It looks like the US economy is headed into the fire rather than the frying pan. The nation may find itself dealing with stagflation, a different kind of disaster, after months or perhaps years of preparing for a recession.
Reaction on Wall Street
Wall Street is concerned about the precise direction of the economy after the Commerce Department’s latest report, which was released yesterday, revealed that GDP growth was rapidly slowing down and that some inflation indicators were rising. Investors have suddenly been taken aback by the prospect of stagflation after spending so much time attempting to hedge against a downturn in the economy.
Investment head of UBS Global Wealth Management Mark Haefele stated, “I’m not worried about one data point, but nobody’s really prepared for that scenario, and that’s difficult to hedge.”
Stagflation Prerequisite
- The majority of banks and analysts predicted that the first quarter GDP would expand by 2.5%. Rather, it expanded by just 1.6%. According to the same study, the Fed’s favored inflation gauge, the personal consumption expenditures (PCE) price index, increased from 1.8% in the fourth quarter to 3.4% in the first.
- The most recent data was “the worst of both worlds” because these two metrics happened to coincide. The Federal Reserve’s (Fed) objective of 2% inflation has not yet been reached. The intransigence of inflation and the challenge of completing the “last mile” in order to reach that level, however, are more concerning.
- Simultaneously, inventors anticipate robust GDP growth to support a surge in the stock market. It appears that neither of those are taking place right now.
- The final prerequisite – that is, a low unemployment rate – means that stagflation has not yet hit the American economy. If the unemployment rate is below 4%, the labor market is considered healthy.
Challenges of Stagflation
Dealing with stagflation is a unique challenge as addressing one of the contributing elements may exacerbate the others. Because it leaves investors without a dependable source of returns, it is also a major source of concern for them. The stock market is negatively impacted by low growth and high interest rates, whereas the bond market is negatively impacted by high inflation.
The market was alarmed, even if Haefele is correct to warn that a single bad report does not guarantee stagflation. The Dow, the S&P 500, and the Nasdaq Composite all dropped yesterday. This week, investors in tech companies were also concerned that higher rates might result from anticipated inflation. However, after early concerns subsided, some of those equities have subsequently rebounded.
Anticipated Path Forward
Haefele, for his part, told MarketWatch that he anticipates the second half of the year will see enough slowdown in inflation to allow the Fed to cut interest rates. And he was not the only one who provided some context. Even with the dismal growth figures, Treasury Secretary Janet Yellen maintained that the economy was doing well. “It is evident that the economy is doing exceptionally well,” Yellen declared on April 25. “In my opinion, it is not overheated at all. The job market is currently at its strongest point in fifty years.
Despite the impending risks, some Wall Streeters likewise favored to see the bright side of the circumstances. Mike Reynolds, the vice president of investment strategy at Glenmede, stated in an analyst note that “another positive GDP print adds another notch to the belt for the soft landing argument.”
