The slowdown in growth is being confirmed in various corners of the US economy. Is the Federal Reserve's first rate cut approaching?

According to the Zhitong Finance and Economics APP, extensive economic data shows that the growth rate of the US economy in the first half of this year has significantly slowed down. This is closely related to the Federal Reserve's long-term maintenance of a high interest rate policy (i.e., higher for longer) to comprehensively increase borrowing costs and the persistent impact of inflation in the United States. Revised economic data released on Thursday showed that in the first quarter, the core engine of the US economy - personal consumption expenditure data, after revision, decreased by 0.5 percentage points compared to the initial value, resulting in a final annualized quarterly rate of only 1.5%. Other data also indicate that every corner of the US economy is confirming the slowdown in economic growth, such as a decline in certain commercial equipment orders and shipments, the largest trade deficit in two years, signs of weakness in the job market, and a comprehensive decline in home purchases.

Since the Federal Reserve began an aggressive rate hike cycle in 2022 to curb high inflation rates, the US economy has withstood the terrifying warnings of an economic recession from 2022 to 2023. The main support behind this is the tight labor market and the overall high wage levels, which together boost US consumer spending. Consumer spending, known as the "core driving force" of the US economy, accounts for as much as 70%-80% of the US GDP data. However, the latest revised economic data shows a significant crack in the US labor market in the first quarter, with consumer spending slowing significantly.

Bill Adams, Chief Economist at Comerica Bank, wrote in a report: "After experiencing above-trend growth in the second half of 2023, the first half of 2024 can be described as operating at a slow pace." "The final GDP figure for the first quarter was lackluster, and it is expected that retail sales and real estate activities in the second quarter will continue to be weak."

The Atlanta Fed's GDP Now economic model currently predicts an annualized quarterly growth rate of 2.7% for the US GDP in the second quarter, which is slightly lower than the 3% predicted before the release of the revised data on Thursday.

All these data highlight how the Federal Reserve's policy of maintaining benchmark interest rates at their highest level in 20 years is cooling down the hot demand by raising various borrowing costs from consumer goods to housing and commercial equipment to reduce US inflation. The Fed officials hope that the slowdown in economic activity will further curb the inflation rate, which is currently around 3%, still some distance away from the Fed's target of 2%.

Another report released on Thursday shows that under the long-term pressure of the Federal Reserve's high interest rates, the sharp increase to around 7% in mortgage rates is having an increasingly severe negative impact on the real estate market The National Association of Realtors (NAR) announced a new record low for the second-hand home signing index, with the number of second-hand home signings in May unexpectedly falling to the lowest level since 2001.

Cracks in the US Labor Market Become More Evident

Despite expectations that Friday's monthly data will show a moderate rebound in personal spending in May, signs of a tense financial environment indicate that the US economic growth rate will continue to slow in the coming months. Revised data released on Thursday showed that after adjusting for inflation, US personal after-tax income in the first quarter grew by only 1.5% year-on-year, the smallest annualized quarterly growth rate since 2022.

Furthermore, the resilient US labor force - a major source of income growth for US consumers - is also slowing down. Data released on Thursday showed that continued claims for unemployment benefits climbed to the highest level since 2021, which is one of the indicators of the number of people receiving unemployment benefits. This indicates that unemployed Americans are taking longer to find another job, implying that the income levels supporting consumption are cooling down, naturally leading to a decline in US consumer spending.

US businesses are also feeling the pressure of rising borrowing costs across the board. Data released on Thursday showed that core capital goods orders in May saw the largest decline so far this year. Core capital goods orders generally refer to the scale of equipment investment excluding aircraft and military hardware.

Monthly core capital goods shipments fell by 0.5%, marking the largest decline in three months. Core capital goods shipments are an important data point used in the government's Gross Domestic Product (GDP) report to help calculate equipment investment.

US domestic producers are also facing the challenge of a stronger US dollar, which may dampen US export demand. As the latest dot plot shows that the Federal Reserve will maintain higher rates for a longer period, the US dollar index, which measures the strength of the US dollar against major currencies, has rapidly risen since the June Fed rate decision.

The US government's leading economic indicators report shows that due to a significant drop in exports, the US goods trade deficit expanded to $100.6 billion in May, the largest figure in two years. At the same time, the report also indicates that increases in wholesaler and retailer inventories may help mitigate the impact of the widening trade deficit on US GDP in the second quarter

How Long Can the Fed's High Interest Rate Policy Last? Market Begins to Doubt Hawkish Expectations in Dot Plot

In the latest official economic forecast data released after the Fed interest rate decision, Fed officials have lowered their expectations for three rate cuts this year to just one, sticking to the "higher for longer" monetary policy bias and raising inflation expectations. However, against the backdrop of a comprehensive slowdown in economic growth, the Fed is getting closer to the first rate cut, and the rate cut may be greater than what the dot plot suggests.

As the most eye-catching part of the statement document released after the Fed interest rate decision, the median of the interest rate dot plot currently shows that most Fed officials expect only one rate cut in 2024, which is two cuts less than the March dot plot, totaling a reduction of 50 basis points. This time, the dot plot shows as many as four Fed officials supporting no rate cuts this year, while the 10 points in the March dot plot supporting three rate cuts this year have all disappeared.

Furthermore, as expectations for rate cuts this year have significantly diminished, Fed officials have simultaneously raised the policy rate path for 2025. They have slightly raised the median expectation for the end of 2025 to 4.1% from 3.9%, and raised the median expectation for the long-term policy rate from 2.6% to 2.8%, indicating that most Fed officials are more accepting of the reality of the rising "neutral rate". Officials have also slightly raised the core PCE inflation expectation for 2024, excluding food and energy, from 2.6% to 2.8%, which means that inflation may not make much progress from its current level this year.

However, with clear cracks appearing in the U.S. labor market and data measuring U.S. business and consumer spending showing a significant slowdown, some analysts believe that the hawkish expectations presented in the dot plot may be difficult to achieve, and they expect a high likelihood of two or more rate cuts this year.

Economists at Goldman Sachs still believe that the Fed will cut rates twice this year and believe that the U.S. labor market is at a turning point. Goldman Sachs economists including Jan Hatzius wrote in a report to clients that the strength of labor demand has clearly cooled, with initial jobless claims and continuing unemployment claims rising despite healthy nonfarm payrolls. Hatzius and other economists wrote that the main driver of labor demand is economic activity, and with GDP growth slowing significantly, we are confident in our forecast that the Fed will cut rates twice this year (in September and December).

Although the latest Fed interest rate "dot plot" shows a median forecast of only one rate cut this year, if core CPI and core PCE indices continue to grow at extremely low rates or even decline on a month-on-month basis, it may continue to push the Fed to cut rates twice this year and increase the probability of the first rate cut in September "This year, there is still a possibility of two interest rate cuts, expected to start as early as September, but Federal Reserve officials need data to comply with and enhance confidence in rate cuts," said Kathy Bostjancic, Chief Economist at Nationwide Mutual Insurance Co. "Being conservative is understandable. They lean towards conservatism, and I think the door is still open."

Ian Shepherdson, Chief Economist at Pantheon Macroeconomics, stated in a report to clients: "Our comparison of PPI and CPI data shows that the core PCE deflator in May only increased by 0.11%, well below the average month-on-month increase of 0.32% in the first four months of this year." "Our forecast indicates a significant downside surprise in inflation."

"The slowdown in rent growth, declining wage inflation, and the prospect of compressed retailer profit margins suggest that core PCE will continue to rise at a pace below the Fed's expectations, laying an important foundation for the first rate cut in September and at least two rate cuts this year," said Shepherdson, Chief Economist at Pantheon Macroeconomics