by Krystal Daibes Higgins, CFA
Vice President
Equity Research
“Everyone is just waiting.” (Dr. Suess, The Places You’ll Go)
For almost two years now, investors have been waiting for one of the most anticipated recessions—and understandably so. After 11 rate hikes in the past 18 months, the most aggressive rate hike period in over six decades, the U.S. has defied the odds of a hard economic landing so far. When the Fed has raised rates this aggressively in the past, it’s typically been followed by a recession or “something breaking.”
The relatively fast-paced change from zero to current rates, which has been effective at curbing stubbornly high inflation while economic growth continues, has stunned most investors. Since the beginning of this year, many financial institutions predicted a recession occurring in 2023. In a recent Goldman Sachs report, consensus still predicts a 60% chance of a recession occurring in the next 12 months, while Goldman Sachs itself estimates only a 15% probability. As more economic data comes out, it seems that a recession isn’t in the cards in the near term. Our view is that strength of the labor market and consumer segment creates a substantial buffer for any severe downturn. As such, we believe that if a recession occurs in the next 12 months, it will be short and shallow.
A recession is defined by two consecutive quarters of negative GDP and broad-based slowdown. In the first half of this year, the U.S. economy, as measured by GDP, expanded; and the latest estimate from the Federal Reserve Bank of Atlanta forecast for the third quarter is now 5.8%, the highest it’s been all year. Supporting the U.S. economy all along has been the consumer segment, which has been powered by the labor market, where more than 1.8 million jobs were added in the first seven months of 2023. Additionally, the unemployment rate still remains near a 50-year low of approximately 3.8%. This number has crept up recently, but it was driven by more people joining the work force. Consumer spending also remains robust and is expected to continue, as the combination of inflation subsiding and wages rising should improve real disposable income. Finally, it’s important to note that the majority of homeowners are locked-in at historically low interest rates on their largest debt obligations, bolstering their spending capacity.
While all this news is good for the U.S. economy, it’s still running a bit too hot for the Fed’s liking. We are starting to see some cracks in the labor market, but the Fed remains vigilant as it continues to be haunted by prior mistakes when trying to conquer inflation in the 1970s and 1980s. Inflation is tricky and it could see another wave of price surges like it has in the past. Overall, while the Fed has made good progress to reduce inflation, the labor metrics the Fed is most focused on are still too high.
Takeaways for the Week:
The economy is growing, the labor market is strong, and inflation is falling.
The Fed is likely to keep its aggressive stance on curbing long-term inflation by keeping rates higher for longer, and potentially increasing them.