Latest / The Macro Memo with Fexingo: Daily Conversations on Inflation, GDP, and Federal Reserve Policy / The Hidden Trap of Rising Nominal GDP
Transcript
- Lucas: Look at the nominal GDP number for the second quarter of twenty twenty six. It’s sitting at thirty two point five trillion dollars, up from thirty one point eight trillion in the prior period. On paper, that looks like robust growth. Luna: But when you strip out inflation, real GDP only grew by one point five percent annualized. That’s a massive drop from two point one percent. Lucas: Exactly. And here is the trap most investors fall into: they see the nominal headline, assume the economy is humming, and price assets accordingly. But the reality is that most of that three hundred billion dollar jump is just prices going up, not actual production increasing. Luna: So companies are reporting revenue growth, but their volume sales might actually be flat or shrinking? Lucas: Precisely. This is what we call pricing power versus volume. If I sell you the same amount of coffee next year but charge ten percent more, my nominal revenue goes up, but my real contribution to the economy hasn't changed. The Fed sees the nominal strength and might hesitate to cut rates because inflation looks sticky, even though the underlying engine is sputtering. Luna: That makes the current unemployment rate of four point one percent look even more fragile. Are people working harder for the same real wage? Lucas: It gets worse when you look at the CPI. Core CPI is at three hundred thirty six point eight, up from three hundred thirty six point zero six the month before. Inflation isn't crashing; it's just refusing to go away. So businesses have to keep raising prices to maintain margins, which further suppresses real demand. Luna: And if demand is suppressed, why are job openings still high at seven thousand two hundred seventy one thousand? Lucas: Because labor markets are sticky. Wages have to rise to match inflation, so companies keep hiring just to cover the cost of turnover and maintain service levels, even if they aren't expanding output. It’s an inefficient equilibrium. Luna: So the economy is running hot on nominal terms but cold on real terms. How does that affect your portfolio right now? Lucas: You stop chasing revenue growth as a proxy for health. You start looking at volume metrics. Which company can actually sell more units, not just raise prices? Because eventually, consumers hit a wall. Luna: Right, and once they hit that wall, those price hikes become headwinds instead of tailwinds. Lucas: If walking through the economy with us has made something click, consider supporting the show. These stay ad-free thanks to listener support. You can buy me a coffee dot com slash fexingo. It helps us keep digging into these nuances without advertisers dictating the narrative. Luna: Yeah, we appreciate it. It lets us spend more time on the data rather than selling slots. Lucas: Back to the data. Let’s look at the S&P futures. They’re up point seven percent over the last week. The market is pricing in a soft landing. Luna: But is it pricing in the nominal illusion? Or is it betting that the Fed will finally cut rates soon? Lucas: They’re betting on the latter. The ten-year Treasury yield is at four point seventy eight percent. That’s higher than the short end, which is inverted relative to the two-year at four point fifty five percent. The curve is steepening slightly, but not enough to signal a boom. Luna: So bond traders are worried about inflation staying elevated longer than expected. Lucas: They are. And the breakeven inflation rate is stuck at two point three five percent. That’s above the Fed’s two percent target. Markets don’t believe the Fed can tame it without causing a recession. Luna: Which brings us back to corporate earnings. If revenues are up due to inflation, are profits up too? Lucas: Only if they have pricing power. We saw in recent reports that sectors with high fixed costs are struggling. They can’t pass on all the energy and logistics costs. So their margins are getting squeezed even as top-line revenue grows. Luna: That sounds like a value trap. High revenue, low profit, high valuation. Lucas: Exactly. And that’s dangerous for equities. If nominal GDP slows down because consumers stop buying, those companies get hit twice. Revenue drops AND volumes collapse. Luna: So cash becomes king in this environment? Lucas: Cash with high yield. The Fed Funds effective rate is three point sixty three percent. That’s a risk-free return that beats most savings accounts. It gives you optionality to wait for the real dip. Luna: I’ve been moving some money into short-term treasuries myself. The liquidity is nice. Lucas: Smart move. Long-duration bonds are risky if inflation stays sticky. You don’t want to lock in yields that might be eroded by future price spikes. Luna: What about the labor force participation rate? Is that improving or staying flat? Lucas: It’s stagnant. The unemployment rate is flat at four point one percent, but that doesn’t tell the whole story. People who stopped looking for work aren’t counted. So the real slack in the labor market might be hidden. Luna: Which means the Fed could be underestimating the risk of a sudden shock to employment. Lucas: Yes. If a recession hits, those discouraged workers might re-enter the pool, spiking the unemployment rate quickly. The labor market looks stronger than it is because the denominator is broken. Luna: So we need to watch the JOLTS report closely. Job openings are up, but are hires keeping pace? Lucas: Hires are decent, but quits are down. When quits go down, it means workers are afraid to leave their jobs. That’s a sign of fear, not confidence. Confidence fuels movement; fear freezes it. Luna: Fear is a powerful motivator for spending cuts. Once people feel insecure, they pull back. Lucas: And that pulls back demand, which breaks the inflation cycle. But it also breaks corporate earnings. It’s a double-edged sword for the stock market. Luna: So the key is to identify which companies can survive the transition from inflation-driven growth to volume-driven growth. Lucas: Those with strong balance sheets and essential products. Discretionary spending is where the pain will be felt first. If you sell luxuries, you’re vulnerable. Luna: Essentials and services that can’t be automated away. Like healthcare or utilities. Lucas: Utilities are tricky because they’re rate-sensitive. But yes, defensive sectors tend to hold up better in this specific type of stagnation. Luna: I’m curious about the international angle. How are other economies handling this nominal vs real split? Lucas: Europe is weaker. Their inflation was higher initially, so their central banks cut faster. But their growth is near zero. Asia is mixed. India is growing fast, but China is struggling with property debt. Luna: So the US is relatively stronger, but only nominally. Real growth is lagging behind emerging markets in some cases. Lucas: Correct. But the dollar is strong because of the yield differential. That hurts US exporters. It’s a classic dilemma. Luna: So we’re stuck in a holding pattern until the inflation story resolves itself. Lucas: Until then, focus on quality. Ignore the noise of nominal headlines. Look at the real numbers underneath. Luna: Because the truth is always in the real data, not the price tags. Lucas: Exactly. And that’s where the alpha is hiding right now.