The Strategist

No rate cuts

The Federal Reserve is signalling an end to its tightening policy. But as inflation remains high, we do not expect any rate cuts for the time being. However, should the US economy slide into a deep recession, the monetary authorities are likely to loosen monetary policy. However, we consider this to be an outlier scenario.

Thomas Wille
Reading time
5 minutes
US dollar bills
© shutterstock

The message from the US Federal Reserve (Fed) was clear and direct, following its decision a week ago to raise interest rates by a further 25 basis points, despite the significant increase in uncertainty in the financial markets following the recent banking crisis. According to the statement, the Fed is at the end of its tightening cycle: the lion's share of the rate hikes has been completed, explained Fed Chairman Jerome Powell, and the central bank now wants to observe the effects on the economy in the coming months. Powell held out the prospect of a pause but ruled out a pivot. In doing so, he made it clear to investors that the fight against inflation is not over and should not be neglected for the time being. The US monetary authorities are projecting core PCE inflation of 3.6% for the current year, which is clearly too high to be giving away gifts in the form of interest rate cuts.

Recession or not?

In the first quarter of 2023, different scenarios for the US economy were discussed: a hard landing, a soft landing, or no landing. Today, investors are wondering whether there will be a recession or not, or more precisely, how severe the downturn will be. Will it be a soft landing, a mild recession, or a deep recession equivalent to a hard landing? Visibility remains limited for both the Fed and market participants, so any forecast must be treated with a degree of caution.

A technical recession occurs when gross domestic product (GDP) growth is negative for two consecutive quarters. The growth forecasts for the US economy for the coming quarters are close to zero, namely 0% for the second quarter, -0.4% for the third quarter and +0.1% for the fourth quarter. We must therefore expect very weak economic growth, with the downturn possibly leading to a technical recession. In the absence of a real recession, characterised by a decline in growth of more than 1%, we do not expect the Fed to cut interest rates, as core inflation is still too high. In our baseline scenario, we expect very weak GDP growth and do not rule out a technical recession. A real recession remains an outlier scenario for us. Only in this case do we expect the Fed to cut interest rates significantly.

A game of patience

After a stellar start to the year, with the MSCI World gaining up to 9%, global equities have given up more than half of these gains. The start of the second quarter marks the beginning of a waiting game as, in addition to lingering uncertainty about the state of regional banks in the US, the earnings season starting in April will provide investors with clues about a potential earnings recession. Defensive positioning and a focus on selection therefore remain essential in all asset classes.

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