Is a Soft Landing in Sight for 2024?
Main Takeaway
The Federal Reserve may be getting closer to hitting its goal of taming inflation, and attention is turning toward whether it will begin cutting rates this year. Its rate hike campaign has proven effective: money flow has declined, and businesses and consumers have less access to credit. The job market has been feeling the impact, too. Compared to earlier in the year, unemployment has risen, job openings are down, and fewer people are quitting their jobs. Consumer spending has also slowed.
Top Risks
While the outlook for a soft landing — or cooling the economy without causing a recession — is looking more promising, the sharp rise in rates continues to pose challenges. Higher rates reduce the value of banks’ long-term holdings and put stress on consumers. Meanwhile, the government’s expansionary fiscal policy increases federal debt, and higher rates raise its debt servicing costs, compounding the nation’s debt problem. Inflation could also resurge in 2024, and the Fed may not be able to cut rates as aggressively as the market currently expects.
Sources of Stability
Although economic growth is forecast to slow in 2024, most professional forecasters are not expecting a recession. At their December meeting, the Fed’s policymakers clearly signaled that they would begin cutting interest rates this year. Lower interest rates could boost the more interest rate-sensitive areas of the economy, such as housing, manufacturing and banking. For both inflation and consumer confidence, the sharp decline in oil prices has been a big positive.
What Might it Take to Bring Inflation Down to 2%?
History tells us that once inflation reaches high levels, it tends to stay higher for longer. One 2022 study looked at the behavior of inflation across 14 developed economies to see how quickly it would retreat after reaching various thresholds. When inflation crested between 8% and 10%, as it did in June 2022, it took roughly three to four years to get back under 3%.
Headline inflation, as measured by the consumer price index (CPI), is on the cusp of falling below the 3% threshold already. However, core CPI, which excludes the more volatile food and energy prices, remains closer to 4%. The rising costs of both services and shelter have been driving inflation coming out of the pandemic. Given the typical lease period of a year or more, rent adjustments tend to take time to work through inflation, so the fact that rents are growing slower is a good sign. The Fed will continue to watch the cost of services, but policymakers don’t necessarily need prices to fall — they just want to see prices grow slower. Although the Fed has taken a more dovish tone recently, expect the Fed to keep rates higher until there is overwhelming evidence that inflation is fully contained, or the economy is turning downward.