US economic data surprised on the upside this week, with a flurry of data releases on 27 June that exceeded economists’ expectations. The US Citigroup Economic Surprise Index (CESI) shot up overnight from 23.9 on 26 June to 40.8 the following day amid the strong economic figures, in defiance of the substantial rate hikes the Federal Reserve has been implementing since March 2022. But while the US economy has been more resilient to policy tightening than many anticipated, we do still expect these hikes to have a negative impact on economic activity over time.
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US Conference Board consumer confidence was one of the indicators released on Tuesday which surprised on the upside. The Reuters poll consensus for June expected a reading of 104.0, but the outturn was noticeably higher at 109.7. This is a larger than expected increase compared to the May figure of 102.5, and marks the highest value for the consumer confidence index in 18 months.
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The housing sector is regarded as particularly sensitive to rate hikes due to the direct impact on the mortgage rate, yet figures for new home sales also surprised economists — the number of homes sold in May was 763,000, which is an increase of 83,000 compared to April, and 88,000 higher than the Reuters poll consensus which had expected a slight fall to 675,000.
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Other data releases which exceeded expectations included durable goods, up 1.7% in May compared to an expected reduction of -1.0%, and house prices, with the Case-Shiller index up 0.9% for April compared to the Reuters poll consensus of 0.4%.
A key reason why the US has been more resilient to the current hiking cycle than economists expected is the large amounts of excess savings held by households – we estimate these to be over US$1.5 trillion as of April this year. Excess savings rose significantly during the pandemic due to the substantial fiscal transfers from the government and have only partially been spent since the US reopened. US households have thus been able to absorb the higher living costs without reducing their spending as much as they would otherwise have been forced to do.
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Additionally, the rise in the burden of debt has not been as dramatic as one might have expected given the Fed’s aggressive hiking cycle, due to the large share of fixed-term mortgages in the US. As a majority of US homeowners have mortgages with 30-year fixed interest rates, higher interest rates are slower at feeding through and hitting households, making the tightening of monetary policy less effective in reducing economic activity than some had anticipated. This is less true in countries such as Finland and Ireland, where variable rate mortgages account for 96% and 42% of all mortgages respectively, making the transmission of tight monetary policy more effective. So although the debt service ratio is increasing in the US, debt costs do not weigh more heavily on households than they did pre-pandemic.
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Given the unexpectedly high figures that are pouring out of the US economy, a recession in the near term is unlikely. Although Fathom has reduced the risk of a US recession in its latest forecast, Global Outlook, Summer 2023,[1] in our view the most likely scenario (60% probability) is that the tightening that has already been put in place by the Fed will set the credit cycle in motion, and may push the US economy into a recession eventually, with risks peaking in the middle of next year. There are ‘long and variable’ lags for tighter monetary policy to have an impact, and Fathom still expects these to come through over time. Indeed, US interest rates have never been raised this much and this quickly without being followed by a recession eventually. This risk would be exacerbated if there were further tightening, and would become higher still if the US continued to report such strong economic data and/or if core inflation proved more stubborn than is currently expected.
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The views expressed in this article are the views of the author, not necessarily those of Refinitiv Lipper or LSEG.
[1] Charts and analysis from the Global Outlook, Summer 2023 will be available to Refinitiv users in Chartbook over the coming weeks.
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