Just How Interest Rate Sensitive Is The U.S. Economy? | Jeremy Schwartz & Professor Jeremy Seigel (Jack’s Guest Appearance On Behind The Markets Podcast)

Episode Summary

Executive Summary: The conversation centered on a surprising but ultimately constructive U.S. macro picture: labor market data showed slower hiring and higher unemployment, yet due largely to rising labor force participation rather than mass layoffs. Siegel argued this supports a soft landing, keeps the Fed on hold, and favors equities over bonds. Jack Farley then explored why higher rates have not yet crushed the economy, highlighting mortgage terming, low consumer leverage, bank deposit outflows, and emerging stress in commercial real estate.

Main Topics: Labor market softening without recession (Priority: 5/5): Siegel interpreted weaker payrolls, downward revisions, and a higher unemployment rate as evidence of labor-market slack returning because more people are entering the workforce, not because layoffs are surging. Fed policy and interest-rate outlook (Priority: 5/5): The hosts discussed how the data likely rules out a September hike and makes a November hike less likely, as productivity and easing labor conditions reduce inflation pressure while keeping real rates elevated. Equities, bonds, and market reaction (Priority: 4/5): Siegel argued that stronger real growth and higher real rates hurt duration assets and bonds, but can support profits and especially smaller-cap stocks, with equities still able to rise into year-end. Housing resilience and money supply (Priority: 4/5): Despite higher rates, housing prices remained resilient and M2 began rising modestly after falling, suggesting households are reallocating away from bank deposits toward money funds and other assets. Why higher rates have not hit harder (Priority: 5/5): Farley and Siegel discussed how consumers and many corporations locked in low fixed-rate debt, limiting immediate pain from higher rates; the burden has fallen more on lenders and banks than borrowers. Banking-system pressure and deposit migration (Priority: 5/5): The discussion emphasized deposit runoff, bank reluctance to pay market rates, and compressed net interest margins, with regional banks especially exposed to fixed-rate mortgage and securities holdings. Commercial real estate stress (Priority: 4/5): Farley explained that office CRE, especially in CMBS, is under strain because floating-rate financing has reset higher and many loans are entering maturity default or extension.

Key Arguments: Weaker payroll growth and upward participation are healthier than layoffs-driven unemployment; this is labor slack, not a collapse. The Fed should welcome this labor-market cooling because it reduces inflation risk without a major output sacrifice. Higher rates have not crushed the private sector because many borrowers locked in long-term fixed financing and consumer debt is not highly levered relative to income. Banks absorbed much of the pain: deposit outflows, unrealized losses on fixed-income holdings, and lower willingness to pay savers market rates. Equities can still do well if the economy avoids recession; Siegel projected further gains in the coming months. Commercial real estate is a differentiated problem: offices are much weaker than multifamily or industrial assets. The biggest risk to banks is not mark-to-market losses alone but rising credit losses if unemployment worsens. A lot of the bank stress comes from duration mismatch: banks hold long-duration assets funded by short-duration deposits.

Data Points: Nonfarm payroll revision: 110,000 downward revision - Siegel cited the large downward revision in the jobs report as part of the labor-market slowdown Unemployment rate: 3.8% - Rose 0.3 percentage points from 3.5% in the employment report Labor force participation: Back to pre-pandemic levels - Rise in participation was presented as the main reason unemployment increased Job openings: Two-year low - JOLTS showed a large drop in openings from peak levels Wage growth: 1.10% below expectation - Siegel said wages came in favorably below expectations Third-quarter real GDP growth estimate: 2.5% to 3% - Siegel’s estimate based on incoming real data Case-Shiller home prices: Up 0.9% - Monthly increase mentioned while noting prices remained below prior highs Bank deposit losses: Almost $1 trillion - Deposits lost since the Fed began raising rates, mostly shifting to money market funds M2 growth since bottom: Around 3% annualized - Siegel said money supply has started increasing again from its low S&P 500 2024 earnings estimate: Higher than a month ago - Siegel used this as evidence that profit expectations are improving Unemployment-rate move historically: 0.3 percentage point increase - Farley asked about the historical significance of the jump from 3.5% to 3.8% Credit-card delinquency comparison: Near 2019 levels - Farley said delinquencies are normalizing from unusually low 2021-22 levels Office CMBS maturity default rate: 70% - Farley cited June office loans in CMBS entering maturity default Most recent office-loan pay-off rate: 16% - Farley said only 16% of the latest month’s maturing CMBS office loans were actually paid off Historical unemployment-rate sensitivity: 92 basis points - Farley referenced his study of the average 12-month forward rise after a 30 bp move Projected stock market gain: Another 5% to maybe 10% over four months - Siegel’s base case for equities into year-end

Pivotal Quotes: "there is people coming into the labor market. There's slack in the labor market." — Jeremy Siegel: Explaining why the higher unemployment rate should be viewed as labor-market normalization rather than recessionary deterioration "I think the economy can stand higher real rates than I thought." — Jeremy Siegel: His revised macro view after seeing labor, housing, commodity, and claims data "the dominant or popular view 12 to 18 months ago that higher, high real interest rates would crush the economy with rapidity has not occurred." — Jack Farley: Summarizing the surprise that the economy has absorbed higher rates better than expected

Implications: The transcript points to a soft-landing backdrop: cooler labor demand may keep the Fed on pause, equities may retain upside, but banks and commercial real estate remain vulnerable to duration and funding stress.