OSAGYEFO MAZWAI: Fed keeps foot on the US economy brake pad

The US federal open market committee (FOMC) met recently and decided to keep interest rates unchanged, a move broadly expected by the market.

The interest rate trajectory in the US is one of the factors the SA Reserve Bank’s monetary policy committee (MPC) considers when making interest rate decisions.

The Fed is expected to cut interest rates in September when the FOMC concludes its meeting one day before our Reserve Bank announces its interest rate decision following its MPC meeting.

Consensus expectations of rate cuts have shifted materially since the release of weaker-than-expected economic data out of the US at the tail-end of last week.  

The Fed is facing a significant balancing task in its attempt to achieve its dual mandate of pursuing maximum employment (through enhancing economic growth) and maintaining price stability.

The US continues to battle inflation, with the current level above the central bank’s target of 2%. The same is true for its preferred gauge for inflation, core personal consumption expenditure inflation.

Tight monetary policy conditions appear not to have transmitted as aggressively as the hiking cycle would have suggested. This was primarily driven by the fiscal stimulus in the US supporting savings and preserving/enhancing consumption expenditure despite high interest rates.

This was evident in second-quarter GDP growth, released recently, which showed the US economy grew at an annualised rate of 2.8%, which signals robust economic growth for 2024 despite high interest rates.

This is among the reasons the Fed opted to keep its foot on the brakes as it attempts to induce slower growth, which should contain inflation further.  

Developed markets broadly speaking had more difficult conditions than emerging markets in trying to contain inflation. Europe, in particular, felt the impact of the Eastern European conflict harshly. Europe’s geopolitical position on Ukraine led to energy challenges (due to its reliance on Russian gas), resulting in high energy prices, with few alternatives at the time.

Global food prices also rose due to the role Ukraine plays in the agricultural commodity economy. These two dynamics materially affected the cost of living in Europe.  

Recent economic growth outcomes in Europe have been starkly different from those in the US, with high inflation and restrictive monetary policy conditions achieving their intended outcomes. It is perhaps for this reason that the European Central Bank has already started cutting interest rates. The Bank of England is the latest developed market central bank to cut interest rates as the UK also faces a precarious macroeconomic environment.  

As the Fed keeps its foot on the brakes there are a number of reasons to be concerned about economic growth projections for the US. Weaker-than-expected economic data recently suggests the market is also starting to be concerned.

The IMF and consensus forecasts see growth above 2% for 2024, which may be optimistic. Restrictive monetary policy conditions should increasingly become a handbrake on economic activity in the US.

There is some anecdotal evidence of this in increasing delinquency rates, particularly in the unsecured lending space such as credit cards. This shows some strain on the part of the US consumer.

Concerning high rates, a colleague of mine highlighted a graph recently that showed increasing delinquencies in the commercial mortgage space in the US, also reflecting strain in the system.   

A few months ago I mentioned in an article on US economic dynamics that the labour market was the key leading indicator of a potential economic slowdown in the US. Following the US FOMC meeting federal reserve chair Jerome Powell was quoted as saying “the downside risks to the employment mandate are real now”.

The normalisation of the labour market, which equates to a situation where the demand and supply of labour is more balanced, implies that job openings should continue to trend down where the opportunity to get employment is diminishing. Jobs quits data trending down suggests the same.

We have seen a rise in the unemployment rate in the US over the last few months, now sitting at 4.3% (up from 3.7% at the beginning of the year). Increasing unemployment has the effect of reducing consumer demand based on falling consumer confidence as well as less available income for expenditure.  

Recent labour market data showed a triggering of the Sahm rule, another negative signal for the state of the US economy. In essence, the outlook for the US economy may not be as robust as consensus forecasts suggests, and it is perhaps for this reason that commentary from the US FOMC following its meeting suggests that the interest rate cutting cycle could induce a “hard-landing” in the US.   

SA trade, industry & competition minister Parks Tau recently attended the African Growth & Opportunity Act (Agoa) forum in the US, at which he mobilised support on Capitol Hill for SA to remain a beneficiary of Agoa. The significance of the move, other than keeping advantageous tariffs on some of our exports to the US, is the maintenance of price advantages. This should, to some extent, cushion SA exports from the full effects of an economic downturn in the US.  

However, our best cushion remains the economic structural reform programme. We have read time and again of the impact secure energy and logistics networks can have on economic growth going forward. This was captured in the Bank’s view that risks to economic growth in SA are balanced. That view should change over time, with risks to growth being on the upside.

If the Bank cuts rates this will be a further catalyst for economic growth in SA. The Bureau for Economic Research (BER) captures this in its view that SA’s economic growth could be 2.2% in 2025, a sizeable uplift from current projections. 

• Mazwai is an investment strategist at Investec Wealth & Investment International.