The US economy grew at a 6.6% annual rate in the second quarter. The economy has now grown beyond its pre-pandemic level, a milestone that underscores the speed of the recovery that began last summer. Widespread business re-openings, vaccinations, and a big infusion of government pandemic aid last spring helped propel rapid gains in consumer spending, the economy’s main driver. Economists expect growth to remain strong, fueled by job gains, pent-up savings, and continued government fiscal support. However, stickier inflation, the Delta variant, supply chain disruption, shortage of available workers, and political haggling over Federal spending and the debt ceiling have potential to slow the recovery. The Federal Reserve has signaled that it may begin to taper its bond-buying program and increase short-term interest rates in 2022. The timeline for these changes remains unclear as we move into the fourth quarter.
US stocks reached another all-time high in early September, fueled by robust economic and corporate earnings growth. Stocks have since declined by 5.0%, impacted by inflationary worries combined with Chinese regulatory intervention and property sector debt default issues. Congressional gridlock over pending infrastructure bills, Federal spending, and debt ceiling limit have contributed to the recent market pullback. US stocks ended the quarter up 0.6%. International developed market stocks were down -0.4% and emerging market stocks were off -8.8% for the quarter. For the year-to-date period, stock performance has been very strong with US stocks and international developed market stocks up 15.9% and 8.8%, respectively.
Bond yields have risen since August as the Fed signaled it may soon taper its bond-buying program in response to healthy economic growth and high inflation. The benchmark 10-year US Treasury yield is up by over 0.4% in the past two months. While inflation has eased slightly, it still remains 4.3% higher than last year at this time, well above the Fed’s target rate of 2%. For 3Q, taxable bonds were up 0.1%and tax-free municipal bonds were flat. Year-to-date, taxable bonds are down -1.6% and tax-fee bonds are up 0.3%.
As of this writing, gridlock abounds in Washington over the proposed $1.2 trillion bipartisan infrastructure bill and broader $3.5 trillion social policy and climate spending bill. In addition, Congress continues to politically posture over a long-term government funding bill and increasing the debt ceiling limit. These items are highly divisive and the path forward is challenging. Nevertheless, we anticipate compromise on the infrastructure bills in order for Senators to deliver good news to their constituents ahead of the 2022 midterm elections. We also expect a longer-term Federal funding resolution and a debt ceiling deal to avoid a Federal default.