High interest rates will weigh on economic activity in 2023 and 2024
The US economy has outperformed its peers in 2023 and will likely continue to do so in the near term. While FrontierView still expects the US to experience a slowdown as a result of high interest rates, this is likely to be mild; the US is therefore likely to provide a source of resilience in an otherwise sluggish global economy. Multinationals should ensure they are capturing opportunities of growth, notably in sectors benefiting from government incentives such as clean energy and semiconductors. Consumer-facing multinationals should also be careful not to overestimate the impact of lower inflation on consumer spending and confidence, across all segments: lower savings and student loan repayments will weigh on disposable income.
Overview
- Economic activity in the US proved more resilient than expected in the first half of 2023; the economy grew by 2.0% in Q1 and 2.4% in Q2 (%QOQ, seasonally adjusted at annualized rate).
- The US’s growth, which has outperformed that of its peers, has been supported by consumer spending, which has remained strong thanks to a robust labor market and a high stock of excess savings.
- A sluggish investment outlook is being partially offset by strong capital expenditure in sectors benefiting from incentives from the Inflation Reduction Act and the CHIPS Act, such as semiconductors and electric vehicles.
- FrontierView has revised up its GDP growth forecast for 2023 from 1.2% to 2.0% YOY, and for 2024 from 0.7% to 1.0% YOY.
Our View
So far in 2023, the US economy seems to have made light work of the second most aggressive monetary tightening cycle in its history. Consumer spending, the engine of the American economy, has been robust and has offset weakness in other parts of the economy, particularly those more sensitive to interest rates such as real estate. Strong consumption, particularly of services, has been supported by a historically strong labor market (the unemployment rate continues to hover near record lows), as well as a high stock of excess savings, a product of pandemic-era stimulus programs and forgone spending.
Several factors will work together to slow the growth in consumer spending, however. Indicators show that excess savings have all but disappeared, eroded by inflation and months of negative real wage growth. In turn, American consumers are increasingly turning to credit to fund their spending—total credit card debt recently reached US$ 1 trillion for the first time ever. Meanwhile, the resumption of student loan repayments, which had been subject to a moratorium for three years, will deduct around US$ 400 of monthly disposable income for around 30 million Americans, forcing many to cut back on discretionary spending. Finally, unemployment is set to rise in the US. While this is set to be a minimal increase, thanks to a still-high buffer of unfilled job vacancies, the prospect of a weaker labor market will weigh on spending and consumer confidence. Still, unemployment will remain low by historical standards. This, paired with lower inflation and a return to positive real wage growth, will help offset some of the headwinds and provide support to consumer spending.
The US Federal Reserve’s historically aggressive tightening cycle appears to be coming to an end, following 11 interest rate hikes in 12 meetings. However, rate cuts are unlikely to occur before Q1 2024 and will likely be slow and cautious. Crucially, interest rates are highly unlikely to return to their ultra-low level of the 2010s (the Fed’s own projections show rates falling to 2.50% by 2025 and then remaining there beyond that). Business investment and demand for consumer durables will likely remain soft as a result, preventing a strong rebound in manufacturing in 2024. Housing and related sectors, such as furniture and white goods, will also face a muted outlook, although lower home prices and falling mortgage rates in H2 2024 will allow for a mild recovery late into 2024 and early into 2025. Commercial real estate is on particularly shaky ground given high interest rates, lower demand for office space, and a high amount of maturing debt. Still, the investment side of the economy contains some bright spots, notably warehouse and factory construction, which are experiencing a boom as a result of strong business incentives and aggressive federal spending by the US government, mostly concentrated in sectors such as clean energy, electric vehicles, and semiconductors.
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