Soft Landing Forecast Narrative
Genevieve Signoret & Delia Paredes
(Hay una versión en español de este artículo aquí.)
What follows is a slightly edited excerpt from Quarterly Outlook 2023–2025: It All Hinges on Rates.
Last time, we set out our assumptions for our base case, Soft Landing. Today, we narrate that scenario. The forecast numbers can be found here.
The United States
Under Soft Landing assumptions, already in the fourth quarter of this year, real GDP growth slows down sharply to 1.8% from the outsized 5.2% rate seen in quarter three, for a final 2023 rate of 2.5%.
The slowdown continues throughout the first half of 2024, with growth rates dipping to near zero in quarter two before picking back up. Growth for all of 2024 dips to 1.4%.
PCE core inflation slows to 3.5% this quarter from last quarter’s 3.7%, but is still as high as 2.6% by December 2024, a full 0.6 percentage point above the Fed target. For this reason, although starting in quarter two of next year the Fed does lower its policy rate, it does so by only 75 basis points, to 4.75%.
More stubborn still than PCE inflation are yields on the 10-year U.S. Treasury note. They rise this month to end the year at 4.5% and then shoot all the up to above 5% in the first quarter of next year, falling at last to 4% in the final quarter.
2025 brings some GDP recovery (+1.6%), core PCE disinflation (+2.2%) insufficient to hit the Fed’s 2% target, more Fed rate cuts (to 3.5%), and only a slight decrease in the yield on the 10-year Treasury note (to 3.75%).
The euro strengthens against the dollar by only a tad, to 1.10 dollars, then remains stable. The dollar weakens against the Japanese yen to 130 yen.
Mexico
Under Soft Landing assumptions, economic activity in Mexico ends 2023 showing strong momentum, creating enough growth inertia so as to average 3% in the first half of 2024 before decelerating after the mid-year elections. Growth for all of next year is 2.4%.
Private consumption continues to be the chief driver of growth; the lagged effects of pre-election spending continue till the end of next year. Support from public infrastructure projects, however, begins ebbing away as early as quarter two. In 2025, the economy decelerates sharply on weak U.S. growth and a negative fiscal thrust.
Inflation continues to decline, sinking all the way down to 3.6% by end-2024 from a forecast 4.5% for end-2023, as core inflation converges to its long-term 3.5% rate over that same period.
Banxico stays cautious, deeming the balance of risks to inflation to be tilted upward. Finally, however, its chooses to follow the Fed, cutting its policy rate for the first time in quarter two of next year, and continuing to cut till reaching 10.5% by end-2024.
With the economy decelerating and inflation stable, Banxico’s easing cycle extends into 2025 as well. That year closes with the policy rate at 9.25%.
By end-2024, the dollar has appreciated against the peso to 19.50 pesos, where it stays till through the end of 2025.
Previous excerpts from Quarterly Outlook 2023–2025: It All Hinges
on Rates:
- Summary
- Long-term rates and equity valuations
- Rates, Covid and real estate valuations
- Why have US long-term rates trended up? Hypothesis 1: Debt issuance
- Why have US long-term rates trended up? Hypothesis 2: Tight policy
- Why have US long-term rates trended up? Hypothesis 3: Investor inflation worries
- Why is US nominal income unexpectedly high?
- Momentum: Recap
- What about growth in Mexico?
- Soft Landing Scenario Assumptions