US economic outlook November 2023

Autumn breeze will turn into winter chill: cost fatigue, high interest rates and slower job growth are set to push US growth below trend in coming quarters

• Outlook: As the weather cooled this fall, so did the dynamics within the US economy. Softening labor market conditions, lower consumer and business enthusiasm, and easing inflation pressures in October confirmed the economy has lost some heat after a stellar summer. While the economy recorded strong growth of 4.9% annualized in Q3, economic activity is set to slow noticeably heading into 2024. Cost fatigue — the perception that the cost of everything is higher than pre-pandemic — rising debt servicing costs and slowing job growth will dampen consumers’ and businesses’ ability and desire to spend and invest. While a soft landing remains our base case, we see the odds of the US entering a recession in the next 12 months at around 50%. We expect real GDP growth will drift below trend growth through Q2 2024 with real GDP likely to grow a muted 1.4% in 2024 following expected growth of 2.4% in 2023.

• Labor market cooling: The October jobs report showed a clear softening in labor market trends with a markedly slower 150,000 pace of job creation, wage growth cooling to 4.1%, and an uptick in the unemployment rate to 3.9%. Job gains have also become significantly less broad based and jobless claims are trending higher in a sign that labor market conditions are turning less favorable. While we continue to expect further hiring restraint and strategic resizing decisions along with continued moderation in nominal wage growth, we don’t anticipate a severe employment pullback. We foresee the unemployment rate rising toward 4.6% by the end of 2024.
  
  
• Careful consumers: The soft retail sales performance in October pointed to more measured spending by US consumers after a summer spending splurge. Consumer outlays are likely to cool in coming quarters as increasing pressure from elevated prices, higher interest rates and the restart of student loan repayments lead to more spending scrutiny. Slower employment and wage growth will constrain disposable income growth even as inflation falls faster than pay growth. We project that consumer spending will grow around 1.1% in 2024 after an expected 2.2% advance in 2023.
  
  
• A welcome inflation relief: The downside surprise in Consumer Price Index (CPI) inflation in October confirmed that a disinflationary impulse remains firmly in place. Headline CPI inflation fell 0.5 percentage point (ppt) to 3.2% year over year (y/y) while core CPI inflation fell 0.1ppt to 4.0% y/y — its slowest pace since September 2021. Slower consumer demand, reduced housing rents, lower profit margins, easing wage growth and restrictive monetary policy represent the ideal disinflationary combo heading into 2024. Barring adverse geopolitical developments in the Middle East, headline CPI inflation will likely close 2023 around 3.3% y/y in December and core inflation around 3.8% y/y. We foresee headline and core CPI inflation around 2.3% y/y in Q4 2024.
  
  
• Higher for longer: The Fed maintained the federal funds rate unchanged at 5.25%–5.50% at the November Federal Open Market Committee (FOMC) meeting but kept the door open to additional tightening if needed. Recent signs of softer inflation and consumer demand suggest the Federal Reserve is well positioned to remain on hold at the December policy meeting. We reiterate our long-standing view that the Fed’s tightening cycle is likely complete and while Fed policymakers won’t pre-announce it, ”policy recalibration” will be on their New Year’s resolution list. With the Fed’s favored inflation gauge — core personal consumption expenditures (PCE) inflation — likely falling below 2.5% in the spring, we expected the Fed will deliver its first rate cut in June 2024. We anticipate a total of 75 basis points (bps) of rate cuts in 2024 and another 150bps in 2025, but stress that a faster economic slowdown amid lower inflation would prompt more aggressive rate cuts next year.
  
  
• Risks: Non-inflationary growth supported by a robust labor market, consumer resilience and stronger productivity growth are undoubtedly the main upside risks to the economy. On the flip side, inflationary growth or a supply-induced inflationary shock could prompt the Fed to overtighten monetary policy, which could lead to a rapid and disorderly tightening of financial conditions. In turn, this would raise the risks of a pronounced recession. Globally, the Israel-Hamas war has emerged as a key downside risk as an escalation of the conflict could significantly weigh on the global economy, with a spike in oil prices and sharp tightening of financial conditions.