Resources

Chief Economist Eugenio J. Alemán discusses current economic conditions.

Questions regarding the US debt ceiling have become more and more common lately as many realize that the US is dangerously approaching the date when not even accounting maneuvers are going to be enough to prevent a potential economic crisis brought about by a political standoff over increasing the US debt ceiling.

For now, markets seem to be assuming that this is going to be ‘another day at the office’ and, in the end, politicians are likely going to do what they normally do: wait until the last minute and then do the right thing and increase the debt ceiling. And this is certainly possible. However, our job is to try to imagine ‘what ifs,’ where there is no such ‘goldilocks’ ending to this recurring problem.

The three scenarios below hypothesize from an economic standpoint what we believe could potentially happen as we approach the debt ceiling ‘X date’. Additionally, we provided links to a few articles covering the debt ceiling topic from our Washington Policy Analyst on the next page.

Of course, these scenarios are purely speculative and will probably be very different from what could actually happen if such a day comes to pass. The biggest issue is that if Scenario 2 or 3 happens it will be a first, so it is an exercise of imagination rather than something based on past experience.

• Scenario 1: In this scenario we do what we do every time the issue comes to the fore, we wait until the last day, the ‘X date’ and we, somehow, get an agreement that will keep this fire burning until the next time somebody wants to take political advantage and threaten to send the US and world economy into a very easily avoidable catastrophe.

• Scenario 2: The ‘X date’ comes in and since the political system does not agree on a solution the US government decides to issue an executive order based on the 14th Amendment to the Constitution, Section 4, which says that “the validity of the public debt of the United States, authorized by law, including debts incurred for payment of pensions and bounties for services in suppressing insurrection or rebellion, shall not be questioned.”

If there is no solution to the debt ceiling then we believe that Scenario 2 is, perhaps, the most obvious alternative for the US government. However, this alternative would be a very unstable scenario that could last for many months or even years, up until the judicial process ends with a decision by the Supreme Court on the constitutionality of the executive order. If the Supreme Court decides in favor of the US executive, then this will be the end of the debt ceiling recurring issue, as the US Government will have authorization to pay its debts. However, during the interim period before a positive decision by the Supreme Court, the economy as well as the markets could suffer the consequences of the uncertainty created by these events.

If the Supreme Court decides against the US Government and/or we get to the ‘X date’ without a solution, then we could be close to a Scenario 3 environment. Although we believe this scenario to be the least likely one, we included it on the next page.

• Scenario 3: The ‘X date’ comes and no solution is reached and the US falls into a potential technical default. This scenario could have different outcomes depending on the decision of the US government to go about trying to pay US debts to bondholders, employees, suppliers, the military, etc. The market and economic consequences of this scenario are potentially severe in economic terms, but those consequences will depend on what happens next and what the political system does after realizing it made a mistake.

Clearly, only Scenario 1 is a good scenario while the other two scenarios are bound to generate serious issues for the economy as well as for the financial market, not only in the US but also in the rest of the world.

If either Scenario 2 or Scenario 3 happen, we should expect a US recession with varying degrees of severity depending on how these scenarios pan out, as there could be variations within each one of those scenarios.

Although Scenario 2 will have relatively severe consequences for the US as well as the global economy, successful and positive development in terms of the constitutionality of an executive decision to pay our debts based on Section 4 of the 14th Amendment to the Constitution will be a very good endgame in the long run, as it will take away the possibility that the debt ceiling could be used in the future to threaten the ability of the US government to pay its debts and politicians will have to settle their differences through the normal congressional process. This scenario is likely to move fast, and as markets tend to be forward- looking, possible declines in the markets should be short-lived.

However, Scenario 3 is the most damaging of these scenarios and the economic consequences will probably rival those of the Great Recession back in 2008-2010. However, unlike the effects of the Great Recession, which were temporary, we believe that Scenario 3 could have more lasting effects on the US economy and on its ability to remain the world’s leading economy, affecting future growth as well as its ability to impose its will on an increasingly antagonistic rest of the world.

In the unlikely event that Scenario 3 occurs, expect a deep recession, and a surge in interest rates as foreign governments, as well as investors across the globe, shy away from US Treasuries or start requiring higher interest rates to continue to finance our excess consumption over production, that is, our current account deficits. Furthermore, we should expect a depreciation (or weakening) of the US dollar that would help bring the US current account into balance over time or even into a surplus, reducing the need for foreigners to finance the current account deficit in the future. Although this last consequence may seem to be a positive development, the US as well as individuals will be, overall, worse off.

Washington Policy Research from Ed Mills, Washington Policy Analyst:

April 20: McCarthy Unveils GOP Conditions to Lift Debt Limit Through 1Q24

April 14: Weekly Wrap: Debt Limit Talks Kick into High Gear as Congress Returns to Session

March 31: Weekly Wrap: McCarthy to Meet Taiwan’s President/New Momentum on Debt Limit

Economic Releases:

NAHB/WF Housing Market Index: The NAHB showed continued improvement in April, the fourth consecutive increase. However, the Index remained below the 50-demarcation point between contraction and expansion. The biggest reason for the Index remaining in contraction territory was a very low reading for the Traffic of Prospective Buyer Index, which remained unchanged in April, at 31, while the other two indices (Single Family Homes: Present and Single Family Homes: Next 6 Months) improved, one moving above 50, at 51, and the other increasing to the 50 demarcation point between contraction and expansion. The NAHB Housing Market Index published by the National Association of Home Builders (NAHB) increased to 45 in April compared to 44 in March. This was the fourth consecutive monthly increase in the Index even though it remained in contraction territory, that is, below the 50-demarcation point. According to the NAHB release, “For the fourth straight month, builder confidence has increased due to a lack of resale inventory despite elevated interest rates.” Also, according to the NAHB release, “one-third of the housing inventory is new construction, compared to historical norms of a little more than 10%.” By housing market index components, the Single Family Sales: Present Index moved into expansion, from 49 in March to 51 in April while the Single Family Sales: Next 6 Months index increased from 47 in March to the demarcation point of 50 in April. Meanwhile, the Traffic of Prospective Buyers index stayed unchanged and very low, at 31, in both March and April. On a regional basis the NAHB stayed at 46 in the Northeast while it went from 36 in March to 39 in April in the Midwest. In the South, the Index stayed at the same level, at 50, in both March and April while in the West it went from 36 in March to 41 in April. The NAHB showed some continued improvement in April as the US housing market continued to show signs of stabilization. However, according to builders, lower interest rates could help improve builder sentiment further.

Housing Starts: Building permits and housing starts in March continued to confirm that the housing market is a regional market with the Northeast experiencing a surge of 72.4% in housing starts in March compared to February while the Midwest and the West saw housing starts decline by 23.6% and 28.1%, respectively. Housing starts declined by 0.8% in March, to a seasonally adjusted annual rate of 1.420 million, according to the US Census Bureau and the US Department of Housing and Urban Development. Housing starts were down by 17.2% compared to March of 2022. Single-family housing starts were up 2.7% compared to the revised February number. In regional terms, the Northeast saw housing starts booming, up 72.4% in March compared to February while it was up 4.4% for single-family units. In the Midwest, housing starts declined 23.6% in March compared to the previous month, but increased 23.6% for single- family units. In the South, both total units as well as single-family units increased, 6.8% and 4.8%, respectively, in March compared to February. The West saw the largest decline with total housing starts declining 28.1% while single-family units declined 16.0% in March compared to February of this year. Building permits were down 8.8%, to a seasonally adjusted annual rate of 1.413 million in March compared to February of this year. They were down 24.8% compared to March of 2022. Single-family building permits were up 4.1% in March of this year compared to February, according to the report. Although permits were down, both single-family as well as buildings of two to four units were up 4.1% and 10.6%. What drove permits down in March was a collapse of 24.3% in building permits of five units or more. In regional terms the picture was very different with building permits in the Northeast surging 25.2% in March compared to February but single-family building permits increasing just 3.7% during the month. In the Midwest, building permits declined by 1.0% in March compared to the previous month and were flat for single-family units. In the South, building permits declined 11.8% in March, but increased 4.0% for single-family units while in the West, building permits declined 16.5% but increased 7.0% for single-family units. Housing starts and building permits were both lower in March than in February of this year while also remaining much lower when compared to a year earlier. However, the sector continues to show signs of stabilization rather than showing further deterioration.

Economic Releases:

Existing Home Sales: Existing home sales were lower than FactSet consensus expectations of 4.5 million units. However, the inventory of existing homes for sale remained unchanged while the median price of existing homes increased for a third consecutive month. Even if existing home sales were lower in March, the further increase in the median price of existing homes is another indication that the housing market has stabilized during the first quarter of this year. Furthermore, the increase in home prices is not what the Federal Reserve wants to see happening in its fight against inflation. Existing home sales declined 2.4% in the third month of the year compared to February, to a seasonally adjusted annual rate of 4.44 million, according to the National Association of Realtors. Existing home sales were down 22% in March of this year compared to a year earlier, according to the report. By region, the Northeast saw no changes in existing home sales during the month of March compared to February while sales declined 21.2% compared to March of last year. In the Midwest, sales were down 5.5% in March compared to February and by 17.6% compared to March of last year. The South saw a decline in sales of 1.0% in March compared to February and by 20.4% compared to last year. Finally, in the West, sales were down 3.5% compared to February of this year and 30.5% compared to March of last year. The median sales price of existing homes was $375,700 in March, an increase from a median price of $363,600 in February of this year. This was the third consecutive increase in the median price of existing homes, according to the report. The inventory of existing homes for sale increased from 970,000 in February to 980,000 in March, or 1.0%. However, the month’s supply remained at 2.6 months, unchanged from February at the current pace of sales. Existing home sales in the Northeast were flat in March while the rest of the regions were down. Meanwhile, new home sales surged in the Northeast during the third month of the year.

Leading Economic Index: The Conference Board Leading Economic Index (LEI) fell for the twelfth consecutive month in March, indicating that the US economy is heading toward a recession. The Conference Board Leading Economic Index (LEI) declined by 1.2% in March of 2023 after declining 0.5% in February. The LEI is down 4.5% during the six-month from September 2022 and March 2023. This was the twelfth consecutive decline for the Index. According to The Conference Board release: “The weaknesses among the index’s components were widespread in March and have been so over the past six months, which pushed the growth rate of the LEI deeper into negative territory. Only stock prices and manufacturers’ new orders for consumer goods and materials contributed positively over the last six months. The Conference Board forecasts that economic weakness will intensify and spread more widely throughout the US economy over the coming months, leading to a recession starting in mid-2023.” The Conference Board Coincident Economic Index (CEI) increased 0.2% in March of 2023 after it posted an increase of 0.2% in February. The Conference Board Lagging Economic Index (LAG) was also up 0.2% in March of 2023 after increasing 0.2% in February 2023. The March LEI release continues to show weakness in the economy and still signals a recession starting within the next 12 months.

Economic and market conditions are subject to change.

Opinions are those of Investment Strategy and not necessarily those of Raymond James and are subject to change without notice. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. There is no assurance any of the trends mentioned will continue or forecasts will occur. Last performance may not be indicative of future results.

Consumer Price Index is a measure of inflation compiled by the U.S. Bureau of Labor Statistics. Currencies investing is generally considered speculative because of the significant potential for investment loss. Their markets are likely to be volatile and there may be sharp price fluctuations even during periods when prices overall are rising.

Consumer Sentiment is a consumer confidence index published monthly by the University of Michigan. The index is normalized to have a value of 100 in the first quarter of 1966. Each month at least 500 telephone interviews are conducted of a contiguous United States sample.

Personal Consumption Expenditures Price Index (PCE): The PCE is a measure of the prices that people living in the United States, or those buying on their behalf, pay for goods and services. The change in the PCE price index is known for capturing inflation (or deflation) across a wide range of consumer expenses and reflecting changes in consumer behavior.

The Consumer Confidence Index (CCI) is a survey, administered by The Conference Board, that measures how optimistic or pessimistic consumers are regarding their expected financial situation. A value above 100 signals a boost in the consumers’ confidence towards the future economic situation, as a consequence of which they are less prone to save, and more inclined to consume. The opposite applies to values under 100.

Leading Economic Index: The Conference Board Leading Economic Index is an American economic leading indicator intended to forecast future economic activity. It is calculated by The Conference Board, a non- governmental organization, which determines the value of the index from the values of ten key variables

Certified Financial Planner Board of Standards Inc. owns the certification marks CFP^®, Certified Financial Planner™, CFP^® (with plaque design) and CFP^® (with flame design) in the U.S., which it awards to individuals who successfully complete CFP Board’s initial and ongoing certification requirements.

Links are being provided for information purposes only. Raymond James is not affiliated with and does not endorse, authorize or sponsor any of the listed websites or their respective sponsors. Raymond James is not responsible for the content of any website or the collection or use of information regarding any website’s users and/or members.

GDP Price Index: A measure of inflation in the prices of goods and services produced in the United States. The gross domestic product price index includes the prices of U.S. goods and services exported to other countries. The prices that Americans pay for imports aren’t part of this index.

FHFA House Price Index: The FHFA House Price Index is the nation’s only collection of public, freely available house price indexes that measure changes in single-family home values based on data from all 50 states and over 400 American cities that extend back to the mid-1970s.

Expectations Index: The Expectations Index is a component of the Consumer Confidence Index® (CCI), which is published each month by the Conference Board. The CCI reflects consumers’ short-term—that is, six- month—outlook for, and sentiment about, the performance of the overall economy as it affects them.

Present Situation Index: The Present Situation Index is an indicator of consumer sentiment about current business and job market conditions. Combined with the Expectations Index, the Present Situation Index makes up the monthly Consumer Confidence Index.

Pending Home Sales Index: The Pending Home Sales Index (PHS), a leading indicator of housing activity, measures housing contract activity, and is based on signed real estate contracts for existing single-family homes, condos, and co-ops. Because a home goes under contract a month or two before it is sold, the Pending Home Sales Index generally leads Existing-Home Sales by a month or two.

DISCLOSURES

Import Price Index: The import price index measure price changes in goods or services purchased from abroad by

U.S. residents (imports) and sold to foreign buyers (exports). The indexes are updated once a month by the Bureau of Labor Statistics (BLS) International Price Program (IPP).

ISM New Orders Index: ISM New Order Index shows the number of new orders from customers of manufacturing firms reported by survey respondents compared to the previous month.ISM Employment Index: The ISM Manufacturing Employment Index is a component of the Manufacturing Purchasing Managers Index and reflects employment changes from industrial companies.

ISM Inventories Index: The ISM manufacturing index is a composite index that gives equal weighting to new orders, production, employment, supplier deliveries, and inventories.

ISM Production Index: The ISM manufacturing index or PMI measures the change in production levels across the

U.S. economy from month to month.

ISM Services PMI Index: The Institute of Supply Management (ISM) Non-Manufacturing Purchasing Managers’ Index (PMI) (also known as the ISM Services PMI) report on Business, a composite index is calculated as an indicator of the overall economic condition for the non-manufacturing sector.

Source: FactSet, data as of 12/29/2022