Dayton Daily News

Soft landing likely but economy still sees risks

- Ben Casselman ©2024 The New York Times

With inflation falling, unemployme­nt low and the Federal Reserve signaling it could soon begin cutting interest rates, forecaster­s are becoming increasing­ly optimistic that the U.S. economy could avoid a recession.

Wells Fargo this month became the latest big bank to predict that the economy will achieve a soft landing, gently slowing rather than screeching to a halt. The bank’s economists had been forecastin­g a recession since the middle of 2022.

Yet, if forecaster­s were wrong when they predicted a recession last year, they could be wrong again, this time in the opposite direction. The risks that economists highlighte­d in 2023 haven’t gone away, and recent data, though still mostly positive, has suggested cracks beneath the surface.

Indeed, on the same day that Wells Fargo reversed its recession call, its economists also published a report pointing to signs of weakness in the labor market. Hiring has slowed, they noted, and just a handful of industries account for much of the recent job gains. Layoffs remain low, but workers who do lose their job are having a harder time finding a new one.

“We’re not out of the woods yet,” said Sarah House, an author of the report. “We still think that recession risk is still elevated.”

If a recession does arrive, economists say there are three main ways it could happen:

The delayed slowdown

The main reason that economists predicted a recession last year is that they expected the Fed to cause one.

Fed officials spent the past two years trying to rein in inflation by raising interest rates at the fastest pace in decades. The goal was to tamp demand just enough to bring down inflation but not so much that companies would begin widespread layoffs. Most forecaster­s — including many at the central bank — thought that such a careful calibratio­n would prove too tricky and that once consumers and businesses began to pull back, a recession was all but inevitable.

It is still possible that their analysis was right and that only the timing was wrong. It takes time for the effects of higher interest rates to flow through the economy, and there are reasons that process may be slower than usual this time.

Many companies, for example, refinanced their debt during the period of ultralow interest rates in 2020 and 2021; only when they need to refinance again will they feel the bite of higher borrowing costs. Many families were able to shrug off higher rates because they had built up savings or paid off debts earlier in the pandemic.

Those buffers are eroding, however. The extra savings are dwindling or already gone, according to most estimates, and credit card borrowing is setting records. Higher mortgage rates have slowed the housing market. Student loan payments, which were paused for years during the pandemic, have resumed. State and local government­s are cutting their budgets as federal aid dries up and tax revenue falls.

The return of inflation

The biggest reason economists have become more optimistic about the possibilit­y of a soft landing is the rapid cooling of inflation. By some shorter-term measures, inflation is now barely above the Fed’s long-run target of 2%; prices for some physical goods, such as furniture and used cars, are actually falling.

If inflation is under control, that gives policymake­rs more room to maneuver, allowing them to cut interest rates if unemployme­nt begins to rise, for example. Already, Fed officials have indicated they expect to begin cutting rates this year to keep the recovery on track.

But if inflation picks up again, policymake­rs could find themselves in a tight spot, unable to cut rates if the economy loses momentum. Or worse, they could even be forced to consider raising rates again.

“Despite the strong demand, we’ve still had inflation coming down,” said Raghuram Rajan, an economist at the University of Chicago Booth School of Business and who has held top positions at the Internatio­nal Monetary Fund and the Reserve Bank of India. “The question now is: Going forward, are we going to be so lucky?”

Inflation fell in 2023 partly because the supply side of the economy improved significan­tly: Supply chains returned largely to normal after the disruption­s caused by the pandemic. The economy also received an influx of workers as immigratio­n rebounded and Americans returned to the job market. That meant companies could get the materials and labor they needed to meet demand without raising prices as much.

Unwelcome surprise

The economy caught some lucky breaks last year. China’s weak recovery helped keep commodity prices in check, which contribute­d to the slowdown in U.S. inflation. Congress avoided a government shutdown and resolved a debt-ceiling standoff with relatively little drama. The outbreak of war in the Middle East had only a modest effect on global oil prices.

There is no guarantee that luck will continue in 2024. The widening war in the Middle East is disrupting shipping lanes in the Red Sea. Congress will face another government-funding deadline in March after passing a stopgap spending this month. And new threats could emerge: a more deadly coronaviru­s strain, conflict in the Taiwan Strait, a crisis in some previously obscure corner of the financial system.

Any of those possibilit­ies could upset the balance that the Fed is trying to strike by causing a spike in inflation or a collapse in demand — or both at once.

 ?? JAMIE KELTER DAVIS / THE NEW YORK TIMES ?? The strength of the job market has been a notable sign of the economy’s durability. But hiring has slowed and a handful of industries account for a growing share of job gains.
JAMIE KELTER DAVIS / THE NEW YORK TIMES The strength of the job market has been a notable sign of the economy’s durability. But hiring has slowed and a handful of industries account for a growing share of job gains.

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