The U.S. economy is teetering on the edge of a downturn, even as the Federal Reserve, led by Jerome Powell, shifts toward a rate-cutting cycle. While some might view this as a life raft for the markets, it’s too late to save the broader economy. The damage has been done. The business cycle has turned, and recessionary signals are flashing everywhere. This isn’t just a cooling-off period; it’s the beginning of a painful contraction.
The Illusion of a Resilient Market
The stock market has remained buoyant in recent months, largely buoyed by optimism surrounding potential Fed easing. Yet, this is likely the last push higher before the inevitable decline. A confluence of factors—rising delinquencies, consumer stress, and slowing business investment—suggests that the rally is built on shaky ground.
Investors should take heed: while the stock market tends to rally before recessions, these are often “false dawns” before the reality of economic contraction sets in. The market’s disconnect from the underlying economy is striking, and history suggests that such divergences are unsustainable.
Consumer Stress: The Cracks Are Widening
The health of the American consumer, long a driver of economic growth, is deteriorating rapidly. Recent data paints a grim picture:
- Auto Loan Delinquencies: According to the New York Fed, the percentage of auto loans that are 90+ days delinquent has surged to levels not seen since the aftermath of the Great Financial Crisis. As higher interest rates continue to squeeze consumers, more Americans are falling behind on their car payments, signaling that household budgets are under significant strain.
- Home Loan Delinquencies: While housing prices remain elevated in many markets, the underlying data on mortgages is concerning. Mortgage delinquencies, especially among subprime borrowers, are creeping up. With refinancing opportunities dried up due to higher rates, homeowners are feeling the pinch, particularly as wages stagnate and inflation eats into disposable income.
- Credit Card Spending & Debt: Credit card balances have hit an all-time high, exceeding $1 trillion for the first time. While consumer spending has remained resilient on the surface, much of it has been fueled by debt, not income growth. At the same time, delinquency rates on credit cards are rising, particularly among younger consumers. This points to an over-leveraged consumer who is now struggling to make ends meet as interest payments mount.
These indicators are critical because they are often coincident and leading signals of economic downturns. The American consumer, who accounts for roughly 70% of U.S. GDP, is stretched thin, and the ability to sustain current levels of spending is quickly evaporating.
Business Investment and Hiring: The Slowdown is Here
It’s not just consumers feeling the squeeze—businesses are scaling back as well. Business investment, which tends to be a lagging indicator, is slowing as companies brace for a downturn. Hiring freezes are becoming more common, particularly in sectors sensitive to higher interest rates like construction, manufacturing, and retail.
At the same time, the labor market, which has been one of the stronger pillars of the economy, is showing cracks. Initial jobless claims are ticking higher, and the pace of job creation is slowing. Leading economic indicators such as the ISM Manufacturing Index and Conference Board’s Leading Economic Index (LEI) have both been pointing to contraction for months. These are signals that a recession is no longer a distant threat—it’s at the doorstep.
The Fed’s Rate Cuts: Simply, Too Late
Jerome Powell’s shift toward a rate-cutting cycle, while necessary to prevent a full-blown collapse, comes too late to reverse the damage already done. The aggressive rate hikes of the past 18 months have worked their way through the system, and now the economy is feeling the full impact. The Fed may lower rates to provide some relief, but monetary policy operates with a lag. By the time rate cuts work their way through the economy, the recession will likely be in full swing. It is unfortunate that the models used by the Fed are not able to anticipate this lag correctly.
Moreover, the Fed is facing a delicate balancing act. Cutting rates too aggressively could stoke inflation, while not cutting fast enough could exacerbate the downturn. Either way, the economic damage is likely to persist, and consumer confidence is already eroding. The Fed will be proven wrong again and they will begin to cut aggressively through the first half of 2025 in a desperate attempt to avoid a deflationary scenario.
The Stock Market’s Final Push
Despite the gloomy economic backdrop, the stock market has managed one final push higher. This “last dance” for risk assets is a classic case of markets reacting to the expectation of looser monetary policy. However, investors should be cautious. Historically, markets tend to rally before major downturns, only to reverse sharply as the reality of economic contraction sets in.
The last few months of gains are reminiscent of the dot-com bubble or the lead-up to the 2008 financial crisis, when stocks rallied in the face of deteriorating fundamentals. The current rally is likely nothing more than a head fake, a temporary reprieve before the inevitable correction.
The Dominoes Are About to Fall
The signs are all there: rising delinquencies, an overstretched consumer, slowing business activity, and a labor market that’s losing steam. While the Fed’s pivot to rate cuts might delay the inevitable for a short time, it won’t prevent the economic slowdown that’s already underway. The dominoes are lined up, and once they start falling, the stock market will no longer be able to ignore the grim reality.
For investors, this is a time for caution. The current rally is likely to be short-lived, and those who fail to heed the warning signs could be caught off guard when the downturn accelerates. The business cycle has turned, and despite the Fed’s best efforts, the recessionary tide is coming. Prepare accordingly.
