AFMC - Mid-Year Outlook: Sailing Through Uncharted Waters
2024-06-30 06:00:00 ET
Summary
- Inflation may be sailing toward trend, but uncertainties remain on the horizon for the economy and financial markets in the second half of the year.
- Macroeconomic backdrop is favorable for G10 bond markets, with slower nominal GDP growth enabling central banks to lower policy rates.
- U.S. elections, potential trade policies, and global market volatility are key factors to watch in the second half of 2024.
Inflation may be sailing toward trend, but uncertainties remain on the horizon. Our experts discuss the factors that may impact the economy and financial markets in the second half of the year.
Macroeconomic Outlook
Sailing through Uncharted Waters
The macroeconomic backdrop is becoming increasingly favorable for G10 bond markets after a difficult start to the year. Hot U.S. inflation prints in the first quarter raised doubts about the Federal Reserve’s (Fed’s) ability to cut rates in 2024. However, more recent data shows a resumption of the disinflationary trend. Meanwhile, U.S. growth has slowed to a trend-like rate, and further weakness may be in store as the economy adjusts to high interest rates and reduced fiscal support. Overall, we expect slower nominal gross domestic product ('GDP') growth across G10 economies. In turn, this slowdown will enable central banks to lower policy rates from restrictive levels, supporting bond market returns. However, while it feels as if the macroeconomic ship is now sailing smoothly toward something resembling normal, it is important to remember that this is all still uncharted waters. And farther out, the economy is headed toward perhaps even greater uncertainties. One uncertainty is the lack of any historical precedent for the current economic cycle and ongoing post-pandemic rebalancing. But another complicating factor for investors is the upcoming U.S. election, which has the potential to generate significant volatility across a wide range of asset markets.
Something Closer to Normal
During the past two years, we have already made significant progress in reducing inflation (see Exhibit 1). The upside surprises in U.S. inflation during the first quarter were concentrated in service sectors, in which the lags with economic activity are particularly long. In essence, high inflation in these sectors is the result of shocks from two to three years ago, rather than current economic conditions. Goods price inflation, which responds faster to current demand/supply imbalances, is already back to its pre-pandemic run rate. The unit labor cost growth rate is slowing, reflecting labor market rebalancing and faster productivity growth. Meanwhile, shelter inflation should continue to decelerate in the months ahead due to more benign market rent trends....
Mid-Year Outlook: Sailing Through Uncharted Waters