The economy is slowing, the President faces impeachment, the Fed is seen as following not leading, and global politics are depressing. Yet the US economy is actually in a sweet spot with unemployment at 3.5%, the lowest level since 1969, inflation is near target and the economy is growing at trend (1.5-2%). This is remarkable after more than 10 years of upswing, the longest on record. Contrary to fears of a slowdown, I think there is a chance that the next move will be towards renewed strength, but that will require a recovery in business confidence.
The upswing is still healthy in my view, partly because it has been rather slow and steady but mainly because the 2008 recession scared business, banks and consumers away from taking too much risk. There are early signs of excess in some areas such as corporate debt, but with interest rates low I see little near-term danger.
But what about the slowdown? Isn’t there a danger of sliding all the way into recession? After the boost to growth from tax cuts in 2017-18 the economy was always going to be slower in 2019 but prolonged weakness in China and President Trump’s trade war have exacerbated the slowdown. Business investment surged in 2017-18 but has now fallen back. The manufacturing sector is the main area of weakness. The latest data from the Institute of Supply Management show new orders and especially new export orders are still weakening.
Consumer spending remains robust
In contrast to the depressed industrial sector consumers are spending freely, buoyed by rising employment and wages. Job growth has averaged 157,000 per month over the last 3 months, down from last-year’s 223,000 average but still healthy. Average earnings are growing at about 3%, well ahead of price inflation of 1.4%. Car sales are holding up at about 17 mn annually and the housing sector is picking up, with mortgage rates well down on last year.
Consumer debt, which bubbled up in the early 2000s during the housing boom has been more subdued in this upswing and looks healthy in relation to GDP. Indeed, the personal savings rate of 8% is higher than for most of the last 30 years suggesting that there is limited risk of a spending pull-back and a good chance that spending could actually grow faster than incomes. We also expect housing, where starts perked up in August but are still running below the 1.5mn units annually that the country needs, has continued scope for growth.
Inflation is well-behaved
Crucially, inflation has been much better behaved than most expected. The usual acceleration in wages when unemployment reaches low levels (the Phillips Curve) has been much milder than in earlier upswings. The latest monthly wage figure was distorted downwards by the GM strike but there are clear signs that the economic slowdown this year has muted the sharp acceleration seen last year. This has helped the Fed to feel comfortable with interest rate cuts.
Overall then, despite the worries, I expect the US economy to continue to grow this year and next, avoiding recession. The weakness in China and Germany, if anything, supports that by keeping inflation down. The next episode in this upswing looks more likely to be a new acceleration at some point rather than a recession as media stories often warn. But that will require a pick-up in business confidence which likely depends on President Trump dialling back his trade activism.
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