Second derivative blues
Payroll employment rises by 114,000 and unemployment is only 4.3%. Wages are up 3.6% over the past 12 months. Those are really good numbers!
Unfortunately, it’s often the second derivative that tells the real story. There are strong signs that the economy is slowing rapidly. That doesn’t necessarily mean there’ll be a recession, but I’d say there’s at least a 95% chance that one of the following two events will occur late this year:
1. A recession
2. America’s first ever mini-recession, defined as a rise in unemployment of between 1% and 2%, before resuming its decline
When inflation got out of control in 2021-22, I suggested that we ought to be rooting for a mini-recession. Some people thought I was being too pessimistic. Now a mini-recession is the optimistic case.
To be clear, I do not regard a mini-recession as an actual recession. But disinflation never seems to be completely painless.
The Atlanta Fed estimates Q3 RGDP growth at 2.5%. I suspect that this estimate does not incorporate the latest jobs report, so that will be something to watch.
Over at Econlog, I discuss our inefficient monetary policy regime. Because Powell is basically a dove, I’d expect at least a 50 basis point cut in September. The problem here is that interest rate targeting simply doesn’t work very well—they should be targeting NGDP growth expectations. TIPS spreads are swinging wildly while the fed funds rate stays at 5.25%. Instead, interest rates should be swinging wildly as the TIPS spread remains stable. This is no way to run a modern economy.
Normally, the Fed’s FAIT policy would help at a time like this. Unfortunately, the Fed has lost a great deal of credibility on inflation, so I would not expect them to rely on another promise of “make-up inflation”.
Now do you see why I’m such a stickler for sticking to rigorous rules, even if there’s a bit of pain in the short run? It’s way easier to stabilize the economy if you have a credible, forward-looking, level targeting regime.
We do not have one.
PS. Sahm’s Rule has been triggered. So has my 2011 claim that we always have a recession when unemployment rises more than 0.8% above its cyclical low. I don’t believe there are any foolproof forecasting techniques, and I believe that a mere mini-recession is still very possible. It will be a quite interesting 6 months. “Make TheMoneyIllusion Great Again!” Wouldn’t it be wonderful if I never mentioned Trump for 6 months? No, that would mean we have an economic disaster on our hands.
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2. August 2024 at 07:48
Is Mini recession a form of a soft landing or has the soft landing become a very improbable scenario at this point?
Just a few days ago you said market was optimistic, to which I replied I did not see it albeit yes higher than a year ago but rapidly falling.
Now if fed does not cut 50bp as market is predicting, markets will definitely price in a full blown recession and we still a month and a half away from the next meeting. So maybe even too late then.
Have things changed so rapidly that an inter-meeting cut would be warranted? Not that there is any reason fed should wait until next meeting other than tradition.
2. August 2024 at 08:05
Rodrigo, Yes, I’d say a minirecession is a soft landing.
When I discuss “the market” I look at much more than just the stock market.
Over at Econlog, I discuss the frequency of rate changes. The rate should be adjusted every day. But interest rates are not even the right policy tool, and I have little faith that interest rate adjustments will succeed in stabilizing the economy. We need NGDPLT.
2. August 2024 at 10:59
Jason Furman tweeted
“The 10-year Treasury yield is at 3.82%. What would it be now if the Fed had cut rates this week?”
and
“2. To the degree it was a mistake it was largely inconsequential. The 10-year Treasury is now 3.8%, down from 4.2% a few days ago.
So far most respondents to my question agree would still be ~3.8% if they had cut FFR on Wed.”
I suspect he’s correct, but isn’t there is a big difference between a 10 year yield of 3.8% because the fed expanded the monetary base vs a 10 year yield of 3.8% because AD was just crushed? Interest rate targeting is tough indeed!
Also, what percent of the business cycle is a result of the idea that lags are long and variable? And if they are, the fed should cut today.
2. August 2024 at 11:08
I don’t think the Sahm rule has been triggered. It uses the 3 month moving average. Lowest 3 mo MA in the last 12 months is 3.7%. Current 3 mo MA is 4.13%. The part about “last 12 months” is key.
2. August 2024 at 11:10
While we wait for the Fed to adopt NGDPLT, I wish they would at least pay attention to the 5 year breakevens. The 5 year breakevens are saying that they need to loosen.
2. August 2024 at 11:19
Cameron, Great example—maybe I’ll do a post.
Bill, Wasn’t the three month average 3.6% a year ago? Compare May-July 2023 to May-July 2024. I guess it depends what she meant by last 12 months.
Agree about the TIPS spreads.
2. August 2024 at 14:18
Interesting. I took the lowest average using the last 12 months. And now I can see your interpretation as very possible too.
2. August 2024 at 14:24
Trump and RFK jr are the only candidates that can save this economy. If you want a 50% drop in market value, capital outflows, mass immigration, civil unrest, and possibly civil war — all while using lawfare against political opponents and decentralized tech (blockchain) then vote Kamala.
We don’t need the Fed to “target” anything.
I know it’s pyschologically hard to spend all your life studying one topic, and then have all that effort and work threatened by decentralized technology, but you have been studying the equivalence of alchelmy for a half century. It’s fake. At some point, you have to come to grips with reality, hopefully before people starve to death.
We need to eliminate the Fed once and for all.
3. August 2024 at 06:11
I’d say a soft landing is different from a mini-recession.
I consider 1986 and 1995 to be soft landings: the Fed cuts after a series of hikes, GDP growth slows and unemployment wobbles for a time with a few ticks up, but then resumes a downward path (staying level would also suffice for a soft landing).
Defining a mini recession is tougher.
For now, I’d consider a mini recession as a sustained increase of unemployment of above 0.5 percent but less than 1.5 percent from the previous cycle low (in the current context, 4.0-4.8 percent unemployment vs. the 3.4 percent cycle low). By sustained, we can say that unemployment would need to stay in this elevated range for at least 6 months.
The current episode would qualify as a mini recession under that definition so long as things don’t materially deteriorate from here.
3. August 2024 at 06:20
Scott, I think all of your monetary recommendations are wise, but I think in terms of a slight adjustment, daily (or even weekly) adjustments to the policy rate based on an average of FOMC participant’s preferred values would make a lot of sense.
Market and economic data suggested slightly tighter money earlier this year and (probably significantly) easier money right now.
One problem now is that the way things are structured, there are several data points throughout the year and the psychological weight on those are huge. If the Fed cuts hard, especially if it cuts hard vs. market expectations based on prior communication, that (hopefully!) eases monetary conditions but it also tells everyone that the Fed thinks a recession is here and to act accordingly (effectively reducing the natural rate of interest).
Having a somewhat volatile daily Fed Funds number will reduce the psychological burden of changes to the policy rate.
Obviously NGDPLT is superior, but maybe we’re not ready for that one now. Hopefully our kids will love it.
3. August 2024 at 14:28
Bringing together Rodrigo’s point and Cameron’s on Jason Furman, the market now presumably expects the Fed to cut 50 bp at the next meeting. (Maybe the fall in bond yields even anticipates that to some extent, in that it would have been even larger absent that expectation?) Maybe by the next meeting, the market will expect a larger cut (or a smaller one, if the labour market reverts stronger next month). Although there is no Fed meeting for 7 weeks, if Powell now comes out publicly and says he is leaning to a 50 bp cut next meeting, and more if needed, how much of an expansionary effect can that have now? You’ve often said that 99% of monetary policy is communicating the future path of monetary policy. Maybe several other Fed Governors could join him to reinforce the message. If that would be somewhat effective, does it provide a way for him to overcome the constraints of the long gap between meetings?
3. August 2024 at 14:38
Rate of change in unemployment must also have something to do with the definition of a mini-recession. Australia had a rise in unemployment of 1.9% from 4% in August 2008 to 5.9% to June 2009, before falling to 5.1% in June 2010. In spite of not meeting the ‘2 negative quarters of GDP growth’ threshold normally used in Australia, many local economists claimed that it was a recession. On the other hand, unemployment rose 1.5% from 4.9% in June 2011 to 6.4% in October 2014. While monetary policy was probably too tight and the economy felt sluggish, no one has claimed that was a recession.
3. August 2024 at 18:50
Rajat, You’d expect unemployment to be a bit more volatile in a smaller economy. For the same reason, an individual state will often have a more volatile unemployment rate than the US as a whole.
I would expect Powell to do some forward guidance. It’s effectiveness will depend on how he moves the expected future interest rate relative to the market forecast of the future natural rate of interest. That’s not easy to ascertain.
4. August 2024 at 05:16
Scott, btw, if Trump loses, do you think he’ll stay as prominent as during Biden’s term? (Ie you forecasted at the end of 2019 that the Trump loss just meant another 8 years of Trump instead of only 4 years? Do those 8 years turn into 12, or is he finally getting too old or so?)
Sara, you care enough about Scott to comment frequently, but it looks like you don’t care enough to actually check what he’s writing? Scott is not big fan of the Fed and is very aware of the potential for decentralised money. Canada and Scotland (to name but two examples) had very successful decentralised money during their free banking eras, and in general the classic gold standard provides plenty of examples. Scott has forgotten more about that period of history than you or me will likely ever learn.
(And crypto at the moment is by and large only useful for gambling in its current incarnation. And I say that as someone whose salary is paid by crypto riches.)
4. August 2024 at 15:51
Sumner’s brand of cultural enrichment, also known as the multicultural powder keg, has finally blown up in the UK as millions defend their lives from machete wielding muslims.
But he doesn’t care, because he’s more concerned with packing the courts, ending the electoral college, restricting your use of bitcoin, banning guns, coping with his TDS syndome, and being politically correct.
Does anyone else see the serious disconnect between these kinds of busybody, narcissistic agenda setters, and the hard working blue collar folks whose communities are unsafe due to mass immigration?
4. August 2024 at 16:23
Matthias, He’ll be too busy trying to stay out of jail.
Edward, LOL, crime is steady or falling in the UK:
https://twitter.com/StefanFSchubert/status/1820052444526596199
https://www.statista.com/statistics/283093/homicides-in-england-and-wales/
4. August 2024 at 19:54
** greeting **