Traders on the trading floor of the New York Stock Exchange during afternoon trading on August 2, 2024.
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Worries about a recession have sent stocks sharply lower in recent days, with the S&P 500 falling 3% on Monday, its worst drop in nearly two years.
Weaker-than-expected jobs data on Friday stoked concerns that the U.S. economy’s fundamentals are on shaky ground and that the Federal Reserve may have made mistakes in achieving its so-called “soft landing” goal.
A soft landing means the Fed has charted a path for interest rate policy that will curb inflation without triggering a recession.
Federal data released on Friday showed a sharp increase in the U.S. unemployment rate. Investors fear this suggests a “hard landing” is increasingly likely.
However, economists say the likelihood of a recession next year remains relatively low.
In other words, a soft landing is still possible, they said.
“I think the most likely scenario is a soft landing: the economy avoids a recession,” said Mark Zandi, chief economist at Moody’s.
Likewise, Jay Bryson, chief economist at Wells Fargo Economics, said a soft landing remains his “base case” forecast.
But he said fears of a recession were not entirely unfounded amid some signs of economic weakness.
“I think the fear is real,” he said. “I wouldn’t discount them.”
Zandi and Bryson said avoiding a recession also requires the Fed to start cutting interest rates as soon as possible.
They say if borrowing costs remain high, it increases the risk of a recession.
Why are people panicking?
Friday’s “big shock”—and the root cause of the subsequent stock market plunge—came from monthly employment report Published by the Bureau of Labor Statistics, Bryson said.
The report showed that the unemployment rate rose to 4.3% in July, up from 4.1% in June and 3.5% in the same period last year.
Economists say the national unemployment rate of 4.3% is low by historical standards.
But its steady growth last year triggered what’s known as “Sam’s Rule.” If history is any guide, the U.S. economy is already in recession.
Sam’s Rules triggered When the three-month moving average of the U.S. unemployment rate is half a percentage point (or more) above its low over the past 12 months.
This threshold was breached in July, when Sam’s Rule Decline Indicator Reached 0.53 points.
Goldman Sachs raised its recession forecast from 15% to 25% over the weekend. (Economists say recessions occur on average every six to seven years, with an annual chance of about 15%.)
Zandi estimated the chance of a recession starting next year is about one in three, about twice the historical norm. Bryson puts the possibility at around 30% to 40%.
Sam’s Rules Might Not Be Accurate This Time
However, Zandi said there are good reasons to think the Sam rule is not an accurate recession indicator in the current economic cycle.
This is due to the way the unemployment rate is calculated: it is the number of unemployed people as a percentage of the labor force. Therefore, changes in two variables, the number of unemployed people and the size of the labor force, can cause the unemployment rate to rise or fall.
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Historically, Sam’s Rule was triggered by weak demand for workers. Companies are laying off workers, and the number of unemployed people is increasing.
However, Bryson said there were “very good reasons” for much of the rise in unemployment over the past year, particularly the huge increase in labor supply.
More Americans are entering the job market and looking for work. Those on the sidelines and looking for work are officially counted as “unemployed” in federal data, pushing the unemployment rate higher.
Bryson said the labor force grew by 420,000 people in July compared with June, which is a “pretty big” number.
Meanwhile, some federal data shows businesses are retaining workers: layoff rate For example, June’s growth rate of 0.9% matched the lowest recorded since 2000.
“The flag turned red”
That said, there are already worrying signs Economists say the labor market is generally cooling.
For example, hire has slowed down Below pre-pandemic baseline, so is the share of workers quit smoking for a new gig. Number of people applying for unemployment benefits gradually increase. The unemployment rate is at its highest level since the fall of 2021.
“The labor market is in a dangerous situation,” Nick Bunker, director of North American economic research at job search website Indeed, wrote in a memo on Friday.
“Yellow flags started to appear in the labor market data over the past few months, but now the yellow flags are turning to red,” he added.
Other positive signs
However, there are some positive indicators that offset the negatives and suggest the economy remains resilient.
For example, Zandi said, “real” consumer spending – that is, spending after accounting for inflation – remains strong “across the board.”
This is important because consumer spending account Accounts for about two-thirds of the U.S. economy. Zandi said if consumers continue to spend, the economy will be “fine.”
I think the most likely scenario is a soft landing: the economy avoids a recession.
Mark Zandi
Moody’s Chief Economist
Bryson said economic fundamentals, including household financial health, “remain pretty good” overall.
Economists say it is almost certain that the Federal Reserve will start cutting interest rates in September, which will ease the pressure on households, especially low-income earners.
“This is not a ‘jump in the foxhole as fast as you can’ situation in September 2008 by any stretch of the imagination,” Bryson said. “Nor was March 2020 the time to shut down the economy.”
“But there are some signs that the economy is starting to soften here,” he added.
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