While a number of challenges loomed as we closed out 2021, prospects remain relatively good for the U.S. economy going into 2022. Consensus estimates for GDP growth in 2022 hover around a healthy 4% rate. Consumers and corporations are both in relatively good shape, job openings are more than plentiful, and wages are growing. Supply chain issues have abated (though not disappeared), averting a holiday crisis. Yet the outlook is somewhat clouded by uncertainty regarding the pace and degree of tighter fiscal and monetary policy, the path of inflation, lofty valuations across markets, and, of course, COVID.
Stimulus measures, which have made a significant contribution to the economic recovery, are dwindling. Stimulus checks have stopped, unemployment benefits have faded, and bond purchases are ending over the next few months. President Biden’s nearly $2 trillion Build Back Better plan waits in the wings, having stalled in the Senate at the end of the year. Child tax credits, which were received by more than 35 million families in 2021, stopped as of January 1 and remain a controversial part of this plan. Further, rate hikes are all but assured in 2022.
A Look at 4Q21 Economic Performance and Trends for the Year
A relatively unusual disconnect between consumer sentiment and stock market gains / job availability was evident as we closed the year. While the S&P 500 Index was up 28.7% in 2021, the University of Michigan Consumer Sentiment Index sank 13%. What gives? Inflation worries, perhaps. Inflation has proven to be sticky, and the consumer has noticed. It remains to be seen if the 5.9% cost-of-living adjustment in Social Security benefits (the highest since 1982) will assuage these concerns. COVID-related fatigue has also taken a toll on sentiment. Just when society was beginning to enjoy a more “normal” existence—preparing to head back to work, to travel, and to attend concerts and other large gatherings—the Omicron variant thwarted many of these plans. While thought to be mild in relative terms, cases are surging and causing renewed angst. Growth will likely be impacted. GDP for 3Q21 rose at an annualized 2.3% rate, hampered by the impact of the Delta variant on consumer spending over the summer. Growth is widely expected to rebound in 4Q, with expectations ranging from 6%-8%, but 1Q22 growth is expected to fall closer to 2%, thanks to Omicron.
The Federal Open Market Committee (FOMC) left rates on hold at its December meeting, but there was a notable pivot in rhetoric around inflation, with the word “transitory” officially retired. The taper of bond purchases was accelerated as anticipated and is now expected to end by March 2022. All FOMC members now project at least one rate hike in 2022, with the majority expecting three hikes. The shift is notable given that at the September meeting roughly half of the members expected no hikes in 2022. Several new regional bank presidents will be voting in 2022, replacing outgoing voting members. Some view the new members as more inclined to support higher rates than the members who are leaving the Committee.
The FOMC lowered real growth expectations from 5.9% to 5.5% for 2021 but raised its 2021 forecast for the Personal Consumption Expenditures index, its preferred inflation gauge, from 4.2% to 5.3%, while projecting it to fall to 2.6% in 2022. As of November, the U.S. headline Consumer Price Index was up 6.8% year-over-year (+4.9% ex food and energy), with energy up 33% over the period. The 6.8% increase was the largest one-year gain since 1982. The Producer Price Index soared 9.6% (+7.7% ex food and energy).
Job openings remain at record levels. According to the U.S. JOLTS report, there were 11 million openings as of October 2021. The unemployment rate dropped to 4.2% in November. The “Great Resignation” phenomenon gained media attention, with a record 4.5 million leaving their jobs in November. Food service, retail, and health care are among the hardest-hit industries; the pandemic, work conditions, and shifting long-term goals are the key reasons cited. While some of these workers jumped to new jobs rather than left the workforce, hiring remains a problem for many organizations. The most recent National Federation of Independent Business (NFIB) Small Business Jobs Report found that 48% of owners had job openings they could not fill, more than double the 22% average over the report’s 48-year history. Further, labor costs are the chief concern for these employers, and increasingly owners are passing on these costs to consumers. Average hourly earnings grew 4.8% YOY as of November, and that is expected to trend higher as companies are raising wages and offering bonuses to attract workers.
As a final “cloud” on the horizon, valuations across asset classes remain quite full. The S&P 500 posted 70 record highs in 2021, and its nearly 30% jump marked the third consecutive year of double-digit gains (and the fifth in the past six years). Stock prices were bolstered by strong earnings as well as record-breaking share repurchases ($1 trillion). While revenues for companies in the S&P 500 grew roughly 17% in 2021, margins improved by 55% and the number of shares outstanding declined modestly. Yields in fixed income remain ultra-low, and given the uptick in inflation, real yields are negative across many sectors (including “high yield” corporates). Spreads are also below historical averages, and while corporate fundamentals are strong, it is reasonable to expect muted returns from both equity and fixed income in coming quarters.
The Macroeconomic Outlook for 2022
While the economy is doing well on many fronts, hurdles lie ahead that may thwart expectations for a solid year of growth. Valuations, inflation, Fed tightening, and a seemingly unending battle with COVID top the list. As the year closes, we are mindful of the many things to be thankful for, and our clients, colleagues, and families top that list. We hope that 2022 will allow more in-person contact and that the “clouds” on the horizon do not storm. It will come as no surprise that Callan continues to advise adherence to a disciplined investment process that includes a well-defined long-term asset-allocation policy.