[Financial Planning for the 100-Year Life] The 2024 Economy: From the 'Three Highs' to the 'Three Middles'

Over the past two years, the global economy has suffered from the 'Three Highs' (Samgo, 三高) of high inflation, high interest rates, and high exchange rates. However, the key theme for the world economy in 2024 is expected to be the 'Three Middles' (Samjung, 三中): moderate inflation, moderate interest rates, and moderate exchange rates.

The era of the 'Three Highs,' which progressed in the order of high inflation → high interest rates → strong dollar, is coming to an end. First, inflation rates are declining. The U.S. consumer price inflation rate (year-over-year) peaked at 9.1% in June last year, the highest since November 1981 (9.6%), but dropped to 3.1% in November this year. South Korea's inflation rate also reached a high of 6.3% in July last year, the highest since November 1998 (6.8%), but has fallen to the low 3% range in the second half of this year.

The main reason for the decline in inflation is the interest rate hikes by the central banks of both countries. The Federal Reserve (Fed) sharply raised the federal funds target rate from 0.00?0.25% in February last year to 5.25?5.50% in July this year. The Bank of Korea also raised its base rate from 0.50% in July 2021 to 3.50% in January 2023.

As inflation slows, this cycle of interest rate hikes is coming to a close. Notably, the Federal Open Market Committee (FOMC) meeting held last week hinted at rate cuts. The median federal funds rate projected by Fed officials in the dot plot was 4.6%. The market expects the Fed to begin cutting rates starting in March next year, with six cuts totaling 1.5 percentage points. The Bank of Korea is also likely to start lowering rates from the second quarter of next year.

Expectations of rate cuts have led to a decline in market interest rates first. The yield on the U.S. 10-year Treasury note, which was 4.99% on October 19 this year, fell to 3.91% by the end of last week. During the same period, South Korea's 10-year government bond yield dropped from 4.36% to 3.36%.

Along with expectations of U.S. rate cuts, the dollar index has also declined. The dollar index against major advanced country currencies fell from 106.88 on November 1 to 102.59 by last weekend. During the same period, the won-dollar exchange rate dropped from 1357.3 won to 1296.5 won.

Inflation is expected to continue slowing next year, with downward trends in interest rates and the dollar index persisting. This is because the U.S. economy, which accounts for 69% of GDP, is expected to contract around consumption. First, the low savings rate of U.S. households is a factor reducing consumption. Last year, the U.S. household savings rate was 3.3%, the lowest since 2007 (2.5%), the year before the financial crisis. This means that the growth rate of household consumption expenditures exceeded income growth. This year, the savings rate has risen to 4.8% through October, indicating that households are now relatively reducing consumption.

Next, the decline in median household income, the core of consumption, is also expected to constrain consumption. The real median household income, which was $78,250 in 2019, fell by 4.7% to $74,580 in 2022. In 2023, real income likely declined further due to wage increases below inflation. Additionally, rising household interest burdens are another factor suppressing consumption. Although the share of interest payments in disposable income was 1.2% in March 2021, it increased to 2.8% in October 2023 (average 1.9% from January 2010 to September 2023).

If the 'Three Highs' ease gradually, there will be no major shock to the economy. However, if the process accelerates sharply into a recession, corporate profits may decline and stock prices could fall. Companies and individuals should proactively optimize their asset portfolios. Companies that quickly restructure, including selling inefficient assets, can seek new growth opportunities. Similarly, individuals with adequate cash can seize opportunities to increase wealth in the stock market. The year 2024 will be a year of leap forward for companies and individuals who respond with resilience.

Kim Young-ik, Professor, Graduate School of Economics, Sogang University