2023 3rd Quarter Economic Update
Economic Growth (GDP): The U.S. economy continues to defy restrictive monetary policy. Real GDP growth surged to 4.9% (quarter over quarter) in the third quarter of 2023. Personal consumption (which grew 4%) is a signal that the uptrend in GDP growth will continue. As a result, it is probable additional monetary tightening by the FED may be necessary in the fourth quarter of 2023. We believe the impact of higher interest rates has yet to be fully felt in the economy but it will become evident in early 2024 as growth slows significantly. Additionally, Household Savings is rapidly being spent down (more below) and this will weigh on future growth as well. Having said that, the debate now centers on when (and how much) the Fed will start cutting rates. We expect the Fed to cut aggressively in mid-2024 and 2025 as inflation normalizes and economic growth weakens, with the first cut coming in July 2024. This in turn will trigger a growth rebound in 2025 and the following years, supported by robust supply-side expansion.
Labor Market: Growth in nonfarm payroll employment accelerated to 2.1% annualized in the three months ending September 2023, up from 1.6% in the prior three months (April to June). The data raises the possibility that the prior downtrend in job growth, which started around the beginning of 2022, has paused. This is not entirely surprising considering the uptick in GDP growth in recent quarters. We expect job growth to begin slowing again in the first half of 2024 as GDP growth slows. At the industry level, job growth in healthcare and leisure remains very strong at 4.3% annualized in the past three months; this category accounts for over half of aggregate job gains over that period. But with the post pandemic normalization of consumer spending patterns wrapping up, fast growth in this category is not likely to last for long. The continued strength in job growth has been driven more by expanding labor supply than labor demand. This is reflected in the continued downtrend in wage growth (4.2% year over year in the third quarter, down from 4.5% at the start of the year). Labor force participation continues to trend higher. The excesses of the post pandemic labor market have normalized to a great degree. The job openings rate averaged 5.6% in the last three months, down from a peak of 7.2% in early 2022. The quits rate has returned to normal. Layoffs are still a bit below normal, as firms are still keen to hold onto workers given the difficulty hiring seen in 2021 and 2022.
Consumer spending: Real consumption growth jumped to 4% in third-quarter 2023, up from 0.8% in the second quarter. Growth in consumer services is no longer outperforming goods, as spending patterns have reverted most of the way to pre-pandemic normal. While surveys report low consumer confidence, this is not reflected in consumer behavior. Commensurate with the outsize consumption growth, the personal savings rate dipped to 4% in the third quarter, down from 5.2% in the second. Previously, the savings rate had been ticking upward. Personal savings remains significantly below the pre-pandemic (2019) average of 7.4%. Households are still dipping into excess savings accumulated during the pandemic, when savings rates were exceedingly high. Also, growth in credit card balances has been high (up about 11% year over year in October). As excess savings become progressively depleted, we expect savings rates to drift back to pre-pandemic levels, leading to slowing consumption growth. These excess savings could be entirely depleted by mid-2024, based on the current trend. Also, the weakening in GDP growth and following deceleration in job growth that we expect should induce more cautious behavior.
Inflation
Our inflation forecasts have not changed much compared with a quarter ago. Core inflation continues to trend down despite an acceleration in GDP growth, which signals that underlying inflationary pressures are fading fast. We expect inflation to glide back to normal in 2024, with the Federal Reserve slightly undershooting its 2% target in the following years. A combination of easing supply constraints and Fed tightening is winning the battle against inflation.
As we navigate the fourth quarter of 2023, the macroeconomic outlook is becoming clearer. We continue to advise businesses to be cautious of excessive spending initiatives during this period. Tightening bank lending standards and potential funding gaps could complicate business operations. Key takeaways to prepare for the coming downturn:
Assess your cash needs over the next several quarters.
Focus on the products and services that drive the most profit.
Gaining market share will pay dividends through 2024 and even more so in the recovery that follows.
Retailers should be lean on inventories going into the Christmas season.
Here is a summary of the key metrics we follow:
Retail Sales – which make up over 70% of US GDP – US Total Retail Sales have risen to record levels, albeit at a slowing pace. However, inflation-adjusted Retail Sales have plateaued for over a year as consumers feel the pinch of rising prices. The cumulative impact of inflation has stalled consumer markets. This is evident in the inflation-adjusted Retail Sales data, which has been moving sideways since early 2022. Additionally, high interest rates have put a damper on demand for large-dollar purchases and strained the finances of some consumers. However, with decreasing inflation, at tight labor market and improvement in income, any decline in Retail Sales will be short-lived. Individual markets will react differently to the recession, and we expect a mild decline for this metric.
Construction – US Single unit housing starts have been declining over the past year. However, there are now signs that housing may be entering the recovery phase. While mortgage rates remain a limiting factor, there is an underlying for housing, which will encourage buyers and builders to adapt to higher rates over time. Low vacancy rates, along with record-high employment and income levels, suggest pent-up demand for housing. Additionally, US New Home Median Sales Price came in at 12.3% below the year-ago levels in September 2022, the biggest drop since 2009 during the Great Recession, making home prices more affordable.
Manufacturing – Manufacturing, as with the other major sectors, is trending down. Downside pressure, as signaled by the previous interest rate rise and softening consumer financials, continues for manufacturing markets. 2024 is expected to be a year of decline for most manufacturing markets and our overall outlook for the sector is little changed. We continue to expect this market to decline through 2024, into 2025.
Specific Items to Consider at the Macro Level are the same as last quarter:
Retail Sales:
Consumers continue to rely more heavily on debt to fund purchases; credit card balances and delinquencies are rising but not yet a serious concern.
Total household credit card debt continues to rise from the third quarter of 2022. However, credit card delinquencies only rose 2.75% in the third quarter which is well within the normal range for the prior decade.
Relative to 2022, consumers and customers will be less accepting of price increases in 2023 as the economy contracts. Sales and marketing tactics will need to be adjusted accordingly.
Focus on honing your competitive advantages and communicating them to clients/consumers to maximize your margins.
Construction:
Low vacancy levels suggest an underlying shortage of housing. In the near-term, this will limit any further decline in housing starts. As affordability constraints are alleviated towards the end of 2023, plan on recovery in construction into 2024.
Stay on top of changing demographic trends, as they will drive much of the activity in this market.
With construction expected to rise in 2024, ensure your quality control keeps pace with rising volume.
Manufacturing:
Domestic manufacturing will benefit from nearshoring and onshoring in the coming years. Look beyond your plans for the near-term downturn and check to see if your business is prepared for recovery and rise in 2025.
Be aware orders are more likely to be cancelled on the back of this business cycle in 2023 so do not overemphasize your backlog.
The labor market remains tight. Think carefully before cutting your workforce as it could do more harm than good when economic growth returns in 2025.
Consumers may grow more cautious as the downturn progresses. What can you do to convince them that your products are still worth the cost?