Changed Growth: A US Macroeconomic Update

Even while inflation rose during the third quarter, the economy remained buoyant as robust consumer spending and a tight labor market fended off fears of a recession. Instead, the economy showed signs of improvement, resulting in the Federal Reserve pausing interest rate hikes in September 2023. Additional funding allocated through legislation for semiconductor production and infrastructure development aided nonresidential construction, driving growth in the economy. In turn, real GDP expanded by an annualized 5.2% in the third quarter of 2023.

However, inflation remains above the 2.0% target rate the Federal Reserve uses to assess the health of the economy. While pauses have occurred and inflation has cooled slightly, rates remain elevated, keeping borrowing costs and mortgage rates high with no sign of relief from rate cuts in the near term.

Labor market

• The third quarter of 2023 reflected labor market gains, with 698,000 jobs being added and an additional 150,000 jobs added in October, curtailing fears of a slowing economy.
• Education and health services performed well in the quarter with a 1.1% employment increase, since more staff has been required to meet needs at institutions that function on a per capita basis, including schools and hospitals. Similarly, government jobs increased 0.9% due to government projects and programs needing more workers to keep agencies operating.
• The unemployment rate reached 3.8% in September 2023, which is slightly elevated from the previous year and attributed to heftier losses in the information sector amid unsettled and escalation of labor disputes between employers and unions led to strikes happening in the entertainment sector which left a lot more individuals unemployed at the moment as this affected productions for many shows and films. Inflation and recessionary fears pressured other businesses to slim down their workforces to cut costs which have led to losses for specific companies in the quarter.
• As employers make efforts to attract and retain workers, the average hourly earnings increased $0.11 in September 2023 to reach $33.93.

Consumer spending

• Personal consumption expenditures (PCE) climbed 2.0% in the third quarter of 2023, a 5.9% increase from September 2022 and reflective of robust consumer spending. Although inflation continued to raise costs for consumers, rising wages and a strengthening labor market helped pave the way for an expanded market in the quarter by boosting spending on essential purchases, such as gasoline and housing.
• In line with PCE, durable goods spending went up by 0.7% in the third quarter, driven by recreational goods and vehicles and furnishings and durable household equipment. Technology further encouraged spending among consumers needing upgrades, while the release of popular items with entertainment value also fueled spending.
• Nondurable goods spending jumped 1.8% during the third quarter, bolstered by expanded spending on essential goods, including gasoline and clothing. The gradual erosion of remote work options forced an increase in commuting and gasoline spending, while minimal changes in real disposable personal income levels pressured other spending categories.
• Spending on services rose by 1.9% in the quarter as financial services and insurance and housing and utilities benefited from the changing economic landscape and boosted investments for sectors that performed well in the quarter. Housing and vehicles remain vital expenses that have required continuous consumer spending, elevating related insurance spending.

Inflation

• The Federal Reserve’s preferred inflation measure, the personal consumption expenditures price index that excludes food and energy, climbed 0.6% in the third quarter of 2023 – bringing year-over-year inflation to 3.7% as of September 2023 and remaining far above the target rate of 2.0%.
• When measuring inflation using the Consumer Price Index (CPI) – which includes food and energy items – year-over-year inflation remained buoyed in September 2023, having increased by 3.7% from September 2022. An additional spike of 0.4% in September 2023 was aided by boosts in fuel oil and motor fuel prices. Ultimately, global tensions and unexpected inventory shortfalls have contributed to increased price volatility.
• Despite recent growth, September energy prices remain 0.5% below those of the same period in 2022, driven by the push for domestic energy production amid the Russia-Ukraine war and fears concerning OPEC’s energy reserves.
• The CHIPS and Science Act and the Inflation Reduction Act, both passed in 2022, signaled the government’s initiatives to combat inflation through 2023. The pause on rate hikes in September 2023 is indicative of recent improvement.

Residential trends

• Despite September’s rate hike pause, ongoing elevated interest rates resulted in mortgage rates , the highest since December 2000. However, this placed minimal downward pressure on construction activity.
• On average, residential construction spending went up 0.4% in the third quarter. This reflects the need for more new housing as existing home sales have remained pressured, since homeowners locked into low rates are reluctant to sell their homes in the current market. New home sales rose by 12.3% in September 2023, with new construction representing the remaining viable option for buyers while existing home sales hit a as it reached nearly 4.0 million, a far cry from when existing home sales reached 6.2 million in September 2021.
• To drive growth, incentivize potential homeowners by offering interest rate buydowns, which subsidize mortgage payments and allow for many home buyers to qualify for more expensive homes. In some markets, home builders have started buying 30-year mortgages at a permanent rate of 5.25% to 5.75%. Home builders have also made additional concessions and upgrades to homes to further spark demand.

Nonresidential trends

• Public sector projects and manufacturing investment drove much of the growth in nonresidential construction during the third quarter. In particular, power and communication construction activity returned to growth, while highway and street activity and manufacturing continued at a moderated pace. This resulted in total nonresidential construction spending rising at an average growth rate of 0.9% during Q3.
• Public sector investment was driven by the Bipartisan Infrastructure Law signed in 2021, which freed up funding for public sector projects in subsequent years. Some projects currently in development include transportation upgrades throughout the country, high-speed internet access and the modernization of the electrical grid.
• Construction for commercial projects experienced a 1.1% uptick in growth for the quarter, a promising improvement compared with previous slight declines in the second quarter. Despite high office vacancy rates sweeping the country, the office sector grew 0.5% over the quarter with August office investment reaching $99.4 billion – a record level. Much of this growth is driven by the return to prepandemic projects being paired with higher building costs. Some property owners are attempting to lure back remote workers by renovating their office spaces, a recent nationwide trend, but it remains to be seen if this investment will pay off for landlords.
• The CHIPS and Science Act of 2022 allocated nearly $500.0 million in funds for projects to meet semiconductor research and manufacturing needs, as well as additional support for downstream sectors that rely on semiconductors.

Financial markets

• The tighter credit conditions in place are intended to subdue spending by households and businesses. Even though there have been no interest rate hikes since July, although the economy remains strong, additional interest rate hikes are feared to result in a recession.
• The Federal Open Market Committee finds itself in a precarious position with its dual mandate: unemployment still near record lows and inflation remaining higher than its target.
• While investors are trending to be more bearish, they believe a recession has been avoided for 2023. However, short-term performance will be mitigated by a lack of interest rate cuts.
• Fuel-based commodity prices are anticipated to remain volatile, although prices are below those at the beginning of the year as energy prices have decreased. Overall, these commodity prices are expected to continue to fall as energy production surpasses demand.

Distribution of risk ratings

• Despite easing restrictions, surging inflation drove up risk levels in 2022, resulting in 36.2% of industries being rated as facing medium-high or greater risk.
• Risk levels worsened in 2023 amid ongoing inflation concerns and interest rate hikes, bringing 53.4% of industries to a medium-high or higher risk level.
• With interest rate hikes paused, risk levels are expected to ease slightly in 2024, resulting in 46.8% of industries rated as facing medium-high or greater risk.
• Continued economic improvement will further lessen risk levels in 2025, resulting in 32.6% of industries expected to face a medium-high or greater level of risk.

Sector highlights

• Construction: Despite the continued interest rate hike pause, the persisting elevated levels of interest rates have ultimately challenged developers and investors who may delay projects until borrowing costs ease. Nevertheless, housing needs will fuel activity. While builders may pass on increased costs resulting from inflation to consumers, some consumers may be hesitant to buy a house or invest heavily in building projects altogether until borrowing costs become more favorable, threatening Housing Developers and Commercial Building Construction.
• Mining: While energy and other commodities remain vital for many downstream industries, rising competition from alternatives have cut into market dominance. Governmental incentives to boost renewable energy and electric vehicle use have increased headwinds for more traditional energy sources, like coal, due to carbon emissions concerns. Additionally, domestic commodity prices have made overseas markets much more appealing, forcing companies to turn to overseas providers and hurting industries such as Coal Mining and Iron Ore Mining.
• Manufacturing: While inflation and rising interest rates increased costs for consumers, demand has remained in place for food and clothing and exhibited some limitations on consumers’ willingness to scale back on essential goods. Still, energy remains volatile, as inflation and geopolitical tensions have forced price fluctuations – swaying profit and revenue for energy providers. Similarly, with high international competition and dependency on downstream construction activity, steel faces further volatility and uncertainty. In turn, Petroleum Refining and Iron & Steel Manufacturing to be threatened in the near term.