No one thought the US economy would be able to shrug off 5% rates this easily. It has been 20 years since the Fed funds rate was this high and the economy was drunk on easy money during the pandemic.
Yet even as the hangover kicks in, Americans are still showing up to work, and to shopping centers.
US GDP confounded economists with a 2.0% annualized growth rate in Q1 in the final report, compared to 1.4% expected. The change came on a big shift higher in net trade.
At the same time, weekly US jobless claims fell back to 239K from 264K in a sign that layoffs aren’t materially rising and the jobs market remains tight. It will take at least a rise to 300K to get the employment market back into balance.
It all raises the question of how high the Fed will need to hike to tame inflation. The market now sees an 85% chance of a 25 bps hike in July and a nearly 50% chance of another hike in November.
Bonds sold off on the news with US 10-year yields up 11.7 bps to 3.82%. Shorter on the curve, US 2s are up 15 bps to 4.87%. In March, the front end hit 5.08% and we may be headed back there.
US 2y monthly
What’s happening? There are certainly signs of weakness in other global economies but consumers are proving resilient. Earlier today, Australian retail sales rose 0.7% compared to 0.1% expected.
The market may have underestimated the power of fiscal stimulus, pent-up savings and house price growth. There are certainly people hurting due to higher mortgage rates but there may be a larger portion of home owners that have low mortgages balances and a windfall from housing wealth.
Governments also spent heavily on long-lead infrastructure in the US. That money is just beginning to be spent.
There are also the lags of monetary policy to take into account but a higher-for-longer scenario is increasingly believable — and a stronger for longer dollar along with it.