Our annual watchlist highlighted a shift in the outlook toward inflation and interest rates. With inflation cooling and the pressure to raise interest rates easing, we wanted to shift our attention down the field a bit to highlight four macroeconomic trends not widely covered. Furthermore, these factors could significantly affect the U.S. economy – and production agriculture – in 2024 and beyond.

 

1) Long-term interest rates

Figure 1 shows three measures of long-term interest rates: 10-year U.S. Treasury yields (in blue), 5-year U.S. Treasury yields (in red), and 1-year Treasury yields (in green). Variations of these data are frequently presented during discussions about the inverted yield curve and its potential indication of a looming recession. An inverted yield curve means short-term rates (in this case, 1-year Treasuries) have a higher yield than long-term rates (5-year or 10-year rates). The less obvious insight from Figure 1 is that the yield curve will likely un-invert at some point.

How or when the inversion resolves itself is unknown. For example, short-term rates could fall, long-term rates could increase, or a combination of these. While the Fed recently signaled lower short-term rates may be in store for 2024, it’s unclear how long-term rates will trend. Even if short-term rates fall, long-term rates may be stubborn. (Read more about the historical relationship between the Fed Funds and 10-year Treasuries, or review the related AFN question).

Agriculture is heavily affected by long-term rates, from machinery and farmland debt to asset valuations. While much attention will be paid to the Fed’s 2024 decision, don’t lose sight of long-term rates.

Figure 1. The Yield on 10-year, 5-year, and 1-year U.S. Treasuries. Source: St. Louis Federal Reserve

 

2) Full employment

Despite the aggressive rate hikes, the U.S. economy has, so far, been resilient. Historically low unemployment rates have given the Fed a runway long enough to raise rates quickly and aggressively. While there hasn’t been much discussion in several years, the second part of the Fed’s dual mandate is full employment.

Figure 2 shows the U.S. unemployment rate since the late 1940s. Below 4% since late 2021, unemployment remains at the lowest levels that many of us have ever observed. Other low points were in the early 2000s and the late 1960s.

So far, the Fed hasn’t faced the exceedingly difficult challenge of reining in inflation with rising unemployment rates.

Figure 2. U.S. Unemployment Rate. Source: St. Louis Federal Reserve

 

3) Federal debt

Predicting which issues the political universe will focus on is a bit of a fool’s errand, but the federal debt may be approaching a tipping point. Many will remember when spending cuts – even the original “(budget) sequestration” – were in full swing during the early 2010s. Since that belt-tightening era, the federal debt has surged higher (Figure 3). When measured as a percentage of GDP, conditions are at levels last seen after WWII. Broadly speaking, the upward trend has been underway since the mid-1980s with only brief pauses or contractions.

The goal here isn’t to ring an alarm but to, instead, suggest political focus (and reality) may again focus on the issue and spending and taxes.

Figure 3. Gross Federal Debt as a Percent of Gross Domestic Product. Source: St. Louis Federal Reserve.

 

4) Fed balance sheet

The Fed has two primary tools for stimulating or cooling the economy: short-term interest rates and its balance sheet. After the Great Recession, Quantitively Easing (QE) was the Fed’s attempt to stimulate the economy during a period of already low interest rates. The size of the Fed’s balance sheet has grown from $1 trillion before 2008 and $2 trillion in 2010 to nearly $9 trillion after the 2020 COVID pandemic (Figure 4).

Coinciding with the interest rate hikes, the Fed has also begun shrinking its balance sheet. Again, this has a braking effect on the economy and will also help curb inflation. While the Fed was transparent about the plan and pace for shrinking, it’s unclear when or where the Fed will pause. By early 2024, the Fed’s balance sheet contracted to $7.7 billion but remains nearly double its pre-pandemic levels.

It will be worth watching if the Fed adjusted these plans as they position for possible rate cuts in 2024. Again, this activity isn’t as apparent as raising short-term rates but will affect the broader debt markets.

Figure 4. Federal Reserve Balance Sheet, Total Assets, 2003- 2024. Source: St. Louis Federal Reserve

 

Wrapping it up

The macro-economy has presented significant uncertainty in recent years and will likely continue into 2024. In addition to higher interest rates higher, there is also considerable volatility. We are in a new environment after more than a decade of low and stable interest rates.

Uncertainty and volatility make it critical for decision-makers to keep a broad view of the situation. Long-term rates and future government spending could directly affect producers. Furthermore, the Fed will balance unemployment levels and how they continue to shrink their balance sheet throughout 2024.