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LOCATION STRATEGY CHARTBOOK

No Rate Cuts This Year, Part II

Last week we started a series on what this year looks like without rate cuts. One of the consequences we’ve discussed how high interest rates are creating the need for bank bailouts. We see more of these bank bailouts taking place the longer we go without rate cuts - in fact there was a new bailout this week that you probably didn’t even hear about. The bank is no ordinary bank: it is the central bank of Japan.

Japan has been a zombie economy for much of the last two decades. There is little growth there; Japan sells more adult diapers than baby diapers. As of 2022, Japan had the highest general government debt-to-GDP ratio of the countries for which the IMF had available data, at 261.3%. Next was Greece, with a reading of 177.4%. The U.S. was fifth with a debt-to-GDP ratio of 121.4%.

High interest rates maintained by the Fed have made the Bank of Japan unable to hold the yen to dollar below 160:1, creating high inflation in Japan. When its own efforts to suppress inflation by keeping the yen below that level failed, the Bank of Japan sought US assistance and we agreed to a foreign exchange swap line where we would provide dollars in exchange for yen.

Why does this matter? Japan is the single largest foreign holder of US treasuries, at more than $1.1 trillion. We noted last week the US needs to refinance about $14 trillion in debt in the next 12 months. If Japan were forced to sell is holdings to raise dollars, it could significantly affect our ability to sell our own debt. So instead we offered to just give Japan the dollars. If the swap line fails and Japan starts selling treasuries, it could reignite the banking crisis here at home.

It’s not just holdings, but also the administration’s unwillingness to get spending under control. Budget projections call for the maintenance of current levels of defiit spending for the next ten years (~6% of GDP).

The efforts by the Fed to suppress inflation aren’t working, largely because of inflationary fiscal policy by the administration. Already the money supply has reversed its decline and appears to be starting to expand again.

Trajectory of US federal spending on Social Security, Medicare, and defense:

The Financial Stress Index has eased after last year’s regional bank crisis.

For months, there has been a divergence in the “hard” and “soft” data. lke job growth and sentiment. Analysts have used this divergence to dispute a slowdown in the economy. In the Citi Economic Surprise Index, both hard and soft (survey-based) data surprises have been declining, with the soft data now aligning more closely with the hard data. That these two data streams have rejoined confirms we are in a period of slowdown. THis is part of our forecast that this period of the year may feel like a recession without actually being one.

Markets now pricing in a 90% chance of a Fed rate cut in September or earlier.

GS expects softer inflation data later this year to prompt the Fed to cut rates.

Only twice in the last 10 months has growth in real income been greater than growth in real spending.

For more than a year we’ve been talking about massive errors in the job reports - Response rates to job report requests have been falling for years. The April employment survey had the lowest percentage of participants in years, making it particularly susceptible to noise.

The Household Survey showed almost no job growth last month.

One bright note: after falling preciptiously during the pandemic, as pandemic era restrictions hit woman hardest, the Labor force participation among prime-age women reached a record high.

Foreign-born Americans have been the primary driver of growth in the US prime-age population.

Growth in consumer credit slowed in March, …

… corroborating reports from banks that consumer credit demand has been dropping. Will we see further weakness in consumer credit in the months ahead?

Mortgage applications remain well below last year’s levels.

Demand for mortgages appears to be stabilizing.

Wealth growth trends by age group in the US since the pandemic’s start:

How did people spend their tax refunds?

Historical and projected population trajectories:

Which one of these is not like the other? Population and legislator age by country.