Lacalle: The Fed Models Were Wrong About the US Economy

Contrary to earlier mainstream predictions of recession and stagflation, the US economy in 2025 is demonstrating broad-based strength, significantly outperforming major developed economies, including the Euro Area. This robust performance is evidenced by strong real GDP growth (Q2 at 3-3.3% annually, Q3 projected at 3%), controlled inflation despite tariffs, resilient private sector job creation, and accelerating real wage growth boosting consumer demand. This improving outlook, coupled with contained inflation risks, is increasing market anticipation of Federal Reserve interest rate cuts, which could further stimulate borrowing and investment.

Analysis

Contrary to mainstream consensus forecasts for a 2025 recession, the US economy is demonstrating significant outperformance relative to other developed nations, including the euro area, Japan, and the UK. This strength is underpinned by robust empirical data, including a rebound in real GDP growth to an annualized 3-3.3% in Q2, with the Atlanta Fed’s GDPNow model projecting a stable 3% pace for Q3, driven by consumer spending, business investment, and controlled government expenditure. Inflationary pressures appear contained, with August CPI and PPI figures meeting or beating expectations, suggesting that tariffs have not had a material impact on consumer prices. The labor market, despite significant downward revisions to 2023-2024 data that indicated a private sector recession in 2024, is now showing consistent net gains in private payrolls. Critically, real wage growth is accelerating, with real average hourly earnings up 1.2% year-over-year as of July 2025, boosting household purchasing power and supporting resilient retail sales. This combination of strong growth and managed inflation is shifting market expectations towards future Federal Reserve rate cuts, a pivot from the stagflationary fears that dominated earlier forecasts.

Key Decisions for Investors

• Given the demonstrated outperformance of the US economy and controlled inflation, investors should reassess underweight allocations to US equities and consider rotating capital from underperforming regions like the Euro Area.
• Monitor upcoming Federal Reserve communications and inflation data closely, as a confirmation of a dovish pivot could act as a significant catalyst for rate-sensitive sectors and growth stocks.
• Focus on sectors showing direct strength from the reported data, such as consumer discretionary, which benefits from accelerating real wage growth, and construction, which is cited as a key area of private payroll gains.
• The divergence between falling US bond yields and rising Euro Area sovereign yields, despite ECB rate cuts, signals a potential relative value trade favoring long positions in US Treasuries over European government debt.