Latest / The Macro Memo with Fexingo: Daily Conversations on Inflation, GDP, and Federal Reserve Policy / Consumer Sentiment Hits Record Low Despite Strong Economy
Transcript
- Lucas: Consumer sentiment hit a fresh record low this past week — and the headline numbers on the economy are basically fine. That gap is the whole story right now. Luna: Right, the University of Michigan survey came out Friday — 57.2, which is below the pandemic low. But the unemployment rate is 4.3 percent, GDP is growing at two percent annualised, the S&P 500 is above 7,400. Lucas: Exactly. So the question is: why are people so miserable? And the short answer is that the Iran war has pushed energy prices up, and that's feeding through to everything — groceries, rent, airfare, you name it. The CPI reading for April came in at 332.4, up from 330.3 in March, so inflation is still running hotter than anyone wants. Luna: And core CPI, excluding food and energy, was 335.4 — also up. So it's not just gas. It's seeping into the core. Lucas: Right. And the bond market is reflecting that. The ten-year Treasury yield is at 4.56 percent, which is actually down a bit over the past week — but that's largely a flight to safety move because of geopolitical uncertainty. The two-year is at 3.58 percent, so the yield curve is still inverted, which historically has been a recession signal. But the Fed is stuck. Luna: Stuck because if they cut rates to address the growth slowdown, they risk reigniting inflation. If they hold steady, they risk tipping the economy into recession. And if they hike — which some hawks have whispered about — they'd crush consumer sentiment even more. Lucas: Yeah. And the fed funds rate is at 3.64 percent effective, with the interest on reserve balances at 3.65. So they're basically on hold. But the market is pricing in a cut later this year — the fed funds futures are implying about a fifty basis point cut by December. Luna: So the market thinks the Fed will blink. But the data doesn't really support a cut yet — inflation is still above target, the labor market is still tight, albeit with some softness in JOLTS. Lucas: Right, JOLTS came in at 6.866 million openings in March, down from 6.922 million. So job openings are declining, but the level is still historically high. And initial jobless claims were 209,000 last week, which is low. So the labor market is cooling, not collapsing. Luna: But the consumer is feeling the pinch. That sentiment number — it's not just about geopolitics. It's about real prices. Average hourly earnings are up to $37.40, but that's not keeping pace with the cost of living for many people. Lucas: That's the key disconnect. Nominal GDP is up — it's at $31.86 trillion, which is about 1.4 percent higher than the previous quarter. Real GDP, adjusted for inflation, is $24.17 trillion, growing at a two percent annual rate. So the economy is expanding in the aggregate, but the distribution of that growth is uneven. And when the baseline cost of living jumps, people feel poorer even if their paycheck goes up. Luna: And the stock market isn't helping the sentiment either, because even though the S&P 500 is at record highs, the average person doesn't own very much stock. The rally has been concentrated in big tech, and the small cap index — the Russell 2000 — is up 3.4 percent in the past week, but it's still well off its highs. Lucas: Yeah, small caps have actually been outperforming recently. The Russell is at 2,869, up 3.4 percent over the past five days. That's a bigger move than the S&P's one percent. So there's some rotation going on, but it's early. If that continues, it could be a sign that the market is betting on a soft landing. Luna: But the consumer isn't betting on anything. The Michigan survey showed that expectations for the future also hit a record low. So people don't think it's going to get better anytime soon. Lucas: And that matters because consumer spending is about 70 percent of GDP. If people pull back, the economy will slow. We're already seeing some signs — retail sales have been soft, and the savings rate has been declining. So the Fed is in a really tough spot. Luna: And if you're looking for a silver lining, the ten-year breakeven inflation rate is at 2.40 percent, which is actually down slightly from recent peaks. So the bond market thinks inflation will moderate over the long term. But that doesn't help anyone who's filling up their tank today. Lucas: No, it doesn't. And that's the real challenge for policymakers — they can talk about data and projections all they want, but the lived experience of the economy is what drives sentiment. And right now, that lived experience is pretty grim for a lot of people. Luna: So what's the one thing you're watching this week that could shift the narrative? Lucas: I'm watching the PCE data that comes out on Friday. The core PCE price index was at 129.3 in March, up from 128.9. If that number comes in hotter than expected, the bond market will react, and the Fed will have to sound more hawkish. If it comes in cooler, that could give them room to signal a cut. Luna: And if the sentiment numbers stay this low, it's going to be hard for the White House and the Fed to ignore. There's a political dimension too. Lucas: For sure. And speaking of things that are hard to ignore — if you've been finding these conversations useful, and you want to help keep them going ad-free, you can support the show at buy me a coffee dot com slash fexingo. Even a couple dollars a month genuinely makes a difference in covering hosting costs and keeping this independent. Luna: Yeah, it's a small way to make sure we can keep digging into these numbers without any outside pressure. We appreciate everyone who's chipped in. Lucas: Okay, back to the data. One other thing I'm watching is the jobless claims data. They came in at 209,000 last week, which is still low, but the four-week moving average is creeping up. If that continues, it could be an early warning. Luna: And the JOLTS data showed a decline in openings, but also a decline in quits. So people are staying put — they're not as confident they can find a better job. Lucas: Right. The quits rate is often a better indicator of labor market confidence than the unemployment rate. When people quit, they're moving to better opportunities. When they stay, they're hunkering down. And that's consistent with a consumer who's feeling pessimistic. Luna: So the macro picture is: growth is okay, inflation is sticky, the labor market is cooling but not cracked, and consumer sentiment is in the gutter. That's a tough combination for the Fed. Lucas: It really is. And the bond market is telling us that the Fed is going to have to cut eventually — the ten-year yield is 4.56, the two-year is 3.58, that's about 100 basis points of inversion. Historically, that's been a reliable recession signal. But the economy hasn't tipped over yet. Luna: Maybe this time is different? Or maybe the lag is just longer because of all the pandemic-era savings that are still being drawn down. Lucas: That's a big debate. The excess savings that people accumulated during the pandemic are largely depleted now — the San Francisco Fed estimated they were mostly gone by mid-2024. So the consumer is now living on current income, and that's why the labor market is so critical. Luna: And if the labor market softens, consumer spending will follow, and then GDP growth will slow. The two percent number we have now is not exactly robust — it's below the long-run average of around three percent. Lucas: Yeah, two percent is basically stall speed. If it dips below that, the economy is vulnerable to shocks. And we've got plenty of those — the Iran war, the uncertainty around trade policy, the fiscal cliff that's looming with the debt ceiling debate. Luna: So where does that leave investors? If you're a retail investor listening, what's the play? Lucas: I think the play is to be cautious but not defensive. The small cap rally we've seen is interesting — it suggests that the market is starting to price in a soft landing where the Fed cuts rates and the economy avoids recession. If that's the base case, then cyclical sectors and small caps could do well. But if the data deteriorates, all of that unwinds quickly. Luna: So you're saying stay diversified, don't chase the rally, but also don't hide in cash. Lucas: Exactly. Cash is yielding about 3.6 percent right now, which is fine if you need liquidity, but you're losing purchasing power to inflation. The ten-year breakeven is 2.4 percent, so the real yield on cash is roughly 1.2 percent after inflation expectations. That's not terrible, but it's not going to build wealth over time. Luna: And with the stock market at highs, valuations are stretched. The S&P 500's price to earnings ratio is around 22, which is above the historical average of about 16. So there's not a huge margin of safety. Lucas: Right. And that's why the macro environment is so important. If earnings hold up, valuations can be justified. But if the economy slows and earnings fall, then multiples have to contract, and that's how you get a correction. Luna: So we're watching the same things: inflation data, jobs data, consumer sentiment, and the bond market's read on all of it. Lucas: Exactly. And the one wildcard is geopolitics. The Iran war has already pushed oil prices up, and if it escalates, that could be the shock that pushes the economy into recession. That's the risk that's hardest to model. Luna: And it's the one that's most directly affecting consumer sentiment right now. People see it in the headlines and at the pump. Lucas: Yeah. So we'll keep watching. Thanks for listening, and we'll be back tomorrow with another breakdown.