact that has on the overall economy. A mild recession, slightly higher unemployment, a Fed that cuts rates in 2024 to pull us out of that recession – that’s what we’re all expecting. Rates above 5% for more than a year, perhaps going higher before going lower, is not. So far, the economy has been able to fight the Fed, but it’s not a one round exhibition match – it’s a war of attrition and the Fed will eventually win.
I’ve mentioned my daughter Jade’s high school graduation several times in these newsletters, but it became official on Saturday the 3rd. She also got her school’s Physics award, and a Sportsmanship Award from the Basketball team (she unfortunately broke her foot half-way through the season but went to every game to cheer on her team.) That’s obviously the picture above – she’ll be attending Brandeis in the Fall while her sister finishes her last year at Mount Holyoke, so empty nesters in the Keeling house in September. Enjoy the beginnings of summer, let us know if you need anything.
