Commentary
The Probability of a Rate Cut in March Decreases
Market participants began the year with high hopes for significant rate cuts. However, recent inflation, growth, and job figures have lowered the likelihood of a rate cut in March from 39 percent to 24 percent. This is disappointing news for many, as the Federal Reserve’s stance appears to be more hawkish than anticipated. Fed Chair Jerome Powell’s recent comments suggest that rate cuts may not occur as quickly as bond investors would prefer.
The Discrepancy Between Headline Figures and the Real Economy
While the headline macro figures indicate a strong economy with solid job creation, a low unemployment rate, and stronger GDP growth, the reality of the economy tells a different story.
The Job Market’s Weakness
Although the latest job report may seem strong, there are underlying weaknesses. The labor force participation rate and employment-population ratio remained unchanged in January and have shown little to no improvement over the past year. Additionally, government jobs have been driving job growth, while real wage growth has been negative for the past two years.
The Debt-Driven GDP Growth
GDP growth appears impressive, but it is inflated by massive debt accumulation. The increase in gross domestic product is overshadowed by a significant increase in public debt and high levels of credit card debt-driven consumption. Despite these details, the Federal Reserve considers GDP growth positive, even when driven by debt.
Potential Troubles Ahead
The U.S. two-year bond yield stands at 4.36 percent, and the 10-year yield is at 4.06 percent. The massive inflow into bonds over the past year requires lower sovereign bond yields and rate cuts to avoid substantial losses. Additionally, regional banks are facing problems, with unrealized losses from sovereign bond holdings reaching a new high in the fourth quarter. The regional bank index is down for the year, indicating potential trouble ahead.
The Reality of the Economy and the Delayed Rate Cuts
The bullish market sentiment relies on significant rate cuts that have no economic impact. However, the reality is that the economy is weaker than it appears, and rate cuts may be further away than expected.
The Challenges for the Federal Reserve
The Federal Reserve is in a difficult position. They must decide whether to avoid a hyped market and risk higher inflation or be cautious with rate hikes that could worsen the real economy. Whichever path they choose, small businesses and families will be the most affected, as they face inflation and rate hikes while the government deficit is likely to increase.
The Weaker U.S. Economy and its Future Consequences
The U.S. economy is much weaker than it seems, with headline strength driven by high public debt. This ultimately suggests worse economic development in the future. Currently, rate hikes primarily impact small and medium enterprises and families who do not share the optimistic economic view portrayed in the headlines.
The Timing of Rate Cuts and Potential Election Interference
The longer it takes for the Federal Reserve to cut rates, the more challenging it will be to implement them. With 2024 being an election year, there is a concern that if the Fed does not cut rates before the campaign, any rate cuts during the election process may be seen as benefiting the incumbent.
Overall, it is clear that the U.S. economy faces significant challenges and uncertainties. The Federal Reserve must carefully navigate these issues while considering the impact on various sectors and the long-term consequences for the economy.
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