How to Cool a Hot Economy: No “Good Recessions”
By Diane Swonk, Chief Economist, Diane Swonk
“Nearly 100% of people are affected by high inflation; it punches a hole in the bank accounts of nearly everyone, those with and without jobs, those living on fixed incomes, underemployed, everyone.”
Famed political analyst Charlie Cook argued that at the 38th Annual Policy Conference of the National Association for Business Economics (NABE) in Washington, D.C., March 20-22.
A recent poll by the American Psychological Association agrees with him. A stunning 87% of adults reported that escalating prices of everyday items including groceries, gasoline and energy bills were causing them stress.
The Federal Reserve has taken note. “My colleagues and I are acutely aware that high inflation imposes significant hardship, especially on those least able to meet the higher costs of essentials like food, housing, and transportation,” Chairman Jay Powell underscored in his prepared remarks.
Powell made it clear that inflation is now the primary focus of the Fed instead of employment. He defended aggressive rate hikes. When asked what would stop him from a 0.5% hike in May, he dead panned, “Nothing.”
He tried to reassure that the Federal Reserve could achieve a “soft” landing, but even then, he qualified his answer. He argued the Fed has a history of achieving “soft-ish” landings when dealing with inflation.
The Economy Stalls
Real GDP is expected to nearly flatline in the first quarter of 2022, but domestic demand should hold up better. Consumer spending slows but does not collapse in the face of Omicron. Home buying and building moves higher, while business investment posts solid gains. The largest losses are expected to occur in inventories and trade. Exports are forecast to fall with lockdowns and the war abroad. Government spending likely disappointed, as schools temporarily moved back online during the Omicron wave.
Prospects for the second quarter are better. Consumer spending is expected to slow but not collapse with the pivot from goods into services. Housing is expected to cool and business investment is expected to slow; investment in the shale industry is an exception. The trade deficit is expected to hold close to the record level hit in the first quarter. Government spending should pick up now that schools are ramping up and Congress has finally passed a fiscal 2022 budget.
The economy is forecast to hit a wall in the second half of the year in response to rate hikes by the Federal Reserve and higher prices at the gas pump. Consumer spending could actually contract, while home buying and building are expected to drop. Investment stalls; inventories remain tight. The trade deficit narrows slightly. Government spending is buoyed by state and local gains.
Fed Hits Brakes. The Fed is expected to accelerate rate hikes and begin reducing its balance sheet in May. Rate hikes are expected to persist through much of 2023.