A Mixed Bag For Recession Risk

A new recession may be coming. Maybe it’s already here. Then again, maybe not. Calling major turns in the business cycle in real time is perhaps the most coveted of skills in all of economics. It’s also one of the most elusive gifts among self-proclaimed seers. That doesn’t stop anyone from trying, including this recent warning that dark days ahead are a virtual certainty. The risk of trouble certainly looks higher to most observers, and it’s not just in the U.S. Menzie Chinn of Econbrowser alerts us that the global economy “is close to stall speed.” Perhaps, although it’s still not obvious that the trend in the U.S. has definitively rolled over. For some perspective, let’s review some of the latest indicators.

Small business sentiment turned up slightly in September, ending a six month decline, according to the National Federation of Independent Business. A small bit of good news, mostly because it suggests that the outlook isn’t getting any worse.

Meantime, the stock market is no longer in the red on a year-over-year basis. The brief flirtation with annual losses for the S&P 500 has reversed, at least for the moment. That’s a positive sign because every recession since the 1960s has been accompanied by an extended stretch of annual losses in equities, which suggests that the current revival is encouraging (if the rally holds).

The outlook is considerably darker when we look at spreads in corporate bonds, another market-based measure with a history of issuing early warning signs that the business cycle is deteriorating. Junk bond spreads are elevated these days, although the premium has come down slightly in recent days. In any case, the trend doesn’t look helpful on this front.

The Treasury yield curve is more forgiving. The 10-year Note’s yield is higher over 3-month Treasuries by roughly 200 basis points. History suggests that the odds of another recession are lower whenever the curve slopes upward. By that reasoning, the shape of the curve offers some support for thinking that the economy will muddle through its current problems. Skeptics, however, are quick to note that the Fed is manipulating the short end of the curve in the extreme and so the yield curve’s predictive powers are diminished these days.

Meanwhile, the market’s inflation forecast has stabilized recently. That’s a good sign since the outlook for lower inflation at this point equates with higher odds of a new recession. As such, a resumption of the previous downtrend in inflation expectations would be dire.

The latest numbers for the labor market offers some support for thinking that the trend is in a holding pattern. That’s not good, but it may be enough to keep the forces of contraction out of the henhouse. Job openings in August were essentially unchanged from July, the Labor Department notes. Compared with a year ago, job openings were up by nearly 8%, more or less confirming the slow but continued expansion in payrolls.

Overall, it’s still debatable if another recession is fate. The risk is surely higher today than it was six months ago, but full clarity is still missing. Maybe the smoking gun will be found in the maternity ward. A new study from the Pew Research Center reports that “a sharp decline in fertility rates in the United States that started in 2008 is closely linked to the souring of the economy that began about the same time.”