What could complicate the path ahead on interest rate cuts?

As the world economy enters the latter half of 2024, major central banks are pivoting towards interest rate cuts amid cooling inflation pressures, according to a new economic analysis from TD Economics. However, the path forward remains uncertain, with lingering concerns about persistent services inflation and potential impacts from the upcoming US election.

The analysis reported that inflation has moderated significantly across major economies, with the share of consumer price index components growing above 3% year-over-year shrinking notably. Leading the way has been a rapid unwinding of goods price inflation, excluding food and energy. However, services prices have shown more persistence, running at 5% annually in the US and Canada, and even hotter at 6% in the UK.

Central banks signal shift towards rate cuts

This cooling inflation trend has opened the door for central banks to begin easing monetary policy. The Bank of Canada has already cut rates twice in recent months, bringing its policy rate to 100 basis points below the US Federal Reserve. TD analysts noted that markets are now pricing in gradual 25 basis point cuts from most major central banks over the next 18 months.

For the US economy, the analysis paints a picture of deceleration rather than stalling outright. Growth has moderated from the robust 4% annualized pace seen in late 2023 to a more trend-like 2% in the first half of 2024. This slowdown is viewed positively as evidence that higher interest rates are finally impacting the economy - a necessary condition for wringing out remaining inflationary pressures.

The US labour market has shown signs of cooling but remains relatively strong. While job gains have slowed and become concentrated in less cyclical sectors, the ratio of job openings to unemployed workers remains elevated compared to pre-pandemic levels. The unemployment rate has ticked up to 4.3%, triggering some recession concerns, but analysts have cautioned against reading too much into this single indicator.

US election: Potential disruptor to global trade

Looking ahead, the upcoming US election looms large as a potential disruptor to the global economic outlook. The analysis has warned that regardless of the outcome, global trade will likely face an America increasingly focused on industrial policy and self-reliance. This could potentially depress global trade volumes, with particular risks for economies highly reliant on US trade like Canada.

As central banks navigate this complex environment, the report emphasized they will remain highly data-dependent rather than relying solely on economic models. Any renewed inflationary pressures will be weighed carefully against loosening labour market conditions. While challenges remain, the overall picture suggested major economies may achieve the elusive “soft landing” as inflation gradually moderates without tipping into recession.

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