Edward Price is a director at Ergo Intelligence. A former UK trade official, he also teaches at the Center for Global Affairs at New York University.
It used to be that when the indicators were strong, the economy was strong and the markets were strong. And when they were weak, the economy was weak and the markets sagged. The economic world made sense.
Humanity then swallowed the apple of Quantitative Easing (QE). After that, everything reversed. Good news threatened easing, and therefore markets. Bad news secured it and supported the markets: they even learned to create bad news (see the 2013 taper tantrum). Who ran monetary policy? The markets or the Fed? ¯\_ (ツ)_/¯
At least the aggressive Fed hikes in 2022 will reaffirm the natural order, crushing speculation and causing a recession in the United States. Right? Only God knows for sure, but his flagship creation, Goldman Sachs, says no.
The US is expected to narrowly avoid recession as core PCE inflation slows from 5% now to 3% at the end of 2023 with a ½pp rise in the unemployment rate.
Here’s what it looks like in graph form, from Goldman Sachs’ 2023 outlook for the US economy.
It’s so delightfully Goldman. It’s so out of step with the herd. And they know it:
So why are Jan Hatzius and his colleagues at Goldman Sachs so much more relaxed than the rest of Wall Street? Fundamentally, this time it’s different:
How can underlying inflation fall so much with such a weak impact on employment? The reason, we believe, is that this cycle is different from previous periods of high inflation.
There are basically three reasons why Goldman thinks this cycle is so different, and a soft landing is on the cards.
First, the booming job market manifested itself in “unprecedented job offers, much less painful [than over-hiring] to relax. Okay yes. Just remove the job offer.
Second, as the bank also points out, there is still more disinflation to come as supply chains and housing markets normalize. Yes too. Look here :
Why? Labor and Supply Chains/Rentals are less inflationary than you might think (although Friday’s jobs numbers looked quite strong with unemployment steady at 3.7% and income growth sizzling schedules)
So, Goldman thinks colder labor + hotter supply = lower core PCE inflation. And so, he estimates that the Fed is raising rates an additional 125 basis points, bringing them to a high of 5-5.25% without cuts, in 2023.
Then there is also the bank’s third reason: “Long-term inflation expectations remain well anchored.” Here are other shapes and colors:
Huge if true. But is it? And, regardless, if the Fed believed it was true, would this belief unanchor any expectations anchored via any subsequent accommodating attitude?
Let’s not forget John Williams, President of the New York Fed. He thinks unemployment could reach between 4.5% and 5% next year. Also, Kansas City Fed President Esther George: “I don’t know how you keep bringing that level of inflation down without having a real slowdown.” These are the main bad cop vibes, even though Good Cop Jay Powell tells us otherwise.
So how exactly did GS land on a mere 35% chance of a US recession next year? Simple. There was good news:
. . . incoming activity data is far from recessive. The preliminary GDP report showed growth of 2.6% (annualized) in Q3. . .[and more]fundamentally, there are good reasons to expect positive growth in the coming quarters.
Great. But doesn’t that completely cancel out all the deflationary factors? Surely the Fed could panic again?
. . .[The]the recovery in real income is likely to be the strongest force. . . assuming Fed officials don’t tighten significantly more than the rates market is currently pricing.
Lo and behold, Goldman guesses the Fed won’t take it well economic bad news inflationary new. Good news is good news again. Regardless of the Fed’s credibility snafu on “transitional” inflation, that means it’s likely to be super hawkish now, and regardless of the market’s reaction to Friday’s payrolls data. . .
In an era of inflation, good news can always be bad. There will probably be a recession. But in the meantime, let’s keep asking ourselves: who runs monetary policy? The markets or the Fed? Again: ¯\_ (ツ)_/¯ Best answers in the comments below.