After April’s downturn, the first two weeks of May have not seen substantial improvement. By Thursday, May 12, markets were dangerously close to bear territory. The Fed enacted a 50-basis point increase in the Fed funds rate at the May FOMC meeting, and we also now have April’s key data. In addition, Fed Chairman Powell sat for an interview in which he discussed his definition of a “soft landing” and what it will take to get there.

Our three main points are the labor markets, interest rate hikes, and economic growth as measured by GDP. Let’s dive in.

The April Data is In

• The Bureau of Labor Statistics (BLS) reported that consumer inflation (CPI) slowed in April. The U.S. annual inflation rate was 8.3% in April, which marked a decline from 8.5% in March. The March number marked a 41-year high. While a decrease, it was less than the market forecasts of 8.1%. Food prices jumped 9.4%, notching the biggest increase since April 1981.
• The BLS also reported a decrease in wholesale prices. The producer price index (PPI) rose 11% versus a year ago. This was down from the 11.5% annual increase recorded in March 2022.
• GDP turned negative in the first quarter, down 1.4%, as reported by the Bureau of Economic Analysis. Two consecutive quarters of negative growth usually indicate a recession.
• The April employment number was strong, but there are some indications of slowing. The economy added 428,000 jobs in April, and the unemployment rate was unchanged at 3.6%. The household survey found some softening in labor markets, as the labor force participation was 62.2%, the lowest in the last three months.

What Does it All Mean?

Inflation fell, if only by – to use a technical term – a smidge. But it could be enough to call a peak. Falling inflation, combined with some potential softening in the labor market, could mean that we are seeing a nascent “soft landing.”  Chairman Powell defines this as “getting back to 2% inflation while keeping the labor market strong.”

The strong labor market isn’t just putting people to work; it’s increasing the amount they get paid. Powell was clear that the current level of wage growth is one of the problems for lowering inflation. “wages are moving up at levels that are unsustainably high and not consistent with low inflation.”

Powell acknowledged that the soft landing will be difficult to engineer but reiterated that the Fed looks closely at the data. While they anticipate a series of 50 basis point rate hikes, they are opening increasing or decreasing as the impact of rate increases filters through into the economy.

However, there’s a lot on the positive side of the ledger. Household and business balance sheets are in good shape, and the labor market remains strong. The University of Michigan Consumer Sentiment Survey saw a big bump in April (it has now retraced), but that at least reflects that consumer pessimism is not set in stone.

The Fed Put is Likely Kaput

The “Fed Put” refers to the preference of the Fed in recent years to support the stock market. A loosening of monetary policy has often followed big market drops. Based on Powell’s remarks, that doesn’t seem likely. Inflation is his top priority, and when he says controlling inflation will “include some pain,” that’s part of what he’s likely talking about.

However, it’s important to realize that markets will respond to data by pricing in the future. If inflation drops for two consecutive months, optimism may return.

The Bottom Line

The record stimulus is receding from the economy as the Fed takes measures to tighten monetary policy in an attempt to lower demand. The Fed has been clear on messaging, which is the first thing the markets ask. Stay the course, keep volatility in the forefront of any moves you are considering, and prepare for higher rates if you haven’t already done so.