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The outlook of markets and macroeconomists has been focused on the US consumer this year. As inflation held steady and the Fed shifted to its hawkish stance, confidence in the economy’s ability to weather the conditions centered on continued consumer strength.
But what if strong consumer spending, which is still the case based on the data, is the final curtain on this period of economic growth rather than another act in the bull market? Consumer demand and a strangled supply chain’s inability to keep up could ultimately mean that the Fed has to become even more hawkish than it currently telegraphs to control inflation.
That’s the view of CFOs who recently took part in a CNBC CFO Council discussion on central banking, interest rates and the economy. CFOs of the biggest companies in all sectors of the economy have suggested that the recent stock market decline may have been premature, but that it is not necessarily misplaced. While the Fed’s monetary policy tools can help reduce demand, there is little the central bank can do to maintain supply, and its policy plans to date will not be enough to change the global economic equation. .
“I’m confident we’re going to get inflation back to our 2% target,” Minneapolis Fed Chairman Neel Kashkari told CNBC Monday morning. “But I’m not sure yet how much of that burden we’re going to have to bear versus the supply side help,” he said.
This, in a nutshell, is the big concern of CFOs.
The outlook for rates ending has risen significantly, according to the recent CNBC Fed survey, with the biggest increase between Fed meetings in more than a decade. And CFOs expect more upside risk to rates, which remain far from a surefire mechanism to stave off inflation. With inventory issues backed by consumer demand and further exacerbated by recent shutdowns in China caused by Covid and geopolitics, the supply chain’s ability to meet demand may not change.
This Wednesday’s April CPI, with headline inflation still expected around 8%, will be the focus of the peak inflation debate.
CFOs on the recent CNBC CFO Council call were of the view that while the Fed wouldn’t be talking about a 75 basis point hike at this time – Chairman Jerome Powell told the FOMC meeting last week that this was not actively considered – this may prove to be more negative than positive in the fight against inflation. The Fed’s emphasis on achieving “some 50s” – 50 basis point rate hikes – is unsurprising given that the central bank emphasizes a data-driven approach and wants to see the results of its actions in late summer and early fall. But that raises fears among CFOs that he is falling short in response to the current inflationary environment.
A recession seems inevitable, according to several CFOs, with inflation already priced in, and the longer it lasts, the harder it becomes to root it out of the economy. CFOs fear there will be more heavy loads ahead and rates will rise from the Fed’s forecast, which calls for rates reaching 2% to 2.25% by the end of the year and a terminal rate slightly above 3%.
Companies continue to talk about their ability to pass price increases on to customers, but that price strength seems to be fading as a source of confidence for the C-suite. There’s $2 trillion in excess savings and , to date, consumer spending not only meets the level of inflation, but exceeds it in terms of actual spending data.
Travel is an example where spending is accelerating. Consumers are also “swapping”, a trend noted by several CFOs, ranging from buying more expensive airplane seats and high-end cars to going to more expensive restaurants, with companies like Procter & Gamble noting that their the most expensive items are the most popular, and expensive home improvement projects are hitting record highs, according to homebuilder data.
While high prices, and gasoline prices in particular, have led to a drop in consumer confidence, the actual numbers among middle-income households do not suggest much financial stress. For the average driver driving 20,000 km per year, the increase in gas prices equates to about $10 per week, and for middle-income consumers it will not result in much change in consumer behavior.
Recent transaction data shows larger purchases in travel, furniture, appliances and electronics, all signs that high-end consumers are overwhelming those who are truly struggling.
Consumer debt is growing at the fastest pace seen in a long time, up to $16 trillion in the fourth quarter, according to the New York Fed, and its latest outlook on consumer debt through the first quarter of 2022 will be released this week, with many expecting it to show an all-time high, surpassing 2019. Credit card balances rose by $52 billion last month, more than double expectations and the biggest increase in month to month never recorded.
Wage gains data, meanwhile, has tended to focus on the fact that the rate still doesn’t keep up with inflation, but overall the picture is different: the total amount of wages paid to workers is higher than inflation, with the economy putting about 2 million new people to work this year. It comes down to household balance sheets, which CFOs have described not only as good but also as still having plenty of unused firepower, with more workers returning to the workforce, in many cases spouses, improving the situation. middle-income households.
But consumers’ track record as a brake on the recession is not something CFOs are willing to embrace in the face of a supply chain that remains under strain. In fact, the idea has been called naïve. As demand continues to outstrip supply in the developed world, the Fed will eventually have to apply the brakes harder and could raise interest rates as high as 5% to depress demand. It’s a recession factor, and while it’s not a severe downturn, it’s not a mild recession either.
It’s not just the consumer who is strong now. Business investment and spending also remain solid.
Concerns about the tech sector, which has driven the stock market down and where private company valuations have been reduced, may be early, but again not wrong. An email from Uber’s CEO to his staff on Monday described a “seismic” shift in how investors view the company and the need to quickly focus on free cash flow. But the cash balances of private tech companies are at record highs due to the fundraising they did last year, above what they were in 2019 and 2020, and these companies continue to spend without any impact of inflation. This is an area where the data may dwindle next year. The real-time cash balances of cash-consuming tech companies will become cash-strapped balances beyond six to nine months. Credit markets are already starting to tighten, a sign of typical late-cycle behavior.
This means a deceleration in the most important sector of the market, but far from the idea that companies can generally make decisions on inventories, production, investments and expenses, which avoids a recession. The more the market comes to believe that a recession is inevitable, the more argument there is that companies may be the ones to slowly let the air out of the bubble – the Fed’s “soft landing”.
CFOs consulted by CNBC were not betting on that outcome.
Stopping inflation amid supply chain backlogs will be problematic, Covid and the war are further contributing to a lingering inventory imbalance, forcing the Fed’s hand more than it has meant to indicate until ‘now.