U.S. markets have rallied this year, albeit with some pullbacks over the last week. The Dow Jones saw a 2.38% decline, the S&P down 0.27%, and the NASDAQ ended up 1.27% from a week earlier. Additionally, the Federal Reserve is beginning to consider slowing rate hikes as inflation is showing tentative signs of weakening and recession probabilities are gradually declining. This brings us to the U.S. debt ceiling, which is quickly encroaching. Conversations are set to begin in Congress on tackling this, and the Treasury is imploring that they do so urgently. In all, the markets and economy feel as though they’re leveling out to a certain extent—is this the calm before the storm or signs of sustainable healing?
Federal Reserve officials are weighing slowing the pace of interest rate increases yet again from the December hike of 50 basis points, which followed four consecutive months of 75 basis point increases. In recent statements, officials have said that potentially slowing to 25 basis point increases could allow them more time to assess the efficacy of their strategy, as well as determine a reasonable stopping point/pivot. Chart 1 below from the St. Louis Fed’s FRED database shows that the effective federal funds rate is still roughly 100 basis points below rates going into the Global Financial Crisis of 2008/2009. For reference, Goldman Sachs Research is anticipating three more 25 basis point hikes before capping out at the 5.00-5.25% level and holding through year-end.
Chart 1: Effective Federal Funds Rate (01-01-2007 through 12-01-2023)
For the past year, the topics of recessions and inflation have been at the forefront of nearly every conversation surrounding the global economy. In a recent survey conducted by Goldman Sachs Research, which interviewed 400 respondents, 57% expect a recession in 2023. Goldman’s economists, on the other hand, do not expect a recession, citing a 35% chance for 2023. Additionally, there are tentative signs that the sticky inflation from 2022 could be decreasing, though that does not necessarily mean that it will fall evenly across those categories. For example, tight labor markets may be unable to slow increasing wages, and commodity supply shocks are possible. Chart 2 below shows annual core inflation from 2016 through 2023 across several geographical regions.
Chart 2: Annual Core Inflation across geographical regions (2016 through 2023)
Policy and Politics
This week, Congress is returning from its short recess and is expected to focus on the typical partisan issues. A Democratic senate will focus on Pres. Biden’s judicial nominees and a Republican house on investigations into the administration on various topics. However, the most pressing issue on Congress’s plate is the ever-approaching debt ceiling, and a path forward for the U.S. President Biden has reiterated that he will not negotiate on debt limits as “[raising the ceiling is the] obligation of this country and its leaders to avoid economic chaos.” House Speaker McCarthy is willing to use the debt ceiling conversation as leverage toward spending cuts, stating, “[we’ll] discuss a responsible debt ceiling increase to address irresponsible government spending.” Regardless of negotiations and concessions, the debt ceiling conversation needs to be sorted out sooner rather than later, as the Treasury would be unable to prevent default if the limit is breached. According to Janet Yellen, the Treasury’s systems are not designed to give priority to bondholders after borrowing limits are exceeded.
What to Watch
- Monday, January 23rd, 2023
- 4:30PM: U.S. Retail Gas Price (Prior: $3.366/gal.)
- Thursday, January 26th, 2023
- 8:30AM: U.S. Real GDP Quarter over Quarter (Prior: 3.20%)
- 10:00AM: 30 Year Mortgage Rate (Prior: 6.15%)
- Friday, January 27th, 2023
- 8:30AM: U.S. Core PCE Price Index Year over Year (Prior: 4.68%)
- 10:00AM: U.S. Index of Consumer Sentiment (Prior: 64.60)
- 10:00AM: U.S. Pending Home Sales Year over Year (Prior: -37.79%)