When the U.S. inflation rate was climbing toward 10% and gas prices were above $5 a gallon, many economists – and laypeople, for that matter – predicted the economy was headed toward a massive recession.
Fast forward a year or so, and the inflation rate has dropped to about 3.4%, unemployment is at historic lows, gas prices have dropped precipitously – below $3 a gallon in many places – and consumer spending remains pretty steady.
Numbers like that now have economists – though they still seem to believe a recession is coming – expecting much more of a “soft landing.” In other words, if there is a recession, it’s likely to be a short, mild one.
Gabriel Ehrlich, Director of Research Seminar in Quantitative Economics at the University of Michigan; said if the Federal Reserve, as it has indicated it might, starts to cut interest rates later this year, that will have an impact on the fierceness of any potential recession.
“We expect a soft patch for economic growth for the first part of the year, with growth picking up in the later part of the year,” Erlich said. “If the Fed pivots toward cutting interest rates, we do expect that to give a boost to growth and expect growth to accelerate into 2025.
“But we expect to avoid a recession (in 2024),” he added. “It looks like a soft landing … we don’t expect a recession, but the risk is not over. It could still happen, but that’s not what we expect.”
The disconnect – will there or won’t there be a recession? – seems to be due to some mixed signals from the economy itself. The Fed kept up a fairly steady stream of interest rate increases – 11 of them since May 2022 – to battle what had been a stubborn inflation rate. At its peak in the summer of 2022, inflation hit 9.2%.
The Fed kept increasing its prime interest rate, and inflation began to fall. At press time, it had dropped to 3.45%, compared to 6.45% at this time last year. Cars and houses are more expensive because of higher interest rates, but the price of gas has dropped, and food prices appear to be falling. A lack of available workers has forced wages to be raised, which has put a strain on the economy, but consumer spending is up.
All in all, it can get pretty confusing, according to Jeffrey Korzenik, the chief economist for Fifth Third Bank, who calls it the “muddle-through economy.”
“We’re calling this the ‘Year of Clarity’ because, after a couple of years where it was like, ‘What’s going to happen?’ this is the year we’ll know,” Korzenik said. “Our belief is that the Fed will get on the easing side of the cycle. But what we still don’t know is whether it will be a slowdown, and avoid a recession, or if it will be a mild recession.
“I’m not sure it matters much between the two … I think they’re going to be very close,” he added. “We were one of the early proponents … it was our base case at a soft landing. And now that the industry has caught up to that, we’re actually pushing back a little bit and saying we’re not out of the woods. It’s probably a coin flip – 51-55% possibility of a recession and 45-49% that we avoid it.”
The economists to whom Corp! spoke were impressed with the U.S. ability to fight off inflation. In December it had dropped to 3.15% (though it had inched up to 3.4% in early January).
By comparison, other countries were still struggling in December, with many of them more than experience inflation rates more than double that of the United States. Nobody had it as bad as Turkey where, according to statista.com, inflation was at 64.9% in December.
Other countries higher than the U.S. included Serbia (7.5%), Romania (7%), Poland (6.2%) and France (4.1%). Other countries were better off than the U.S., the best of which was Denmark (0.4%).
Austan Goolsbee, the president and CEO of the Federal Reserve Bank of Chicago, recently told a Detroit Economic Club audience the country has recovered from the pandemic slowdown better than anyone could have predicted.“Inflation went up everywhere and inflation … has come down the most (here) compared with all the other countries,” Goolsbee said. “Our recovery has been stronger than we thought it would be. If we had this meeting in June 2020, and you said by 2023 our GDP growth will be above where it was, unemployment would be down to 3.9%, inflation will be high, but it’ll be trending down, we’d have said, “That would be so great!
“If you just look at real GDP growth, we’re higher not just than we were (before the pandemic), but higher than the forecast in 2019,” he added. “Before there was covid (forecasters) predicted where we would be by 2023 and we’re better than that. That’s not true in almost any other advanced country. So, we can look on the bright side on that.”
Korzenik thinks that if the recession comes at all, it’ll likely come before the end of the year and it “probably will be a short one,” two or three quarters. It will likely be marked, he said, by layoffs and other movement in the job market the country hasn’t seen in a while.
First-time applications for unemployment assistance are at an all-time low, and the U.S. economy keeps adding impressive numbers of jobs (173,000 in November and another 216,000 in December).
If that starts to change, he said, it would be a warning sign.
“We’re not in a recession until you start losing jobs,” Korzenik said. “You don’t see (unemployment) claims rising. So, until you see initial unemployment claims really getting dramatic, I don’t think we have an issue. And then you just have to see how it cascades. But anything that people have seen coming … tends not to be very bad because we’ve all, to the degree possible, taken steps to shore things up.”
Bill Adams and Waran Bhahirethan, chief and senior economists at Comerica, respectively, wrote in an article posted to Comerica’s website in early January that consumer sentiment rebounded to its highest point since mid-2021 in January, and stock market indexes rose to new record highs, “cheered by a steady flow of good news about the economic outlook.”
Real GDP growth is slowing from the third quarter of 2023’s “unsustainably fast 4.9% annualized increase,” they wrote. They agree the odds of a recession in the year ahead look considerably lower than they seemed in early 2023.
“Household incomes are outpacing inflation, mortgage rates and rates for other types of longer-term borrowings are down from peaks in October, and domestic energy production is growing much faster than GDP, a boost to the supply side of the economy and competitiveness,” they wrote.
Comerica sees the Fed as more likely to wait until June before cautiously beginning to reduce interest rates and making quarter-percentage-point cuts in that month, September, and December. The Fed is also “likely to slow the pace of its balance sheet reductions in the second half of 2024,” they said, and end them in late 2024 or the first half of 2025, which “could provide a further boost to financial market sentiment.”
“The key risks to this outlook are upside risks to inflation: Internationally, from wars in the Middle East and Ukraine that could disrupt energy supplies and trade flows; domestically, from wage growth that could outpace productivity and inflame wage-price pressures; or in Washington, where a wave of Treasury issuance last fall likely contributed to a (thankfully short-lived) jump in market-determined long-term interest rates,” Adams said. “Even so, 2024 will likely mark a normalization of the U.S. economy, with growth, inflation, the job market, and interest rates looking more and more like they did before 2020.”
Adams called the 4.9% GDP growth rate “unsustainable,” and Ginger Chambless, head of research for JPMorgan Chase Commercial Banking said economic growth is “likely to decelerate” in 2024 as the effects of monetary policy take a “broader toll and post-pandemic tailwinds fade.”
“We expect real GDP growth to walk the line between a slight expansion and contraction for much of next year, also known as a soft landing,” Chambless wrote in a piece posted to Chase’s website. “We forecast a below-trend 0.7% pace of expansion in 2024.”
Among the major components of GDP, she wrote, consumer spending is likely to rise at a “more muted pace” in 2024, while fiscal spending could swing from a positive contributor in 2023 to a modest drag. Notable drops in business investment and housing activity in 2023, she said, “set the foundation” for improved performance in 2024, even if the outlook remains muted amid higher interest rates; 2023 strength in services sector is likely to soften.”
Like Korzenik, Chambless predicts the Fed is done raising interest rates, but will hold off cutting them until at least mid-year. Assuming inflation continues its downward trend, she wrote, the Federal Open Market Committee, where such decisions are made, will start to “slowly normalize” rates near mid-year, with cuts at each meeting starting in June bringing the Fed’s target range to 4.0-4.25%.
It’s possible, Chambless wrote, that consumers could “begin to bend, but not break.” There are a lot of reasons for this: Diminished excess savings, plateauing wage gains, low savings rates, and less pent-up demand. Additionally, the restart of student loan payments and uptick in subprime auto and millennial credit card delinquencies are emerging signs of stress for some consumers.
“On the flipside, household balance sheets and debt servicing levels remain healthy,” she said. “Tight labor markets continue to support employment and therefore income levels. Considering the cross currents, we think consumer spending growth can stay positive overall in 2024, but at a lower rate than 2023.”
Despite all the seemingly good economic news, polls continue to show Americans disapprove of President Joe Biden’s handling of the economy, saying they aren’t feeling it in their own wallets. Perception becomes reality, and a majority of Americans think the economy is doing poorly.
Fifth Third’s Korzenik said it’s a “misperception” that having inflation under control means the economy is “going back to crisis.”
“It’s not true,” he said. “I think as we all get, as the American population gets older, we’re all becoming our own grandfathers. ‘When I was a kid, gasoline was 50 cents a gallon.’
Peoples’ frame of reference changes as they get older, Korzenik said, and Americans are “getting older as a population.”
“Market strategists have postulated that when people feel badly about our institutions in the United States, it has an impact on the market,” Korzenik said. “And we certainly live in a low-confidence time in general. So that may be weighing on people’s view of the economy.”
There are also concerns about the burgeoning national debt, said Korzenik, a popular public speaker who frequently gives speeches on economic issues. He said he’s never had a presentation – and he’s made upwards of 75 of them – where someone doesn’t raise their hand and ask about the federal debt.
“The explosion of the federal debt is certainly a cause for worry and structural worry,” he said. “So, I think those are some of the factors that a certain segment of the population, say the bottom third of the economy, hasn’t had it very good. Those are some reasons that people don’t feel good (about the economy).
Amid a surge in home mortgage rates the housing market has become an issue, according to JPMorgan Chase’s Chambless, who wrote that housing sector activity has dropped between 30% and 40% over the last 18 months.
With housing affordability metrics at a 40-year low, she wrote, combined with 75% of mortgages locked in at 4% or below, the U.S. housing market is effectively frozen. Real residential investment tumbled at a 12% seasonally adjusted annual rate over the past six quarters, Chambless said.
“Meanwhile, home values rose 6% in 2023 – to near all-time highs – amid tight supply and historically low vacancies,” Chambless said. “Given the already large drop in recent years, we think the housing market is one area of the economy that could perform better in 2024 than in 2023, even if trends remain soft in the near term.
And, while domestic issues such as inflation and unemployment are key factors, Chambless wrote that “geopolitical risks” will remain top-of-mind for the U.S. economy.
Elevated trade tensions with China, the ongoing Russia-Ukraine war and conflict in the Middle East all point to “continued uncertainties and risks” as 2024 begins, she wrote.
“While direct U.S. economic impact has been limited thus far, the larger risk is for a supply shock of a critical commodity or good – energy, food, semiconductors – that triggers significant market disruption,” Chambless said. “(The 2024) presidential election could be more impactful than recent cycles on geopolitics given the backdrop of already elevated tensions.”
