Over at The Hill, I have a new piece discussing the risk of recession. Here is the fundamental problem that we face:
If the Fed’s contractionary monetary policy does succeed in reducing nominal GDP growth to roughly 4 percent, one of two things might happen. The best outcome would be for wage growth to slow sharply from current levels, which would allow firms to avoid large layoffs. But if wages continue growing at 6 percent while nominal GDP growth slows sharply, higher unemployment is almost inevitable.
I favor a reduction in NGDP growth, despite the risk of recession. I also discuss some recent market indicators of recession:
Today, market indicators are presenting a mixed picture of the risk of recession, with the market consensus viewing one as increasingly likely but not certain. For instance, while stock prices are down sharply, if there actually were a recession, they would probably fall even further. And while interest rate futures markets show rates declining slightly during 2023, if there were a recession, interest rates would probably fall much more sharply — perhaps to zero.
These facts are certainly no reason for complacency. The patterns we see in the markets, including soaring oil prices, falling stock prices and a flattening yield curve, often occur right before an economic contraction.
Read the whole thing.
READER COMMENTS
Spencer Bradley Hall
Jul 1 2022 at 4:48pm
re: “Indeed, during the 1990, 2001 and 2008 recessions, the consensus forecast did not predict a recession until several months after it was underway”
Those were terribly easy to predict. But when Greenspan discontinued the G.6 release and Powell eliminated required reserves and removed withdrawal restrictions on deposit classifications, it through a wrench into the cog.
We’ve never had the money supply explode like this. Inflation should be even higher. And that implies real economic growth will be even lower (secular stagnation).
Spencer Bradley Hall
Jul 1 2022 at 6:46pm
The July 1990–Mar 1991 recession was the first since the GD to have a negative rate-of-change in bank debits. It reflected the importance of velocity in the housing market, a precursor of the GFC.
The Mar 2001–Nov 2001 recession reflected Greenspan’s fear of Y2K. He drastically increased reserves, then excessively drained them.
See: The Federal Reserve Bank of New York erased “The Money Supply”
“This content is no longer available”
There’s a concerted effort to destroy this country.
Spencer Bradley Hall
Jul 1 2022 at 7:35pm
The title is wrong. It should read “The risk of Depression”
Thomas Lee Hutcheson
Jul 1 2022 at 7:52pm
How do you read the sharp tall in TIPS?
Spencer Bradley Hall
Jul 2 2022 at 10:55am
What is R *? The FED can’t hit an N-gDp target using interest rates.
Todd Ramsey
Jul 2 2022 at 11:14am
Is it possible the recession will be unusually short, due to the unprecedented number of job openings quickly absorbing frictional unemployment?
Depending upon the generosity of unemployment benefits?
Scott Sumner
Jul 3 2022 at 2:07pm
Yes to both points.
Market Fiscalist
Jul 2 2022 at 1:25pm
You say “The best outcome would be for wage growth to slow sharply from current levels, which would allow firms to avoid large layoffs”
I have question relating to this: Is recent high wage growth mainly or wholly a result of the CB allowing NGDP to drift above trend (in which case any resulting recession would be the CBs “fault”) or do you see above trend wage growth as something than can also occur in reaction to supply side factors over which the CB has no control ?
Scott Sumner
Jul 3 2022 at 2:08pm
It’s mostly due to fast NGDP growth, but reductions in labor supply have also played a role.
Rodrigo
Jul 2 2022 at 1:44pm
Professor,
Looks like you have reluctantly come around to the idea that a recession is in the cards. I have personally been of the idea that we are already in a recession per rule of thumb 2 consecutive negative real gdp quarters. Atlanta fed now tracking q2 gdp at negative 2%. You were earlier than most claiming inflation was a real problem and you were certainly right. Im curios as to what kept you optimistic that we would avoid a recession? As the fed has never engineered a soft landing even during the best of times. Certainly not claiming to be an expert forecaster but the probability that we didn’t have considering how poorly the fed handled the situation seem extremely low. Also, you claim markets should fall a lot more if we are in a recession but would that not be a function as to how bad the recession gets? Markets did not get real ugly until after fed made its crucial mistake in 08 and 2001 gave us a 2 year bear market so could we not be in the processes of determining how much we need to price in and how fast? I would go as far as saying the markets have become more efficient in pricing in news without as many counter trend swings as it did in the past. Market peaked in January this year and never looked back.
Scott Sumner
Jul 3 2022 at 2:06pm
I have always been reluctant to predict recessions, as recessions have historically been almost impossible to forecast with any accuracy.
BTW, it’s a myth that two negative GDP quarters are a recession.
Thomas Lee Hutcheson
Jul 3 2022 at 2:35pm
“Wages” is a huge swathe of prices of different services. Doesn’t the same analysis apply to any similar large number of prices that did not moderate as NGDP’s rate of growth slowed?
Charles N Cranmer
Jul 4 2022 at 2:45pm
It looks to me that Fed Reverse repos have continued to increase, suggesting that the Fed is still artificially supporting short rates and benefitting financial institutions at the expense of taxpayers. I think everyone pays far too much attention to the short end, which the Fed totally controls. The only thing that really matters is whether the Fed is reducing its balance sheet, which it seems to be doing. If this continues, a recession is baked in the cake.
Gene
Jul 7 2022 at 11:49am
Why so glum?
Comments are closed.