The biggest news affecting financial markets this week is the tentative agreement to suspend the debt ceiling until January 1, 2025, along with certain limits on spending. Although legislative wrangling likely will continue through the week, it should be finalized in time for the Treasury to meet all its payment obligations.
- The deal will have little macroeconomic impact as government spending is largely unchanged. Given that the debt limit is being suspended, the Treasury also will be able to manage its year-end 2024 borrowing to cover spending well into 2025.
- Political drama will continue until final passage and may contribute to volatility in financial markets, but the overall compromise will attract enough moderates from both parties to assure passage before delaying program and operating obligation payments is problematic.
- After a modest rebound, the upside for U.S. equities is likely limited given how well equity prices have held up so far in the standoff.
The debate about whether and when the Federal Reserve would resume interest rate increases reemerged with last Wednesday’s release of the minutes of the early May FOMC meeting, higher than expected core PCE inflation in April, surprisingly strong growth in consumer spending and recent hawkish comments by FOMC members.
- Real consumption increased 0.5% m/m in April leading to an expectation of Q2 consumption growth being around 2% annualized. While that may not be enough to offset declines in other Q2 GDP contributors, there is growing consensus that the recession may be delayed until 2024.
- The 0.4% m/m increase in the core PCE deflator in April was higher than expected, and the annual core inflation rate edged back up to 4.7% from 4.6%: problematic for the Fed.
- Concern about the debt ceiling standoff and its likely collateral damage was a principal consideration in the Fed’s pausing rate increases after its May meeting, but that seems to be resolved and should have not negative impact on the economy.
The potential impact from AI on U.S. productivity growth has immense implications for higher economic growth rates and U.S. standards of living, according to a recent study by McKinsey which provides a scenario with real GDP growing at a 3% rate and adding $48 trillion to household wealth by 2030.
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