The US economy is booming. So why are economists worrying about a recession?
By Ben Casselman
Employers are adding hundreds of thousands of jobs a month, and would hire even more people if they could find them. Consumers are spending, businesses are investing, and wages are rising at their fastest pace in decades.
So naturally, economists are warning of a possible recession.
Rapid inflation, soaring oil prices and global instability have led forecasters to sharply lower their estimates of economic growth this year, and to raise their probabilities of an outright contraction. Investors share that concern: The bond market last week flashed a warning signal that has often — though not always — foreshadowed a downturn.
Such predictions may seem confusing when the economy, by many measures, is booming. The United States has regained more than 90% of the jobs lost in the early weeks of the pandemic, and employers are continuing to hire at a breakneck pace, adding 431,000 jobs in March alone. The unemployment rate has fallen to 3.6%, barely above the pre-pandemic level, which was itself a half-century low.
But to the doomsayers, the recovery’s remarkable strength carries the seeds of its own destruction. Demand — for cars, for homes, for restaurant meals and for the workers to provide them — has outstripped supply, leading to the fastest inflation in 40 years. Policymakers at the Federal Reserve argue they can cool off the economy and bring down inflation without driving up unemployment and causing a recession. But many economists are skeptical that the Fed can engineer such a “soft landing,” especially in a moment of such extreme global uncertainty.
“It’s like trying to land during an earthquake,” said Tara Sinclair, a professor of economics at George Washington University.
William Dudley, a former president of the Federal Reserve Bank of New York, called a recession “virtually inevitable.” He is among the economists arguing that if the Fed had begun raising interest rates last year, it might have been able to rein in inflation merely by tapping the brakes on the economy. Now, they say, the economy is growing so rapidly — and prices are rising so quickly — that the only way for the Fed to get control is to slam on the brakes and cause a recession.
Still, a majority of forecasters say a recession remains unlikely in the next year. High oil prices, rising interest rates and waning government aid will all drag down growth this year, said Aneta Markowska, chief economist for Jefferies, an investment bank. But corporate profits are strong, households have trillions in savings, and debt loads are low — all of which should provide a cushion against any slowdown.
“It’s easy to construct a very negative narrative, but when you actually look at the magnitude of all those impacts, I don’t think they’re significant enough to push us into a recession in the next 12 months,” she said. Recessions, almost by definition, involve job losses and unemployment; right now, companies are doing practically anything they can to retain workers.
“I just don’t see what would cause businesses to do a complete 180 and go from ‘We need to hire all these people and we can’t find them’ to ‘We have to lay people off,’” Markowska said.
Economists, however, are notoriously terrible at predicting recessions. So it makes sense to focus instead on where the recovery is right now, and on the forces that are threatening to knock it off course.
Growth will slow. That’s not necessarily a bad thing.
Last year was the best year for economic growth since the mid-1980s, and the best for job growth on record. Those kinds of explosive gains — enabled by vaccines and fueled by trillions of dollars in government aid — were not likely to be repeated this year.
In fact, some slowdown is probably desirable. The rapid rebound in consumer spending, especially on cars, furniture and other goods, has overwhelmed supply chains, driving up prices. Demand for workers is so strong that jobs are going unfilled despite rising wages. Jerome Powell, the Fed chair, said recently that the labor market had gotten “tight to an unhealthy level.”
Some economists, particularly on the left, took issue with that claim, arguing that the hot labor market was good for workers. But even most of them said the recent pace of job growth was unsustainable for long.
A slowdown doesn’t have to mean a recession. (In theory.)
The key question for policymakers is whether they can cool the economy without putting it into deep freeze. Powell argues that they can, though he acknowledges that it won’t be easy.
His argument goes something like this: There are 11 million open jobs and fewer than 6 million unemployed workers. There are more would-be homebuyers than there are homes to buy, and more would-be car buyers than available cars. By gradually raising interest rates and making it more expensive to borrow, the Fed is hoping to curb demand for workers and homes and cars, but not by so much that employers start cutting jobs.
Aaron Sojourner, an economist at the University of Minnesota, said policymakers shouldn’t think of the economy as “overheating” so much as “fevered,” its capacity limited by the pandemic.
“When you have a fever, you can’t perform at the level that you can perform at when you’re healthy, and you break a sweat even when you’re doing less than what you used to be able to do,” he said. Improvements in the public health crisis, he said, should allow the fever to break.
A lot could go wrong.
For much of last year, Fed officials shared Sojourner’s view, seeing inflation as a result of pandemic-related disruptions that would soon dissipate. When those disruptions proved more persistent than expected, policymakers changed course, but too late to prevent inflation from accelerating beyond what they intended to allow.
The challenge is that central bankers must make decisions before all the data is available.
It is possible, for example, that the imbalances that led to rapid inflation are beginning to dissipate, largely on their own. Federal aid programs created early in the pandemic have mostly ended, and many families have drawn down their savings. That could bring down demand just as supply is starting to catch up. In that scenario, the Fed could short-circuit the recovery if it acts too aggressively.
But it is also possible that strong job growth and rising wages will keep consumer demand high, while supply-chain disruptions and labor shortages linger. In that case, if the Fed is too cautious, it runs the risk of letting inflation spiral further out of control. The last time that happened, the Fed under Paul Volcker had to induce a crippling recession in the early 1980s to bring inflation to heel.
Powell has argued it is not too late to prevent such a “hard landing.” But even if a recession is inevitable, it isn’t likely to happen overnight.
“I don’t think we’re going to go into a recession in the next 12 months,” said Megan Greene, a senior fellow at Harvard’s Kennedy School and global chief economist for the Kroll Institute. “I think it’s possible in the 12 months after that.”
Global turmoil makes everything more complicated.
When this year began, forecasters pegged February or March as the moment when major inflation indexes would hit their peak and begin to fall. But the war in Ukraine, and the resulting spike in oil prices, dashed those hopes. The year-over-year rate of inflation hit a 40-year high in February, and almost certainly accelerated further in March as gas prices topped $4 a gallon in much of the country.
The pandemic itself also remains a wild card. China in recent weeks has imposed strict lockdowns in parts of the country in an effort to stop the spread of coronavirus cases there, and a new subvariant has led to a rise in cases in Europe. That could prolong supply-chain disruptions globally, even if the United States itself avoided another coronavirus wave.