The US Federal Reserve is keen to promote full employment and stabilize prices. In recent interest-rate increases, the monetary policymaker’s major focuses have been the non-agricultural employment rate and inflation. The Fed increased interest rates only when the non-agricultural employment rate beat market expectations.
However, the Fed now faces a problem. While year-on-year GDP growth was 3.2% in the first quarter of this year – well over market expectations and the 2.2% growth in the previous quarter – the non-agricultural workforce also rose by 263,00 in April. That was also much higher than the expected 190,000. The unemployment rate fell to 3.6% – a record low not seen for 49 years.
But the index on US personal consumption expenditure was flat in March, with an increase of only 1.6% year on year, missing the 2% inflation target set by the Fed. In other words, the US economy achieved high growth, low unemployment rates and low inflation in the first quarter.
Normally, the Fed should be at ease, because it doesn’t have to launch new monetary measures. In fact, it said it would maintain interest rates at the current level.
Pressure from the White House
So why is the Fed still looking to stimulate the economy by cutting interest rates? A key factor is pressure from President Donald Trump, who has repeatedly blasted the Fed for not cutting rates. And some indicators have revealed problems in the US economy.
First, in April, the number of people who were employed fell by 103,000, while the number of unemployed contracted by 387,000. That means some 490,000 people left the total labor force. Basically, the decrease in the workforce played a big role in the unemployment rate declining so significantly. In other words, the employment rate is high not because more people were hired but because so many people dropped out of the labor force.
Second, in terms of household consumption, the average salary in April rose by 0.2% on a month-to-month basis and 3.2% on a year-to-year basis, lagging behind expectations. So even though unemployment decreased, citizens’ purchasing power was not boosted. US economic growth is highly driven by consumption and will be hurt by weak household consumption.
Third, the current level of debt among US corporations is at an all-time high, even with low market interest rates at around 2.4%. In this situation, companies tend to increase their leveraging. The rising debt ratio will create systematic risks and asset bubbles, resulting in an economic recession when the bubbles burst.
Fourth, the 10-year US Treasury bond yield curve has dropped below the three-month rate, which shows that investors are not optimistic about long-term economic growth. Historical figures showed that this could be a pre-signal of an economic recession.
Fifth, the Institute of Supply Management (ISM) manufacturing index – the Purchasing Managers Index (PMI) – was 52.8 in April, still higher than 50, but at its lowest level for nearly 30 months.
In short, while the non-agricultural employment rate and inflation rate figures are promising, consumption and investment figures point to uncertainty about the sustainability of US economic growth.
Also, two other negative factors should be considered. First, the China-US trade disputes, with Trump deciding to increase tariffs on Chinese goods, while China will retaliate.
Second, as the situation continues to escalate in Iran, there is a possibility of war between Iran and the US.
These are factors could have unfavorable impacts on the US economy.
If the Fed cuts interest rates now, the stimulus may end up forming a systemic risk. But if it does nothing, it may lead to an economic recession. More figures are needed to determine whether the current unfavorable situation is temporary or will be a long-term thing.
This article was first published on ATimesCN.com and translated into English by Kamaran Malik.