For the first time in twenty years, the U.S. economy is “back to normal,” but according to IBM Vice Chairman Gary Cohn, the market is outpacing the expected rate of interest rate reductions.
According to CME Group’s Fed Watch tool, the market is narrowly pricing a first rate reduction from the Federal Reserve in May 2024, with cuts of about 100 basis points anticipated throughout the year.
The Federal Reserve halted its historically aggressive cycle of monetary tightening in September 2022, raising the target range for the Fed funds rate from just 0.25-0.5% in March 2022 to 5.25–5.5%.
Cohn, a former director of the National Economic Council and chief economic advisor to former US President Donald Trump from 2017 to 2018, believes that the Fed won’t start to reverse its stance until at least the second half of 2019. This is in line with other major central banks that have started hiking rates earlier.
“When you arrive at the party last, you don’t want to depart early. On stage at the Abu Dhabi Finance Week conference on Wednesday, Cohn told Dan Murphy, “You have to be the last one to leave the party, so the Fed is going to be the last one to leave this party.”
I firmly think that the Fed won’t change interest rates during the first half of 24 because the economy will undoubtedly contract before it does. Perhaps there will be hints of some forward guidance of lower rates [during the third quarter].
October saw a 3.2% increase in the U.S. consumer price index over the previous year, which was unchanged from the previous month but significantly lower than the pandemic-era peak of 9.1% in June 2022.
The U.S. economy has so far shown resilience in the face of a sharp increase in interest rates and has avoided a recession that was widely expected. This has led to speculation that the Fed can pull off a storied “soft landing” by bringing inflation down to its target of 2% over the medium term without causing an economic downturn.
Cohn emphasized that despite tightening financial conditions, consumer spending is continuing and that U.S. consumer debt has surged to record highs of over $1 trillion. The economy as a whole and consumers are “back to a normal, but we all forgot what normal is,” he said.
“Normal hasn’t existed for more than 20 years. He stated, “We experienced more than ten years of zero interest rates, zero interest rates, and quantitative easing while the Fed attempted to generate inflation.
“From the Fed’s inability to produce inflation—we now know that the market can, but the Fed cannot—to our current attempt to undo a more recent inflationary shock. We’ve returned to the normal world.
He pointed out that the yield on the 10-year U.S. Treasury has moderated from the 16-year high of 5% recorded in October to about 4.3% as of Wednesday morning. The yield’s 100-year average is approximately 4.5%. In the meantime, inflation is “moving back towards the mean,” which is 2.5% to 2%.
Thus, if you look at any economic data, it’s all kind of returning to its very long term average. We appear to be entering that phase at the moment if you look at these generational cycles that span more than 100 years, Cohn continued.
