Stocks and bonds rallied at the end of last year on the hope of a seemingly improbable combination of dynamics playing out to support financial assets in 2024 — cooling inflation, solid economic growth, a resilient labor market, and as much as 150 basis points of interest-rate cuts. That may not have been exactly what Austan Goolsbee, president of the Federal Reserve Bank of Chicago, meant when he said the economy appeared to be on a “golden path,” but it was the rosy scenario investors focused on.
Economic growth remains robust to start the year, but some recent data and comments from Fed Chair Jerome Powell have made that nirvana-like set of conditions less probable. A couple of key business sentiment measures have raised the possibility that a pickup in production could fuel a pickup in inflation. At the same time, Powell has said that the Fed wants further evidence of a sustainable easing in price pressures before cutting rates.
Such reluctance signals a central bank that’s waiting for the year-over-year level of its preferred inflation gauge to return to 2% and, in waiting, increasing the risk of an unwelcome economic surprise. That measure has climbed at a 1.9% annualized rate, below the Fed’s target, over the past seven months already. With a continued fall in shelter inflation nearly assured (read this) and overall wage growth cooling to pre-pandemic levels, there’s little reason to believe inflation can pick up in a meaningful and sustainable way.
Yet recent data has muddied the waters. On business sentiment, the big news last week came from the Institute for Supply Management’s closely followed manufacturing report, which showed new orders expanding again for the first time since August 2022. This has been a long time coming. I first wrote about the possibility in December 2022 — at the time, inventory levels were too high because of all the orders that had poured in in late 2021 and early 2022. While sales remained resilient, companies weren’t yet in a position to place new orders. I thought inventory levels might take until the spring of 2023 to be worked down, but it ended up taking much longer. The report showed prices paid increased as well, though to a level that on its own shouldn’t signify an inflation concern.
