Fed Watch Q2 2023 – Another Growth Recession?
Forum Update with More Good News from the Federal Reserve

Last quarter we reviewed comments from the Fed Chair that he believed we are not heading for a recession.

In their latest press conference, Federal Open Market Committee staff also now project that:

“given the resilience of the economy recently, they are no longer forecasting a recession.

Staff now has a noticeable slowdown in growth starting later this year…”

The “old normal” of booms and busts leads people to expect more to come. But the latest bust, due to the pandemic, did not come.

Our chart shows the “old normal” busts in red, with job losses in the three previous recessions prior to the pandemic.

While pandemic job losses dwarfed the old normal, the new normal brought people back, and a global depression was avoided.

The Horizontal Red Lines Indicate Pauses in the Rise of Price Levels of Financial Assets

The “new normal” was instituted on the heels of the global financial crisis. The Fed is now mandated to maintain not only price levels but employment.

This has led to a pattern of growth recessions since the financial market crash of 2008.

This graph shows growth recessions by tracking the increase in price levels for the New York Stock Exchange.

The horizontal red lines indicate pauses in the rise of prices of financial assets, a “wait and see” period for investors while economic growth and incomes catch up to investor sentiment.

The current one is the fourth pause since the great recession.

“Our policy tightening affects the most interest rate sensitive sectors of the economy, particularly housing, and investment”

The Fed does not have targets for asset prices, but they monitor them and have substantial control over them through interest rates and the money supply, as we see in the quote.

Housing and investment metrics are moderating in line with the current Fed policy of higher interest rates and quantitative tightening.

The Fed raised rate targets to 5 ¼ to 5 ½ percent.

The purple line indicates rising interest rates since early 2022.

Investment pricing is down from its highs in 2021.

The housing sector volume is down, as we saw in our construction volume by sector analysis.

“When banks raise their credit standards, that can also make credit tight in a broadly similar way to monetary tightening”

Credit tightening is ahead of expectations and has been tightening for over a year.

This correlates to the green line showing reserve assets, aka “printing money,” reducing from its high of 9 trillion dollars.

The recent uptick in the green line corresponds to the recent bank troubles.

As banks get into trouble with riskier loans, they restrict lending standards, which reduces the money supply by contracting credit.

“One way to see real interest rates is to look at the nominal rate and then subtract a reasonable estimate of one-year inflation, which might be 3 percent. So, you’ve got 2 percent real rates”

Inflation has been slower to come down than expected, but real interest rates are now significant. The red line shows personal consumption expenditure price levels.

The purple line, the fed funds rate, underlies interest rates available to consumers.

To quote the Fed, “Over the 12 months ending in May, total PCE prices rose 3.8 percent; excluding the volatile food and energy sector, core prices rose 4.6 percent. The federal funds rate is now putting downward pressure on economic activity and inflation.

Clearly, for goods, normalizing supply conditions are reversing increases. Take autos, for example; the combination of an increase in sales and inventories points to a substantial role for supply. There is also a role for demand as loans are more expensive.

With existing homes, people with low mortgage rates are less likely to sell, so supply is keeping prices up. With new homes, there is a lot of supply coming online now, and first-time buyers are coming in. This will take time to work through.”

“The labor market is extraordinarily tight. You still got 1.6 job openings for every unemployed person. We do see softening, but overall, you’re near a 50-year low in unemployment”

Employment is very strong, as shown by the yellow line, with unemployment rates falling below 4%. There is some wage inflation, but this could moderate without an increase in unemployment.

To quote the Fed. “Wages are a couple of percentage points above what would be consistent with 2 percent inflation over time. We do see some softening in wage increases, and we see new labor supply coming in. These are very positive developments. Fortunately, we’ve been able to do that so far without unemployment going up.”

Horizontal Red Lines Show the Previous Recessions of 90-93, 2001-2004, and 2008-2014

We chart growth in employment in total and as a percentage of the labor force. During the run-up from 2010, the economy experienced its longest uninterrupted expansion of 10 years to 2020, during which employment grew steadily from about 130 million to over 150 million jobs. During this time, we experienced the three growth recessions indicated previously. Measured by employment, a fourth recession happened in 2021-2022. This was masked by both fiscal income and employment pandemic measures and by growth in Gross Domestic Product.

“Over the past three months, job gains averaged 244 thousand jobs per month. The unemployment rate remains low, at 3.6%”

This chart shows unemployment spiking with pandemic job losses (yellow line).

While GDP dropped through the floor (blue line), it made a near-instantaneous recovery, which meant that the GDP decline did not occur over the 2-quarter minimum to become an official recession.

Note how GDP follows a wave pattern between 1 and 3%. Periods below 2 percent roughly correspond to other growth recession indicators during the 2010 to 2020 expansion. Current GDP growth is in the 1 to 2% range.

“Over the first three months of the year, job gains averaged 345 thousand jobs per month. The unemployment rate remained very low in March, at 3.5 percent”

Real GDP is rising below trend, but jobs are growing above trend.

To quote the Fed Chair, “There are some continuing signs that supply and demand in the labor market are coming back into better balance. The labor force participation rate has moved up in recent months, particularly for individuals aged 25 to 54 years. Nominal wage growth has shown signs of easing, and job vacancies have declined so far this year. While the jobs-to-workers gap has narrowed, labor demand still substantially exceeds the supply of available workers.

Wages have been moving down and are still at levels consistent over a long period of time with 2 percent inflation. Statistics for quits, job openings, and job creation are all cooling.”

“It’s possible that this time is different; unemployment is even lower than where it was before we raised rates”

So soft landings are part of the new normal. Again, to quote Chair Powell.

“It wasn’t supposed to be possible for job openings to decline by as much as they’ve declined without unemployment going up. Well, that’s what we’ve seen.

It’s possible that we can continue to have a cooling in the labor market without having the big increases in unemployment that have gone with many prior episodes.

Now, that would be against history – a labor market with so much excess demand, yet wage increases moving down to a more sustainable level. The case of avoiding a recession is, in my view, more likely than that of having a recession.”

Transcript of Chair Powell’s Press Conference July 26, 2023 →