Where is the Economy Headed?

You know me, I continue to pay close attention to interest rates and the economy overall.  I went down a serious rabbit hole this weekend reading all about the collapse of Silicon Valley Bank and Signature Bank, which is causing serious ripples. More on that later. First I want to talk about economic indicators for what’s ahead. People are still spending, companies are still hiring.  Many analysts still expect a mild recession in the middle of the year, but with the continued strength of consumer spending and business optimism/continued hiring, projections are becoming more optimistic. This despite inflation that continues, albeit at a slower pace.
 
Some highlights on the economy:

• The economy grew 2.7% in Q4 of 2022, against an estimate of 2.9%.
• The Consumer Price Index, the broadest measure of consumer prices, rose 6% annually in February. That is down from the peak of 9.1% in June 2022, but still very high.
• Housing was the biggest driver of price increases in Feb; we simply need more inventory. The market is moving again: new home sales, pending sales, and permits all rose in January. 
• Inflation is coming down, but slowly. Inflation rose 0.4% from January to February.
• Manufacturing PMI: in February, the manufacturing sector was in contractionary territory for the 4th straight month (a PMI reading below 50) according to the ISM survey on manufacturers. That said, it was up slightly compared to January, breaking a streak of 3 consecutive monthly declines.
• Services and Manufacturing are contra-indicators: when spending on goods is up (as seen during pandemic), spending on services is down. The reverse is true right now.
• Job openings remain extremely high: nationally, 5.1M more job openings than unemployed workers. Job openings are not dropping as fast as many anticipated (despite the tech sector retreating from its pandemic-era hiring boom), and the economy is not cooling as quickly as expected.
• U.S. employment grew 3.6% over the year with the private sector up 4.1%. 
• Minnesota gained 14,100 jobs over the month, up 0.5%, on a seasonally adjusted basis, according to numbers released earlier this month by DEED.
• From December to January, Minnesota's unemployment rate stayed at 2.9% and the labor force participation rate remained at 68.1%. 

​Together, these indicators of are strong signals that we are not through with inflation yet.
 
So what’s happening with interest rates? The Fed raised its key interest rate again last month, the 8th time it has done so in the last year. Anticipate a few more small hikes ahead, as inflation is still so high and unemployment so low.  All indications are that, at the FOMC meeting this week, the Fed will raise rates again, perhaps 0.25 – 0.5%.
 
And so, we’re back to the banks: Silicon Valley Bank and Signature Bank both were seized by regulators earlier this month. Each collapsed for markedly different reasons than those that slammed Lehman Brothers in 2008, but they exposed the banks’ vulnerabilities both to increased interest rates and their own unbalanced investment portfolios. And just this past week 11 of the country’s largest banks together have injected over $30B in another vulnerable Bay Area Bank, First Republic Bank, in part to stabilize that institution and also to shore up confidence in the banking industry more broadly.
 
I bring up the banks because, with the problems in the banking sector this month, there have been calls for the Fed to stop raising interest rates. But the strong February jobs report and this most recent inflation reading are sure indications – and I’m not alone in my thinking here – that the Fed will keep raising rates to tame ongoing inflation. Stay tuned for more.
 
See you in the trenches,
B