CONTRIBUTORS
Jeffrey Schulze, CFA
Head of Economic and Market Strategy
Josh Jamner, CFA
Investment Strategy Analyst
Key takeaways
- A resilient US economy has stood out against other developed nations in recent years with stronger economic growth and healthier corporate profits that have fueled outsize stock market gains.
- We believe that three of the four key components of exceptional relative US economic growth—the consumer, productivity gains and a solid fiscal impulse—should remain intact while the fourth (growing labor supply) is likely to come under pressure but should not derail the expansion in 2025.
- Backed by a green and improving signal for the ClearBridge Recession Risk Dashboard, we are bullish on the US economy in the year ahead and expect GDP growth to deliver an upside surprise relative to current forecasts. Coupled with broadening earnings participation, we expect US equities to maintain their positive momentum.
Trump win, Fed pivot support resilience
The “most anticipated recession ever” failed to materialize this past year, with the US economy achieving a soft landing. The pace of expansion appears likely to stay buoyant in 2025 as the economy rides the tailwinds of both a fiscal impulse, courtesy of Donald Trump’s election win and a Republican sweep of Congress, and a monetary impulse from the Federal Reserve’s pivot to a rate-cutting cycle.
Over the past several years, the resilience of the US economy has stood out against other developed economies. A key question for investors is whether this trend can continue, as stronger economic gains have translated into a healthy corporate profits environment that has fueled outsize stock market gains. Our starting point for such analysis continues to be the ClearBridge Recession Risk Dashboard, which is our north star when thinking about the health of the US economy. Fortunately, the dashboard’s overall signal is currently in green/expansionary territory and it has been consistently improving over the course of 2024. There are no changes to the dashboard this month (Exhibit 1).
We believe there have been four key components of exceptional relative US economic growth over the past few years: the strength of the US consumer, productivity gains, growing labor supply and a solid fiscal impulse. Looking ahead, three of these are likely to remain intact in 2025, while the fourth, growing labor supply, should be less of a benefit, but not so much less that it could derail the US economy.
The US consumer has been a source of strength, initially powered by accumulated savings and generous government transfer payments during the pandemic. As these funds waned, a strong labor market fueled further upside as wage gains and broad job creation helped boost labor income, the largest single source of spending power for most Americans and closely tied to aggregate consumption trends. These trends appear largely intact as the calendar approaches 2025, with average hourly earnings holding up at a healthy growth rate of 4.0% year over year in October versus 4.3% coming into the year, for example.1
Exhibit 1: ClearBridge Recession Risk Dashboard
Source: ClearBridge Investments.
Sticky wage gains have been a source of concern, and some worry that corporate profit margins will be crimped as businesses have to pay their workers more. We take a different view, however, believing that wages relative to a worker’s output (unit labor costs) are actually the key for profit margins. This is an important distinction because productivity gains (a worker’s output) have been robust over the past several quarters, returning to levels consistent with the 1950-2009 average as opposed to the post-global financial crisis experience. Looking ahead, we believe productivity will remain healthy given lower levels of job churn; if workers are changing jobs less frequently, these employees are more experienced, typically more tenured and more productive.
Exhibit 2: Productivity is Back
Sources: US Bureau of Labor Statistics (BLS), NBER, Macrobond. As of November 25, 2024. Data last updated on November 7, 2024. Gray shading represents recessionary periods. Past performance is not an indicator or a guarantee of future results.
Lower labor churn also means that the pace of hiring should be slower, all else being equal. This means that the labor market may look less healthy than it has and raises a risk to continued US exceptionalism if the strong domestic labor market cools. In fact, our primary worry on this front is less about workers staying in their roles longer and more about declining immigration, which has been a source of economic strength in recent years. Already the pace of immigration has slowed since President Biden’s executive actions to secure the boarder were issued in June. Incoming President-elect Trump is expected to take actions to further slow the pace of immigration into the United States, which should further cool the pace of job creation and weigh on economic growth at the margin in 2025.
On the positive side, the future Trump administration appears likely to deploy stimulus in the form of individual tax cuts. which should increase the fiscal impulse (relative to baseline) and help fuel economic growth. Fiscal stimulus has been a strong component of US economic growth in recent years on the back of the Inflation Reduction Act and the CHIPS Act. While the fiscal impulse has begun to wane with little incremental government spending anticipated, Trump’s election and the Republican sweep open the door to using the budget reconciliation process to enact tax cuts. This means the outlook for the fiscal impulse heading into 2025 should help support economic growth.
Putting all this together, we believe the US economy will remain healthy in 2025 with the potential for upside to the consensus 2.0% GDP growth estimate.2 While a good economy doesn’t necessarily translate to a good stock market, we believe the near-term path for the market is positive as December historically ranks as one of the best months from a seasonality perspective.
Coming on the back of US stocks’ best month of the year in November, it would not be a surprise to see some choppiness emerge in the new year as 2024’s strong returns are digested. However, a robust economy and broadening earnings participation are important foundations that should underpin US equities over the intermediate term. In particular, they should continue to be supportive for small caps, value and the equal-weighted S&P 500 Index, which have been gaining ground on a relative basis versus large caps, growth and the cap-weighted S&P 500 since mid-July, rewarding investors with diversified portfolios.
Endnotes:
- Source: US Bureau of Labor Statistics (BLS), October 2024.
- Source: S&P Global, Economic Research: Global Economic Outlook Q1 2025. There is no assurance that any estimate, forecast or projection will be realized.
Definitions
The ClearBridge Recession Risk Dashboard is a group of 12 indicators that examine the health of the US economy and the likelihood of a downturn.
The Inflation Reduction Act was signed into law by current US President Joe Biden on August 16, 2022. The Act aims to curb inflation by reducing the deficit, lowering prescription drug prices, and investing in domestic energy production while promoting clean energy.
The CHIPS and Science Act (CHIPS Act) is a US federal statute enacted by the 117th United States Congress and signed into law by current US President Joe Biden on August 9, 2022. The act provides roughly US$280 billion in new funding to boost domestic research and manufacturing of semiconductors in the United States.
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