The economy’s “hold your breath moment,” explained
Let’s get this out of the way: the economy is not in bad shape at the moment.
The red hot labor market is cooling off a little, but it remains resilient. It’s the type of thing you’d want to see if the “soft landing” scenario we’re aiming for, where the economy slows down without going into negative territory, is going to happen. Inflation has moderated. Consumers are still hanging in there. The country’s GDP growth for the third quarter is expected to come in quite strong. It actually needs to slow a little bit if inflation is going to come down more. Objectively, you can’t look around and declare, “Yes, we are in the midst of a broad-based recession.”
Still, after the last few years, being nervous is well within many Americans’ rights. Plenty of people have been nervous about the economy for what feels like forever, to the point that it might just be time to accept that at least some level of economic anxiety is a permanent state of being. It’s understandable. The possibility of a recession is scary, inflation is a real bummer, and the thing most people do to exist in the economy — work — is not always super fun. For millions of low-income Americans, economic precarity feels like a fact of life.
There are potential headwinds ahead, as there always are — that’s sort of the name of the game. And there are indicators pointing in negative directions, too. A lot of the excess savings people built up in the pandemic have dissipated, and the programs the government put in place to shore up people’s finances and the economy have by and large dried up. The Federal Reserve has been raising interest rates for well over a year in an attempt to slow the economy down and combat inflation, and it’s not clear whether the full effects of that have been felt. (Remember the whole Silicon Valley Bank collapse from the spring? That was in part the result of Fed rate hikes.)
“It’s a hold-your-breath moment, because you’re just waiting,” said Claudia Sahm, the founder of Sahm Consulting and a former economist at the Federal Reserve. “That’s always the case, but now I think it’s even more reinforced. We’ve been in uncharted territory since 2020, and now it’s seeing if we can get out of it. You can make the case in every direction.”
On the economy, the vibes and realities don’t always match — there’s often a negative bias here, too. People’s individual circumstances vary as well. If you’re a striking auto worker, if your student loan payments are about to come back, or if you got swept up in some of the tech layoffs earlier this year, you’re of course going to be extra worried right now.
At the macro level, really, things do seem pretty solid. But there are some potential uncertainties to keep in mind.
Strikes, student debt, and the shutdown are an economic “triple threat,” in the bad way
In the short term, there are multiple factors that, while small on their own, could add up to a significant drag on the economy when combined. The United Auto Workers strikes, the pending resumption of student debt payments, and the risk of a government shutdown represent a “triple threat on the economy” at the moment, Greg Daco, chief economist at EY-Parthenon, told me in a recent interview. “It’s the combination of the headwinds that can hurt you more than any single isolated incident.”
The UAW strikes cost the economy $1.6 billion in their first week, according to an estimate by Michigan consulting firm Anderson Economic Group, with the impact largely being felt in the places where the union’s strikes are taking place. The longer the strikes go on — and the more the UAW escalates to have more workers walk off the job — the worse the scenario will get. Initially, the UAW struck at just three plants in three states, now it’s escalated to 38 plants across 20 states. That’s expanded its geographic reach as well as its disruption.
It’s a similar situation with a potential government shutdown, which could be just days away if Congress doesn’t strike a deal by midnight on September 30. Some of the economic activity lost during shutdowns will be recovered — government workers who have to forgo their paychecks during that time eventually do get paid. Still, there is damage: the 2018-2019 shutdown, which lasted 34 days, led to $3 billion in permanent lost economic growth, according to the Congressional Budget Office.
Regardless, a shutdown isn’t an awesome sign for the state of anything. “The government shutdown is about politics and dysfunction,” Sahm said. “It can’t be good for the economy.”
Student loan repayments, put on pause during the pandemic, are set to become due again in October — for real this time. Analysts at Goldman Sachs estimate that will cost American households some $70 billion each year. That is likely to hit consumer spending somewhat — borrowers will be sending $200 or $300 to the government each month instead of injecting it into the economy. It’s not going to do the economy in.
“Sure, it’s going to have an effect, but I think the magnitudes are not big enough to drive us into a recession unless we’re already on the verge of a recession,” said Constantine Yannelis, an associate professor of finance at the University of Chicago Booth School of Business. The White House has laid out an “on-ramp” for student loan repayments to get people back to paying over time that may also soften the economic blow.
There are other short-term negative factors in play as well. Oil prices have risen and, in turn, so has the cost of gas. Mortgage rates are spiking. Most, if not all, pandemic relief programs have sunsetted, including food stamps, Medicaid, and unemployment insurance. Congress allowed the expanded child tax credit to expire as well.
“The pandemic relief programs clearly had effects on demand, clearly had effects on improving balance sheets and debt,” Sahm said. “It’s not hard to think about which direction [the end of the programs] goes.”
Child poverty spiked in 2022 after supplemental programs were ended. Millions of people have lost Medicaid.
The labor market is still good! But it’s slowing down, and the Fed’s still doing its thing.
If everything we were talking about up to this point was sort of small-scale, short-term risk, this is the part where we get to the medium stuff. Keeping with the spirit of the rule of threes, let’s put it into three categories that are top of mind: jobs, inflation, and the Fed.
The overarching headline about the US labor market during the pandemic recovery has been that it’s astonishingly resilient. Many workers were able to get hired, to trade out of bad jobs for better ones, and to join the labor force. Inflation did outpace wage growth for a while, but that’s no longer the case, and those at the bottom end of the income spectrum in particular have really been able to make important gains. In recent months, things have started to moderate. People are quitting their jobs at more normal rates, and job openings have fallen. Job gains have slowed as well. As of the August jobs report, the US was adding an average of 150,000 jobs per month over the past three months. By comparison, at the start of the year, the figure was more than double that.
This is all headed in the direction of “normal” territory. The question is whether normal sticks. The downward trend could continue into negative territory, meaning the labor market adds fewer and fewer jobs until we eventually see job losses. “What stops that deceleration?” Sahm said.
“We’re seeing an ongoing slowdown in the labor market,” Daco said. “The very pillar that is reason for optimism is becoming less solid as we move through the year.”
It’s also worth noting that a normal jobs market doesn’t mean an optimal one. The Black unemployment rate has typically remained much higher than the white unemployment rate, though this recent tight labor market has led to historically low unemployment rates for Black workers. If anything, the past few years have shown that we don’t have a great sense of just how good the labor market can get.
Inflation increasing again is another concern. It’s moving in the right direction generally, but the ride is likely to be bumpy. While the hope for the labor market is that it stays close to where it is, the hope for inflation, which is in the 3-4 percent range annually, continues to come down, heading more toward that 2 percent rate the Fed aims for in the long term. What’s more, some of the factors that could contribute to increasing inflation — trade disruptions, rising oil prices — are very much out of the Fed’s hands.
“We’re seeing a lot of political instability in China at the moment and an increasing decoupling between China and the US, and more generally, we’ve entered, since the pandemic, a new era of trade protectionism,” Yannelis said.
“While the Fed will say they care about all inflation, they can do nothing about [oil and gas price] inflation,” Sahm said. “That’s global demand, that’s global politics.”
Speaking of the Fed, that’s where another wild card comes in — or, at least, wild-ish. In September, it left interest rates unchanged in a sign that it’s relatively optimistic about where the economy is headed. It’s expected to raise interest rates once more this year and has also indicated it will keep rates higher for longer in 2024. It’s a sign the Fed seems to believe the economy can withstand higher rates for longer. That means borrowing costs will likely stay high, something many consumers, businesses, and investors may not love. Still, the economy is unpredictable, and economic forecasts are just that — forecasts.
It’s still not clear if we’ve seen the full fallout of the actions the Fed’s already taken. “I’m still in the camp that we haven’t seen the effect of all the Fed’s interest rates, and frankly, I’m most concerned with the risks in the financial sector,” Sahm said, pointing to the role higher interest rates played in Silicon Valley Bank’s implosion. That being said, the Fed hiking interest rates so much thus far could have pushed the country into a recession, and it didn’t. “With a recession, typically there’s been a shock. The Fed rapidly raising interest rates by over 5 percentage points, that could have been a shock, but it’s not like we rolled right into a recession,” she said.
Qian Wang, an economist at Vanguard Group, said she sees a potential problem where the Fed gets stuck between a rock and a hard place as different parts of the economy move in different directions. “I think the biggest risk is that the Fed may get into a dilemma and inflation may pick up actually again and economic growth may weaken and slow down, so that literally makes a soft landing impossible,” she said.
To be sure, there are all sorts of scenarios that could play out. Yannelis pointed to “tail-risk nightmare scenarios” in the long term (or, really, whenever) that could obviously do big damage to the economy — artificial intelligence getting out of control, a disastrous 2024 election where people en masse refuse to accept the results, large-scale confrontation between global powers, like Russia and NATO. It’s important to point out here that these are really unlikely scenarios. Also, if there is a global nuclear war, it’s not really going to matter what mortgage rate your local bank is offering.
Maybe it’s just time to embrace economic anxiety acceptance
Now that I’ve spent a lot of this story bumming you out a little, I want to emphasize here that there really are plenty of reasons for optimism about the economy — on jobs, consumer spending, and growth. The soft landing scenario seems very much possible, though most economists and policymakers aren’t rushing to call this a definitive win.
“We do feel that a soft landing is not impossible, of course, but we don’t think that’s our baseline scenario,” Wang said, noting Vanguard’s base case is a recession within the next 18 months. “The market sentiment is getting too high.”
“Objectively, the economy’s feeling pretty good, but it’s vulnerable, because it’s still dealing with high interest rates. And you throw in these headwinds, and I don’t think we’re home free yet,” said Mark Zandi, chief economist at Moody’s Analytics. “You can’t declare mission accomplished yet. We have not soft landed, we are still in the landing process.”
The US economy has been claimed to be near a recession for months and months now, and one doesn’t appear to have happened yet. There will very likely be a downturn again at some moment, because recessions, historically, have been a fact of economic life. It’s fair to say that right now, the economy looks quite strong and resilient, and there are also risks. Whether those risks will add up to something impactful isn’t something anyone can definitively declare.
