Jerome Powell, Chairman of the Federal Reserve Board Kent Nishimura/Los Angeles Times via Getty Images
- U.S. economic growth will remain stable next year, which is why the Fed is cautious about cutting interest rates, Barclays said.
- The Fed is expected to initiate a “significant” easing cycle in the second quarter of 2024.
- The central bank is expected to cut interest rates by 100 basis points in 2024 and another 100 points in 2025.
The U.S. economy will remain resilient next year, which is why the Federal Reserve is cautious about cutting interest rates, Barclays said in a note Monday.
Consensus forecasts do suggest that economic growth will slow sharply, with real GDP growing at an annual rate of just 0.4% in the first quarter and 0.3% in the second quarter, compared to an estimated average of 2% .5% in 2023.
Wage growth will also weaken significantly, and inflation is expected to fall within striking distance of the Fed's 2 percent target in 2024. Still, this means the US will avoid a recession, although the likelihood remains high.
“The Fed is projected to begin a significant easing cycle in the second quarter of 2024 (markets are more aggressive relative to the economic consensus), cutting by 100 basis points in 2024, another 100 basis points in 2025, and more in 2026 to achieve a stable interest rate of 2.75-3%,” Barclays said, summarizing the consensus view.
That means the Fed will make four interest rate cuts of 25 basis points each next year.
Meanwhile, analysts at ING have predicted the Fed will make six 150 basis point interest rate cuts next year as the economy slows.
And UBS expects even more aggressive rate cuts, saying slow economic growth would prompt the Fed to cut rates by 275 basis points by the end of 2024.
Barclays, in turn, said markets were too pessimistic about the economy's continued resilience, which could lead to a rise in inflation.
PCE heading towards a 2.5% inflation rate will require everything to be positive in the economy, she added, but a further GDP increase could disappoint that.
Although excess savings have trended down, they are still high enough to stimulate consumer spending.
The economy's continued resilience will also increase pressure on U.S. bond yields, with 10-year Treasury yields averaging 4.5% through the end of 2024. This is an increase from the current rate of almost 4.3%.
Treasuries will also be affected by re-emerging risk factors that were highlighted during last quarter's bond market crash. These include an oversupply of government assets, increased federal deficits and the loss of traditional market buyers.
The outcome of the US presidential election will play a role in where long-term returns land given how the elected leader approaches fiscal policy.
“Should it appear that one party ends up controlling the White House and Congress, this would be viewed as increasing the likelihood of fiscal expansion, either through higher spending or lower taxes,” Barclays wrote. “An increase in fiscal deficits of 1 percentage point of GDP over the next decade would increase the fair value of 10-year yields by 25-50 basis points.”
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