Rising costs, maxed-out credit could constrain US consumption: Seth Freeman

On March 20, the US Federal Open Market Committee (FOMC) announced its decision to maintain the key borrowing rate target between 4.25 percent and 4.5 percent -- the same as what has been since December.

A major factor that the US Fed will need to assess going forward will be if the economic growth could slow down, and whether the 'transitory' inflation would 'turn out to be otherwise', Seth Freeman, Senior Managing Director, GlassRatner Advisory and Capital Group said in a conversation with Moneycontrol.

Freeman added that while the Fed chair has maintained the indication of a 50 bps rate cut this year, he has not discussed the fact that the level of consumer credit in the US is 'extremely high', and if consumer spending gets constrained, it will impact a large section of America.

Edited excerpts:

What were the key takeaways from Powell's speech?

A couple of key things stood out. One, it was quite striking to see that the growth forecast was being sharply lowered. It is estimated at 1.7 percent by the end of 2025. It was 2.1 percent earlier. It is a significant drop. Meanwhile, inflation estimate went up to 2.8 percent, from 2.5 percent. In combination, that's fairly negative.

Powell also described his concern about inflation due to tariffs, as 'transitory'. When economists are using this term, it not just means that inflation won't be temporary, but also that it won't grow at the same rate.

There might be some extra inflation. Then, the rate of inflation resulting from tariffs will also be lower. Tracing back the late 2021 and 2022, when the Fed had used the term 'transitory inflation', they were quite off. Because later, on an unlikely note, it jumped by over 7 percent in December 2021. Then, by the middle of 2022, it was at 9 percent.

We keep getting different announcements from the Trump administration about tariffs, starting from its implementation to the delays, and so forth. This chaos and uncertainty make it very hard for businesses to plan. For example, planning purchases and placing commitments for them far in advance will be affected. Even on the spot market, you don't really know what to do. Speaking about the extent of prices, you see costs going up and you can't necessarily pass that through to the customer right away. All these impact margins.

However, I was not surprised that the Fed did not decrease the rate. The expectation from the second half of the year seems to be of possible reductions, up to 225 basis points.

How do these decisions now shape expectations for the rate cuts in 2025? Has the timeline shifted, according to you?

No, I don't think so. I think what was announced today was how we anticipated it. And the bogey here is how things shape up over the next four or five months.

Does the Fed's approach suggest concerns about inflation persistence? Or is it more about economic resilience or both?

I think the concern is about a confluence of a sharply lower growth rate and higher inflation. The underlying issue is whether there's a slower growth rate and if transitory inflation turns out to be otherwise.

With Trump's tariff policies looming and everything going haywire, could the Fed be forced to stay on hold for longer? When do you expect the next rate cut to come by? The market is baking in 30 percent chances of a rate cut in May.

Well, 30 percent is not 51 percent.

And then there’s the level of unemployment. Even though the courts are forcing the Trump administration to rescind a good number of layoffs, it's my understanding that as much as 200,000-250,000 people may have accepted some kind of separation from government jobs. Along with natural unemployment, the total unemployment figures might be skewed. It needs to be watched out for over the coming months.

Also, the dual impact of cutbacks in government programmes and closure of departments will affect consumption.

Think of the many families who made plans based on a job. All of a sudden, you don't have a job. For instance, in India, they prefer government jobs because it's perceived to be well paying and more stable. People may not be able to get new jobs immediately.

Most importantly, what wasn't discussed today is that the level of consumer credit in the US is extremely high. The spending capacity of many Americans, in combination with higher basic costs, like food, plus not having much room on their credit cards, could constrain consumer spending. The consumer economy is really the biggest piece of the US economy.

It seems like a Catch-22 situation for the Fed. If slower growth pushes up unemployment, they may need to cut rates. But inflation inches back towards 3 percent, they'll have to keep the rates elevated. So how do you think the Fed will navigate this dilemma?

I think they're just going to wait and see. They're going to tell us that they're going to make decisions based on the quantitative data. They have no upside in lowering rates in such an environment. There's this comedy – the confluence - you add in the normal concerns of the US economy, plus the chaos of tariffs.

Investors are not comfortable when it's very difficult because it gets harder to make long-term investment decisions that can create growth over time - whether that's investing in new products or in new infrastructure, and so forth. So, it can really create a gap or a lag period in economic growth when you can't plan.

We're seeing a significant increase in mortgage defaults on multi-family housing, which means apartments. There is a tremendous amount of apartment loans and office building loans that are maturing and need to be refinanced. They were previously at fairly, artificially low interest rates. Now, the interest rate on a new commercial property or multi-residential property could be close to 80-100 percent higher. So, the rate of defaults or distressed loans has gone up quite a bit.

How do you see global fund flow shifting after this decision? How do you think emerging markets like India will likely be impacted?

I've always been a multiple-decade-long proponent of the India growth story. So, I'm biased, but it's still early. It's just incredible to see what has happened in 20 years, and even in the last seven or eight years. There's another issue here. The interest rates also impact currency translation. So, you have a situation where the dollar can go up, and then the rupee weakens against the dollar.

If you're investing in India and the rupee is going down, it impairs your investment performance. If you have a combination of the rupee going down and the market going down, it's like a double whammy for foreign investors. The currency has depreciated quite a bit. However, you also have different flavours of investors that are focused on emerging markets, or specifically in India. But a lot of the fund flows are a result of index funds. The amount of foreign fund flows leaving India are in proportion to India's weight in that particular fund.

It's my observation that there's less ebullience by some US private equity and venture capital firms at this moment in India. So, it makes it tighter.

Back in 2007, when what was supposed to be just a brief subprime loan crisis in the US developed globally into a 'Great Recession', the interest in investing in emerging markets like India just collapsed. So, investors just don't like uncertainty, not just in India, but globally. It impacts one’s decision to invest in emerging markets in spite of the growth story.

Given the recent correction in India, do you think valuations are now attractive or do you think Indian markets need to correct further for valuations to align with earnings?

There's always this kind of rotation in a way of largecaps versus midcaps. It really depends on what part of the market you're looking at. You also have to really look more at some specific industries and just the generalised growth trends in India. Sure, you could buy in the Nifty or some other basket of companies, which is fine over the very long term. But I think it's more important to dissect the market.

Just a comparison with China. The Chinese markets have also corrected quite substantially. So, if FIIs were to allocate funds to emerging markets, do you think China would have the advantage right now?

I get asked that question frequently. There’s this huge overhang of real estate problems in China. No matter what, there are the same kind of issues. China still represents a relatively high-growth opportunity but to a much greater extent than India. There's this overlay of political issues. And it is a less attractive time to invest in China right now for political reasons as much as domestic economic reasons.

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