Payden & Rygel: Ahead of 'Liberation Day'
Jeffrey Cleveland, Chief Economist at Payden & Rygel, shares his thoughts on Trump's 'Liberation Day':
Federal Fundraiser: The administration's flurry of activity, including raising tariff revenue, laying off federal employees, and attempting to cut federal spending through DOGE and the budget reconciliation bill, are all means to reduce the budget deficit while extending TCJA tax cuts. We’re just not sure it’s going to work. Out of all the proposed policies, tariffs have the most significant revenue upside potential and give the executive branch the most control. However, for tariff revenue to be able to cover the loss in revenue from tax cuts and reduce the budget deficit, effective tariff rates would need to rise north of 40% (from 3.4% today), an ambitious objective that might not be achieved. Further, despite all the hoopla with DOGE, Treasury is still spending $29 billion per day on average, excluding debt-related payments, slightly higher than the pace of 2024 and 2023.
Inflation Headfake? We think there’s still a case for core inflation to moderate in 2025, compared to the Fed’s view on 'no further progress on inflation'. The February core PCE price index jumped 0.37% month-over-month, driven by a jump in goods and non-housing services prices, while the housing component continues to cool. As a result, we revised our core PCE projection to 2.5% at year-end. We’re assuming some tariff shock to core goods prices in the months ahead, but we also see downward pressure on non-housing services prices and shelter in the quarters ahead that could offset the tariff hit. As such, we think the door is still open to more rate cuts than the Fed currently projects, especially if growth concerns mount.
Actions Speak Louder Than Words: Consumer sentiment is in the basement, but how much will it affect spending? A softer-than-expected rebound in consumer spending in February did not make up for a slump in consumer spending in January. Consequently, Q1 GDP growth may register an annualized rate between ~1%, the softest quarterly reading in three years. Despite the monthly volatility, consumer spending is still rising at a healthy year-over-year rate of 2.7% in February, driven by solid real income gains. We will have more data on the labor market this Friday with the March employment situation report. But as long as the labor market holds up, continued wage gains will support consumer spending regardless of political uncertainties. Growth may be softer than expected in 2025, but solid consumer income growth should help the U.S. economy avoid a recession in 2025.
The bottom line is we now expect 1.5% GDP growth for 2025 (not a recession), unemployment at 4.3%, core PCE at 2.5%, and the fed funds rate at 3.50-3.75% by year end.