Notes on the Economy – Q4 2023 Summary

SOFT LANDING OR HARD?

U.S. real GDP grew an annualized 4.9% in the third quarter of 2023. Growth was boosted 1.3 percentage points by a probably unintended inventory buildup. Still, there is no doubt that growth was well-grounded in solid final demand, as real final sales to domestic purchasers grew at a robust annualized rate of 3.5%. This has lifted spirits in the financial markets, which are coming to believe that the economy will enjoy a soft landing—i.e., inflation will be suppressed without a recession.

The third quarter’s result is likely to be the peak of quarterly growth for some time to come. Data points associated with worrisome developments keep popping up. For example, consumer price inflation remains well above the Federal Reserve’s (Fed) 2.0% objective. The unemployment rate has turned upward, rising from a low of 3.4% to 3.9% in October. Median-price homes are no longer affordable for the median-income family, and business capital spending has basically flatlined.

Foreign economies, relative to their own histories, lag the United States. Global economic growth remained subdued during the third quarter and is on track to finish 2023 close to 3.0%. That will substantially underperform the global growth pace average of 3.8% for the 2000-2019 pre-COVID-19 pandemic period. Both developed market (DM) and emerging market (EM) economies are expanding at subpar speeds.

HEADLINES – WHAT’S IMPORTANT

1. Inflation Is Still Alive – Fed policymakers are targeting a sustained 2.0% level, but annual core consumer price inflation is running at 4.0%; another increase of the federal funds rate cannot be ruled out.
2. Bond Portfolios Should Favor Long-Term Treasurys and Munis – Longer-term bond yields generally top-out close to a peak in the federal funds rate, but corporate bonds will be handicapped by widening credit spreads.
3. The Rally in the S&P 500 Is Shaky – Operating earnings will be up moderately in 2023, but the path forward is littered with land mines; investors are now too optimistic, monetary policy will remain a persistent headwind; contraction risk is real.
4. Precious Metals Could Be a Safe Haven – Gold, silver, and platinum offer potential for low double-digit percentage gains over the coming year, as well as some insurance against adverse geopolitical developments.
   
   

LOOKING AHEAD

The Fed’s tight-money policy points toward a substantial slowdown of real GDP growth. Even if the Fed is done with further rate hikes, the federal funds rate is unquestionably above the neutral level, and the Fed is in no hurry to cut rates. Also, consumer spending, the main driver of third-quarter GDP growth, was supported by particularly high purchases of durable goods (mostly recreational equipment). Such unusual spending is typically followed by consumer caution. At the same time, leading indicators suggest business fixed investment will remain subpar, while the third quarter run up in inventories will be reversed.

Real GDP growth is likely to be cut substantially in the fourth quarter of 2023 and then remain almost flat in the first half of 2023. AMG anticipates slight contractions in the first and second quarters. However, that depends on uncertain projections for weakness in inventory investment and in net exports, both of which are highly erratic.

In the aftermath of the COVID-19 pandemic many central bankers around the globe, and especially in DMs, were concerned about excess liquidity and strained capacity in their economies on top of supply-chain disruptions. As a result, they tightened monetary policies in order to constrain growth of aggregate demand and, thus, ease inflationary pressures. Since then, both inflation and growth of output have slowed. Although many central bank policymakers now appear to be considering implementation of more expansionary policies, not all will be quick to do so for fear of reheating inflation. In any event, it will take time for such policy shifts to take effect on economic output. Consequently, the short-term global outlook remains bleak. The International Monetary Fund (IMF), for example, projects global real GDP growth of 2.9% for 2024.

* The information contained within this edition of the Notes on the Economy Executive Summary is based on data released as of Nov. 20, 2023.

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