Getty Images; Alyssa Powell/BI
The conflicting narratives about the US economy seem to have one thing in common: extremity.
There are those who argue that America isn’t just on the edge of a recession but already in one: “The Sahm rule has triggered! The ISM is below 50! Payroll employment has been revised down by nearly 1 million!” The doomers are using anything they can to argue that the economy is in dire straits. On the other end of the spectrum are the people worried that the economy is too strong and headed for a “no landing” scenario of stubbornly higher inflation and more pain for borrowers.
It may not be as eye-catching, but the truth, based on the latest economic data, is that the US economy is in good shape and that there’s a good chance it can achieve the long-desired “soft landing,” or as I previously called it, “economic nirvana.” Sure, recession is a risk, and there was a real sense of uncertainty during the summer. But with the Federal Reserve’s recent interest-rate cut, the chance of a downturn is fading, and the notion that the economy has been in a recession for over a year strains credulity.
We’re not in a recession
To determine whether the economy is in recession, it helps to first define the term. A popular definition says a recession is triggered after two straight quarters of falling GDP. But this is not the definition used by the official recession scorekeeper: the National Bureau of Economic Research. The group — made up of economists and experts in business-cycle research — takes a holistic view of the data, defining recession as “a significant decline in economic activity that is spread across the economy and that lasts more than a few months.”
The argument that the economy is in a recession — or on the precipice of one — is preposterous.
The four main variables the NBER uses are real incomes less government transfer payments like Social Security or unemployment benefits; industrial production; real spending; and employment. In recent decades, the recession-dating committee has given more weight to real incomes and payroll employment. The improvement across these indicators has not been uniform, but it’s clear they’ve been moving in the right direction:
- Employment: So far this year, the economy has added an average of 176,000 jobs each month, including the benchmark revision. That’s modestly slower than 2023 but still consistent growth.
- Spending: In the eight months so far this year, consumers’ real spending has advanced at a 2.1% annualized rate, below last year’s 3.5% pace but hardly a disaster.
- Incomes: Real incomes have advanced at a 2.7% annualized rate this year — a reasonable outcome, albeit slower than the rate in 2023.
- Industrial production: The most sluggish of the four indicators, the output generated by America’s manufacturers has been essentially flat since mid-2022.
Taken together, these indicators suggest that the argument that the economy is in a recession — or on the precipice of one — is preposterous.
So what about the revisions to economic data? Quite a bit of ink has been spilled on the notion that while the data might not definitely say recession right now, as more is gathered and updates are made, a recession will be obvious in the revised figures.
Gathering data for an economy as large as ours is an arduous process, one that requires great care. Sometimes data gets revised because long-term seasonal patterns in economic activity shift, recontextualizing the numbers that came before. In the case of employment, there are more frequent revisions based on official tax data that was unavailable at the time of the initial report. If I was being generous, I’d say that, at worst, the revisions to recent data have been mixed. Sure, the yearlong payrolls were adjusted down, but the story has largely been the same: This is a cooling but not collapsing labor market. Plus, GDP and its close cousin gross domestic income were revised upward by a good amount. Together, these things imply an economy that’s growing at a decent, if not spectacular, clip. Those waiting on revisions that reveal a recession need to go back to the drawing board.
Safety not guaranteed
Now, just because the US economy isn’t in recession doesn’t mean the outlook is without risk. The most obvious risk to the economy is that the recent weakening of the job market will continue and that the Fed, in turn, will get stuck somewhat behind the curve in its efforts to arrest the rise in the unemployment rate. Despite the 50-basis-point interest-rate cut by Chairman Jerome Powell and the rest of the Fed, there’s evidence of additional slowing in the labor market.
Two data points stand out to me as signs that the dangers could be real:
- The Conference Board’s labor differential collapsed to a fresh low of 12.6 in September. This measure is the difference between the percentage of surveyed consumers who say they think jobs are plentiful and the percentage who say they believe jobs are hard to get. Consumers tend to spot changes in their local economies before the official data, and in this case they’re telling us more unemployment is on the way.
- The hiring rate and the quits rate continue to trend down. Businesses aren’t feeling upbeat enough to hire, and workers aren’t feeling confident enough in their prospects to leave their jobs in search of a new one. We’ve even gone a bit beyond pre-pandemic normalization — at 1.9%, the quits rate is as low as it was in 2015. While it’s encouraging that layoffs are low, the low rate of hiring implies it would not take much of an increase in layoffs to nudge employment growth to a much weaker rate.
Yes, the latest employment report mitigates some of our concerns. But there’s a chance conditions will deteriorate. For one, the strong-than-expected September jobs report represents a sharp rebound in momentum inconsistent with most other metrics in the economy. In other words, it could have been a one-off. The risk with unemployment is always that it builds on itself. If it has been rising, as it has over the past year and a half, it tends to keep rising.
The mitigating factor here is the Fed. Since the rate cut, I’ve grown more confident that it will act in the face of weaker employment data. Leading up to the decision, there was some question about whether it would, in fact, cut a full 50 basis points. Some argued that such a large rate cut meant Powell and the other Fed officials were worried about growing risk ahead. I saw a different signal. It told us less about what was to come and more about what happened up to that point: The labor market had weakened, and inflation had cooled significantly, so the Fed was belatedly acknowledging that fact. Given the balance of risks and the strong signal of the rate cut, it has shown a commitment to act decisively should labor markets deteriorate further.
Sure, but what does it mean for stocks?
Financial markets are bets on the outlook, not the past. Telling an investor that a recession started six months or a year ago is useless. Even if a recession did start last fall or this spring, that doesn’t mean equity prices go back in time and get revised down. So what’s the point of making such a call in the first place?
It’s better to evaluate markets’ next move based on the actual data we’re seeing, plus a sober-minded projection of future economic shifts. Following the strength of the latest jobs report, the markets appear to be pricing in an inflationary boom — strong growth with sticky inflation. This has pushed up bond yields (which move in the opposite direction of their underlying price) and mortgage rates while reigniting all the “no landing” talk. I think the economic outlook is more consistent with modest growth and slowing inflation. Given the recent market move and the expectations for a more benign outlook, bond investors are likely overdoing the sell-off, meaning that the market is set to bounce back as yields fall and that bonds are likely to do better than stocks in the short term.
Longer term, I see a Fed willing to step in aggressively at the first sign of labor-market trouble. If the labor market deteriorates and the unemployment rate increases, we ought not to rule out another 50-basis-point move. Add in an economy continuing to expand with a benign inflation outlook, and that’s a positive backdrop for equity investors. Stocks don’t work when a recession becomes obvious. Perhaps we don’t see the types of gains we’ve seen over the past year, but a deep correction does not seem likely either.
Neil Dutta is head of economics at Renaissance Macro Research.