Editor’s Note: Lakshman Achuthan and Anirvan Banerji are co-founders of the Economic Cycle Research Institute (ECRI), which determines recession dates for 22 economies around the world. The views expressed in this commentary are their own. View more opinion on CNN.
Recession concerns in the US are widespread these days. Yet, some economists argue that the strength of the labor market — as well as household balance sheets — will keep the economy strong enough to avoid a recession.
We disagree. Despite the relatively robust job growth we’ve been seeing, the Economic Cycle Research Institute (ECRI), which we co-founded, has been predicting recession since last spring, and it remains our expectation that the US economy will enter a recession this year.
Having gotten off to a late start, the Federal Reserve has been hiking interest rates since March of last year, and very sharply since June, to try to slow down the economy and cool inflation. The problem is that, by the time the Fed began hiking rates, the economy was already slowing, making recession more likely.
The goods sector is especially vulnerable, in part because it’s sensitive to higher interest rates. Symptoms of that vulnerability are already visible in falling factory orders. And, already under assault from rising mortgage rates, residential construction spending has been falling since last spring, and housing starts and new building permits have been tumbling.
Meanwhile, the purchasing managers’ index for manufacturing, which measures the month-over-month change in manufacturing activity, fell below 50 in the last two months, implying that a manufacturing contraction is underway. Moreover, its service sector equivalent has also slipped under the 50 mark, suggesting that services activity has started to decline.
Recessions always entail noticeable declines in both GDP and jobs, but such pullbacks are not necessarily obvious at the recession’s outset. While GDP and jobs do move in step with the economy, by the time they are released, they only tell us where the economy had been in the recent past.
Employment, in particular, can hold up longer than expected in a recessionary scenario. That was true in the inflationary era around the 1970s. Most notably, employment didn’t peak until eight months after the start of the severe 1973-1975 recession.
The reluctance to let employees go back then, and in today’s economy, could be due to the “money illusion,” where business owners tend to view their revenues in nominal dollar terms instead of recognizing its real value, adjusted for inflation. So even if their revenues are rising in dollar terms, the purchasing power of those dollars is falling due to inflation, and buys less labor and raw materials.
In fact, in a recession, inflation-adjusted revenues typically fall in any case, as customers make fewer or smaller purchases that cost them more because of inflation. Inflation also forces business owners to pay more for everything they buy, including employee wages and salaries. As a result, their profits get squeezed, which is why many eventually end up implementing layoffs.
We saw a mirror image of today’s economy in the spring and summer of 2008, when the Great Recession, which started in December of 2007, was already underway. Then, many — including then-President George W. Bush — were not concerned about a recession because GDP hadn’t declined yet, even though job losses had begun. We pushed back against the prevailing complacency, writing for CNN at the time, “While GDP has yet to decline, we have already seen four straight months of payroll job losses. That suggests that the economy is on a recession track. And it implies that either one or both of the recent, slightly positive GDP estimates will be revised down to negative readings by next year.”
A true recession entails job losses — sooner or later. That is why — having predicted that the economy would enter a recession — last spring we urged job seekers “to update the resume and make any career moves while the job market is still hot.” Since then, we’ve already seen jobs losses in technology and finance, but more are coming even though the monthly job figures still look good.
Our recession forecast hasn’t wavered. We should all be prepared.