Too many interest rate cuts priced in again in the US

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In-house macroeconomic view

Global outlook

The global economy continues to slow following its moderate pace in the first half of the year. The service sector is still the driving force behind it, while manufacturing is suffering from weak demand for goods as well as geopolitical and trade-related tensions. A soft landing for the global economy remains the most likely scenario. While it is true that there is a great deal of uncertainty, fears of a recession are nevertheless overstated. Inflation risks are decreasing as economic activity slows. The decline in demand is likely to contribute to a fall in service-sector inflation, which has been stubbornly high up to this point. Apart from the Bank of Japan, all major central banks have now begun the process of monetary loosening – a trend that is set to continue in 2025. Barring an unexpected recession, these further steps will be taken cautiously and gradually. We are seeing huge regional differences: The US economy is slowing but remains on course for a soft landing, while the eurozone’s recovery is faltering and China's economy is slowing due to a combination of the real estate sector, higher unemployment and weak domestic demand. The stimulus package announced in China this month is mainly monetary-focused. Though stock markets have responded very positively to this development, we doubt that it will have a real economic effect unless additional fiscal measures are taken. Overall, it can be assumed that the global economy is on a moderate growth trajectory, but that the road ahead is lined with serious challenges in the form of political uncertainty, geopolitical crises, protectionism and high budget deficits.

U.S.

The latest US data confirm that the economy is now slowing down. The manufacturing sector is shrinking, production and incoming orders are falling, and the number of people in employment is stagnating. By contrast, August saw the service sector continue to expand at a good pace and record solid incoming order volumes. Despite this, the latest estimate for GDP growth for the third quarter is 2.5% year to date. There is little indication that the US economy is heading for a recession. Personal income and expenditure are both healthy despite the weaker labour market. The steady decline in the savings rate could lead to cooler consumer spending in the future. Household demand remains robust, with a moderate increase in retail sales and an improved consumer climate. Future interest rate cuts should help to improve confidence. US inflation continued to fall in August, dropping to 2.5%. Increased housing costs mean the core CPI remains at 3.2% year to date. A significant decline in prices and firmly anchored inflation expectations now give the Fed room for manoeuvre when it comes to their response to the deterioration in the labour market. Despite the unemployment rate falling slightly to 4.2%, the labour market continued the negative trend of previous months in recording 142,000 new hires in August – a figure that was lower than expected. The Fed has made an initial cut of 50 basis points to its key interest rates, with more cuts sure to follow – both this year and next. With the US economy appearing to still be in the late phase of its expansion cycle, we do not consider the Fed to be behind the curve. We therefore expect fewer interest rate cuts by the end of next year than the almost ten that have already been priced in.

Eurozone

The economic upturn in the eurozone is clearly losing steam. At 0.2%, GDP growth in the second quarter was below estimates. The latest data point towards a decline in economic activity, albeit with regional differences. The German economy remains on shaky ground, with no improvement on the horizon if the leading indicators are anything to go by. Spain and Italy, on the other hand, are showing signs of improved growth. France is plagued by political uncertainty. While unemployment in the eurozone did fall to a record low of 6.4% in July, it is debatable whether low unemployment and lower interest rates will be enough to boost consumer spending. Following a number of positive months, consumer confidence weakened in August, leaving it still well below its post-pandemic peak. Inflation continued to ease in August, hitting 2.2% year to date – the lowest level since mid-2021. Core inflation also fell, to 2.8%. Services inflation remains stubborn, having risen to 4.2% year to date. The continued course of disinflation and the downgraded GDP growth forecast of 0.8% do not just allow the ECB to cut interest rates further: they make cuts absolutely necessary. After the second 25 basis point interest rate cut in September, we expect the ECB to continue on this path in a restrained and cautious manner – too cautious, in our opinion.

China

China's economic growth weakened further in the third quarter. The Chinese economy continues to suffer from a loss of momentum and is plagued by a weak labour market, weak consumption and headwinds from the real estate sector. The latest data on economic activity show that industrial production has fallen at its sharpest rate since 2021, while consumption and investment have also weakened more than expected. PMIs confirm this loss of momentum. The manufacturing sector continues to weaken and finds itself under pressure from both the demand and the supply side. The service sector showed a certain degree of resilience and improved slightly in August. Unemployment has risen to 5.3%, indicating weak domestic demand. The improvement in exports to Asian countries is shoring up industrial production and also cushioning the effects of the faltering economy. Stuttering global demand, rising trade tensions, deepening deflation and tariffs are nevertheless a worrying sign that the Chinese economy needs further fiscal and monetary stimulus to achieve its annual GDP growth target of 5%. While political leaders have so far being actively supporting the weakening economy in the form of relatively modest fiscal stimuli, last month the PBoC initiated a more comprehensive package of monetary policy measures. This step was greeted with skyrocketing prices by the local capital markets. However, we doubt whether the real economy will benefit from the multiplier effect as a result of these measures. In our opinion, further fiscal packages will be necessary for this to occur.