Hello from Southern First! It seems that with enough football, pumpkin spice, sweaters, and Autumn-themed baby showers, our team is wishing Fall into existence despite the outside temperatures still being very summer-like. We are enjoying these days of seasons changing and looking forward to the last quarter of the year coming up.

In our last economic update, we suggested that inflation and the Fed’s interest rate increases would slow through 2023 but that interest rates would likely stay at current or slightly higher levels until sometime in 2024. No change here – this is still our expectation and the data and commentary in recent months seems to support this direction. So let’s focus more on a somewhat surprising aspect of the current environment: the US consumer’s reaction to all of this.

Only a few months ago, most economists and even the Federal Reserve itself were projecting a recession in late 2023, and with good reason. Interest rates had gone from near 0 to 5.25% in 14 months, mortgage rates were near 7% and going higher, and most goods and services were painfully more expensive. How could things not slow down in that environment? To be sure, our economy and most consumers will eventually reduce spending and growth as those dynamics continue. But not yet.

The employment picture has a lot to do with this. Simply put, it has been and remains true that America’s workers have jobs and could get a new one if they so choose. There are various metrics to illustrate this (unemployment rate, job creation figures, labor force participation, and others) but they all point to the same fact. As long as people are employed, especially with wage growth keeping reasonable pace with inflation, they usually feel secure enough to spend money on the things they need and many that they want. In that context, we aren’t surprised that spending continues its pace.

Housing markets also play a big role in spending and growth. In fact, the Federal Reserve has consistently outlined housing and rent as an area it is watching closely to ensure inflation in those sectors begins to come down faster. Like the Fed, we are surprised that its main tool to control inflation (interest rate policy) has not slowed down the housing market, which would typically be among the first parts of the economy to be affected. Supply and demand, and in this case an imbalance between the two, are at play here. First, the supply of housing has lagged for years. The Great Recession’s origins in the housing market meant that homebuilders largely stopped building new homes in most areas of the country, and especially in the Southeast. Even as the recovery occurred there was ground that did not get made up. Then a pandemic arrived and, for the second time in a decade, an economic shutdown occurred and homebuilding slowed again. Throughout all of this, population increased and demand for housing did, too, and now, many homeowners are staying in their homes longer to keep a more favorable rate from years past. With all of this in mind, we continue to find ourselves with more demand for housing than supply, which inflates costs. Buyers are taking advantage of opportunities that exist today and will benefit from adhering to their own timeline rather than attempting to time their purchase with the market as we do not expect to see dramatic changes to interest rates in the coming months.

Speaking of the pandemic, let’s recall that consumers entered 2022 with more cash on hand than they had previously by virtue of government stimulus. Of course that helped start the inflationary cycle we are still in, but that was a while ago – surely that isn’t still causing the inflation we see today? It turns out that consumers still have more cash than they collectively did in 2019, even three and a half years after the start of the pandemic. This extra spending power is still a factor in the economy, of which consumer spending comprises about 70%, and means that growth and spending have not slowed as we might have expected in a more normal economic cycle.

Interest rate policy is a blunt instrument; it doesn’t reach all economic areas equally, at the same time, or in a targeted way. It takes time for interest rates alone to affect consumers such that they choose to spend less, borrow less, and consume less. Here we mentioned three factors that may be delaying those reactions even more than normal. There are other possibilities as well, some of which are fascinating to consider. For example, is it possible that today’s consumers place more value on experiences and will therefore continue buying airline seats, higher cost vacations, and amusement park tickets, even while paying more for necessities? Whatever the factors, the Fed’s efforts to remove money from the economy have worked and the effects will continue to be felt, even without many further rate increases as appears to be the likely case. It will just take more time.

We take pride in our role as bankers and feel a responsibility to give good advice and guidance in such an uncertain time. We welcome your thoughts – feel free to leave a comment for us here or contact us anytime. Thank you as always for the privilege of serving you. Happy Fall!

by Cal Hurst, President