The Economy

Economists Doubt Fed Will Avoid Recession

But there are no signs yet the threat will deter the FOMC from fighting inflation aggressively.
Vincent RyanAugust 23, 2022
Economists Doubt Fed Will Avoid Recession
Photo: Getty Images

Waging war on inflation could be costly.

JPMorgan Chase chief executive Jamie Dimon told clients last week there’s only a 10% chance of a U.S. economic slowdown that doesn’t lead to a recession. The other probabilities he supplied:

  • 10% chance of a soft landing

  • 20% to 30% chance of a “harder landing” or mild recession

  • 20% to 30% chance of a “harder” recession

  • 20% to 30% chance of “something worse”

Dimon is not alone in thinking the current cycle of U.S. monetary tightening will kick off a recession.

About three-quarters of respondents (73%) to the National Association for Business Economics monetary policy survey, released Monday, indicated they are skeptical, too. They said they were “not very confident” or “not at all confident” that the Fed would be able to lower inflation within the next two years without triggering a recession.

When will that recession start? More than one-quarter (28%) of the 198 economists anticipated the first half of 2023, according to the NABE results. Another 25% expected it to be this quarter or next. One-fifth (20%) thought the recession was already here.

In the latest data hinting at an economic slowdown, the purchasing managers’ indexes from S&P Global released on Tuesday showed U.S. manufacturing business activity dropping to 51.3 and the services activity measure falling hard to 44.1 (indicating contraction). Business activity also declined in Europe.

“Recession risk in the U.S. is high, with demand erosion and the inability to pass through rising costs to customers via pricing likely to become a more meaningful risk …  in some sectors in 2023,” per a Fitch Ratings report last Friday. Median revenue growth at North American corporates is projected to slow from 7% in 2022 to 4% for both 2023 and 2024, predicted Fitch.

But CFOs shouldn’t expect an abrupt halt to rate hikes — or even a meaningful pause — by the Federal Reserve Open Market Committee (FOMC).

A recession is not a certainty. The White House’s Office of Management and Budget, in new data released Tuesday, projected inflation-adjusted gross domestic product would hit 1.4% this year and 1.8% in 2023. Those were numbers revised downward from March but still positive.

And the Fed still seems highly committed to stamping out rising prices.

FOMC members as of the July 27 meeting were not convinced the rate tightening cycle had even been felt in the real economy, according to the minutes. The minutes also showed FOMC members worried about the public’s questioning its resolve to rein in inflation.

“We’re not going to know until we begin to see how some of these variables come together — how the supply and demand pieces unfold — to know exactly where that stopping point is [on rate hikes],” said Kansas City Fed President Esther George on August 18. “We will … have to be completely convinced that that number [inflation rate] is coming down.

Indeed, even though the Fed funds rate is up to 225 to 250 basis points, 44% of the NABE panelists still thought U.S. monetary policy was too stimulative. 

The upper end of the FOMC’s target funds rate this cycle will likely fall between 3.5% and 4.25%, a majority (52%) of NABE panelists indicated. Fed funds futures contracts are pricing in a 46% probability of the rate’s upper bound hitting 375 basis points at the December 14 meeting. 

Recent signs that inflation may be slowing, like the producer price index falling half a percentage point in July, may not nearly be enough to get the Fed to pause.

Former Treasury Chief Larry Summers told Bloomberg this week that Powell needs to deliver a stark and clear message that economic pain is ahead if inflation is to be quelled, and that the Fed shouldn’t suggest ‘low inflation, low unemployment, and a healthy economy’ is achievable.

Wage increases and increases in housing costs are still rippling through the economy. The headline consumer price index (CPI) dropped to 8.5% in July, but professional foresters in the Philadelphia Fed survey predicted it will average out to 6.7% for the third quarter, 4.3% for the fourth quarter, and 3.6% for all of 2023.

The OMB’s projection is for lower inflation faster: 2.8% headline CPI in 2022 and 2.3% in 2024.

A treasure trove of more indicators arrives on Friday: numbers on the Fed’s preferred inflation measure, consumer spending, real disposable incomes, and consumer sentiment. Perhaps most importantly, Fed Chair Jerome Chair speaks in Jackson Hole at the Kansas Fed’s Economic Policy Symposium.

Former Treasury Chief Larry Summers told Bloomberg this week that Powell needs to deliver a stark and clear message that economic pain is ahead if inflation is to be quelled, and that the Fed shouldn’t suggest “low inflation, low unemployment, and a healthy economy” is achievable.

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