This Week's State Of The Economy - What Is Ahead? - 20 October 2023

By: Taro Chellaram /Wells Fargo Economics & Financial Report/Oct 27, 2023

This Week's State Of The Economy - What Is Ahead? - 20 October 2023

Treasury yields shot up this week amid resilient economic activity. As markets adjust their expectations for longer-term rates, the yield on the 10-year has moved to its highest level since the months preceding the global financial crisis. This development has numerous implications for the path of the economy and the Federal Reserve’s policymaking. Chair Powell acknowledged that the recent jump in yields intensifies the financial tightening already under way in the economy, noting that the Federal Reserve is paying attention to financial conditions as it charts the course of monetary policy.

The run-up in yields set off a surge in mortgage rates, nudging the housing market back toward recession. This week, the average 30-year fixed mortgage rate reported by Freddie Mac hit a near 23-year high of 7.6%. Higher frequency data from Mortgage News Daily suggest that mortgage rates are currently hovering above 8.0%, adding a new layer of financial and psychological strain for prospective homebuyers. Housing demand was in retreat long before this week’s increase, however. Existing home sales have posted four back-to-back declines culminating in a new cycle low in September, when sales sank to their slowest pace since 2010. With near-term affordability relief out of sight, the persistent downward trend in mortgage purchase applications suggests that resales likely have further to fall.

Single-family building has remained fairly resilient amid rising pressure on housing demand. In contrast to weakening resales, builders have found success using mortgage rate buydowns and price discounts to sell new construction. A pickup in new home sales sparked a trend rise in single-family permits since the start of the year, which notched its eighth back-to-back upswing in September. Tides may be turning as spiking mortgage rates test builders’ ability to bridge the affordability gap. The NAHB Housing Market Index gauging builder sentiment fell to a nine-month low in October, reflecting a worsening sales outlook. Meanwhile, multifamily construction continued to downshift as builders battle tighter credit conditions and rising trend in apartment vacancies. Despite a bump in multifamily starts in September, multifamily permits plunged to their lowest level since October 2020.

Higher financing costs are also pressuring the manufacturing sector. An uptick in manufacturing output drove industrial production 0.3% higher in September. That said, prior revisions revealed that manufacturing has largely flatlined since late last year. We expect manufacturing to continue to flounder as tighter credit conditions create an unfavorable environment for new capital investment. The ISM Manufacturing Survey has long signaled that higher rates are reducing demand for manufactured goods, and that sentiment was echoed this week in the Federal Reserve’s October Beige Book. Better inventory management is also taking some air out of production as producers opt not to stockpile into a slowdown.

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