In a striking turn of events, the U.S. economy outperformed expectations with a 4.9% growth in the third quarter of 2023, accelerating from a 2.1% growth in Q2. This robust expansion signifies the fastest pace of growth since the final quarter of 2021 and marks the fifth consecutive quarter where the economy has grown at an annualized rate of 2.0% or better. Let’s delve into the economic indicators and sectors that are fueling this growth, as well as the implications for Federal Reserve policy and the financial outlook for 2024.
Consumer Spending and Durables Lead the Charge
The engine driving this economic expansion remains the American consumer. With consumer spending clocking in at a 4.0% increase, it’s evident that a buoyant labor market and favorable holiday spending during the Fourth of July and Labor Day have had a positive impact. Durables—largely discretionary spending—emerged as the strongest category, showing an impressive 7.6% growth. Services weren’t far behind, with a solid 3.6% increase.
Housing Sector Finds its Footing
In another encouraging sign, the housing sector appears to be stabilizing. This marks a pivotal moment as residential investment grew by 3.9%, posting its first positive numbers since Q1 2021.
Nonresidential Investment: A Mixed Bag
The report wasn’t entirely rosy, however. Nonresidential investment contracted by 0.1% following a 7.4% growth in the second quarter. While structures investment grew modestly by 1.6%, equipment saw a decline of 3.8%. Interestingly, Intellectual Property Products (IPP) rose by only 2.6%, making it the weakest growth in IPP in the current expansion cycle.
Inventory Accumulation and Government Spending
Inventory growth skyrocketed from $14.9 billion in Q2 to $80.6 billion in Q3, contributing 1.3 percentage points to GDP growth. On the government spending front, an uptick of 4.6% was observed, fueled mainly by federal defense spending, which grew by 8.0%.
What This Means for the Fed
Contrary to some expectations, these GDP figures are unlikely to move the needle significantly for the Federal Reserve. With final demand and core PCE inflation softer than anticipated, it doesn’t make a compelling case for immediate Fed tightening.
The Outlook for 2024: A Soft Landing?
While the U.S. economy has shown remarkable resilience and acceleration in 2023, there are signs that this may not be sustainable. Various factors, such as the resumption of student loan repayments, potential labor strikes, and a government shutdown, could act as speed bumps. Furthermore, tighter financial conditions, evidenced by climbing interest rates, could serve as a headwind for business investment and consumer spending.
Still, it’s worth noting that consumer loan delinquencies are more prevalent among lower-income consumers. This demographic may have a higher marginal propensity to spend but contributes a smaller share to total spending. Hence, the economic outlook remains cautiously optimistic, with expectations of a soft landing—meaning below-trend but positive growth—in 2024.
Up Next
As we look to the week ahead, several key data points are poised to influence our understanding of the Q3 GDP numbers. Keep an eye out for September’s construction spending and factory orders, as well as the October employment report and vehicle sales. These will offer further clarity and could potentially shift economic forecasts.
The Hot Zone: Anticipating the FOMC’s November Decision on Interest Rates
As we head into this crucial week, all eyes are on the Federal Reserve’s Open Market Committee (FOMC). The burning question is whether we’ll see a change in the federal funds rate, which currently stands at a target range of 5.25-5.5%. But if you’re betting on a rate hike this November, you might want to think twice.
Recent rhetoric from key FOMC players suggests a cautious approach to any further tightening of financial conditions. The market itself seems to be doing some of the heavy lifting here, significantly reducing the necessity for the Fed to act imminently. Going into last week, just before the blackout period commenced, the odds of an interest rate hike were priced at less than 20%. That’s not exactly a ringing endorsement for imminent action.
What’s more telling is the silence from the committee’s leadership. Neither Federal Reserve Chair Powell, Governor Waller, nor New York Fed President Williams made a compelling case for a November rate hike. The collective stance appears to be one of watchful waiting rather than urgent action.
Don’t expect the Fed to be the bearer of dramatic news this week. The FOMC seems to be in no rush to make a move, giving them room to assess the landscape as we head into the year’s final stretch. It’s a tense moment, to be sure, but it’s also one where caution reigns supreme. Stay tuned, as this is undoubtedly the hot zone for financial markets this week.
Macro Market
Growth
I’m anticipating a soft landing for the U.S. economy. My projections show that GDP growth will be 2.0% (4Q/4Q) for this year, dip to 0.7% in 2024, and rebound to 1.8% in 2025. This reflects an upward adjustment of about 0.5 percentage points for 2023 and 0.7 percentage points for 2024 compared to my earlier forecasts.
Inflation
I’ve revised my inflation outlook. I now expect PCE inflation to drop to 2.3% year-over-year in the second half of 2025, which is a delay of about two quarters from my previous mild recession baseline. For the four-quarter change in core PCE inflation, I’m expecting 3.6% in 2023, 2.8% in 2024, and 2.2% in 2025.
Federal Reserve
After the pause in September, I think the Fed will maintain this stance in November. However, considering the robust incoming data, I’m projecting an additional 25 basis point rate hike in December, bringing the terminal target range to 5.50-5.75%. The decision is likely to be a close call. I’m also predicting the first rate cut to occur in June 2024, followed by quarterly 25 basis point reductions. This would total 75 basis points of rate cuts in 2024 and an additional 100 basis points in 2025.
Economic Calendar
Briefing.com has a good U.S. economic calendar for the week. Here are the main U.S. releases.
Briefing.com
Last Week’s Numbers
Review Last week’s numbers here.
Earnings
Source I/B/E/S data from Refinitiv
Aggregate Estimates and Revisions
- 23Q3 Y/Y earnings are expected to be 4.3%. Excluding the energy sector, the Y/Y earnings estimate is 9.7%.
- Of the 245 companies in the S&P 500 that have reported earnings to date for 23Q3, 77.6% have reported earnings above analyst estimates. This compares to a long-term average of 66.5% and prior four quarter average of 73.6%.
- During the week of October. 30, 164 S&P 500 companies are expected to report quarterly earnings.
Global Spotlight
Certainly, I can rewrite these summaries and provide a short header for each.
Gaza Conflict Escalation
Israel’s military is intensifying ground operations in the Gaza Strip, focusing on major cities like Gaza City. This could lead to the establishment of forward operating bases. Iran and its affiliates are signaling the possibility of broader regional conflict by harassing U.S. forces in Syria and Iraq. The U.S. is deploying defensive assets to deter such an escalation.
South Africa’s Budget Dilemma
Finance Minister Enoch Godongwana will present South Africa’s midterm budget on November 1 amid political pressures. President Cyril Ramaphosa is reluctant to implement spending cuts despite a potential budget shortfall of up to 80 billion rand ($4.3 billion). This comes as the ANC faces declining support and Ramaphosa prepares for the 2024 reelection campaign.
IMF’s Visit to Pakistan
An IMF team will visit Pakistan on November 2 to consider releasing a $710 million second tranche of a $3 billion loan. Pakistan’s State Bank is optimistic due to previous efforts in increasing revenue and managing debt. However, slow external inflows and natural gas tariff hikes may complicate the review.
Ukraine Peace Summit
Officials from approximately 55 countries will convene in Malta to discuss Ukraine’s 10-point peace plan with Russia. The increasing number of participants suggests growing international support for Ukraine. However, China’s absence from the summit, given its close ties with Russia, could be a setback.
Stratfor.com
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