WASHINGTON (AP) — The U.S. economy is caught in a delicate and painful place. Confusing, too.
Growth seems to be collapsing, home sales plummet and economists warn against a potential recession ahead. But consumers are still spendingcompanies continue to post profits and the economy continues adding hundreds of thousands of jobs every month.
In the middle of it all, prices hit four-decade highsand the Federal Reserve is desperately trying to put out the inflationary flames with higher interest rates. This makes borrowing more expensive for households and businesses.
The Fed hopes to achieve the central bank’s triple axis: slow the economy just enough to curb inflation without causing a recession. Many economists doubt that the Fed can pull off this feat, a so-called soft landing.
Soaring inflation is most often a side effect of a booming economy, not the current one slow growth rate. Today’s economic moment evokes dark memories of the 1970s, when scorching inflation coexisted, in a kind of toxic brew, with slow growth. He hatched an ugly new term: stagflation.
The United States is not there yet. Although growth appears to be flagging, the the labor market still seems quite solid. And consumers, whose spending accounts for almost 70% of economic output, continue to spend, albeit at a slower pace.
So the Fed and economic forecasters are stuck in uncharted territory. They have no experience in analyzing the economic damage of a global pandemic. The results so far have been humbling. They did not anticipate the economy’s meteoric recovery from the 2020 recession – nor the runaway inflation it triggered.
Even after inflation accelerated in the spring of last year, Fed Chairman Jerome Powell and many other forecasters downplayed the price spike as simply a “transient” consequence supply bottlenecks that would soon fade.
This was not the case.
Now the central bank is playing catch-up. It has raised its benchmark short-term interest rate three times since March. Last month, the Fed increased its rate by three-quarters of a percentage pointits biggest rise since 1994. The Fed’s policy-making committee is expected to announce another three-quarter-point hike on Wednesday.
Economists now fear that the Fed, having underestimated inflation, will overreact and push rates ever higher, jeopardizing the economy. They warn the Fed against tightening credit too aggressively.
“We don’t think a sledgehammer is necessary,” said Ian Shepherdson, chief economist at Pantheon Macroeconomics, this week.
Here’s a look at economic vital signs that send frustrating signals to policymakers, businesses and forecasters:
THE GLOBAL ECONOMY
As measured by the country’s gross domestic product – the broadest measure of output – the economy has looked positively sickly so far this year. And ever-higher borrowing rates, engineered by the Fed, threaten to make matters worse.
“Recession is likely,” said Vincent Reinhart, a former Fed economist who is now chief economist at Dreyfus and Mellon.
After growing 5.7% last year, its highest level in 37 years, the economy has contracted to an annual rate of 1.6% from January to March. For the April-June quarter, forecasters polled by data firm FactSet estimate growth was equal to a weak annual rate of 0.95% from April to June. (The government will release its first estimate of April-June growth on Thursday.)
Some economists predict another economic contraction for the second quarter. If that happened, it would further heighten recession fears. An informal definition of a recession is two consecutive quarters of declining GDP. Yet this definition is not the one that counts.
The most widely accepted authority is the National Bureau of Economic Research, whose Business Cycle Dating Committee evaluates a wide range of factors before declaring the death of an economic expansion and the birth of a recession. He defines a recession as “a significant drop in economic activity that spreads throughout the economy and lasts for more than a few months.”
Either way, the economic slump in the January-March quarter looked worse than it actually was. It was caused by factors that do not reflect the underlying health of the economy: a growing trade deficit, reflecting consumers’ robust appetite for imports, reduced by 3.2 percentage points the growth of the first trimester. A decline in business inventories after the holiday season subtracted another 0.4 percentage points.
Consumer spending, measured at a modest annual rate of 1.8% from January to March, continues to grow. However, the Americans are losing confidence: their assessment of economic conditions in six months hit its lowest point since 2013 in June, according to the Conference Board, a research group.
It’s no secret that it’s agitating consumers: They’re reeling from painful prices at gas stations, grocery stores and car dealerships.
The Ministry of Labor consumer price index skyrocketed 9.1% in June from a year earlier, a pace not seen since 1981. Gasoline prices jumped 61% in the past year, air fares 34% , eggs 33%.
And despite widespread wage increases, prices are rising faster than wages. In June, the average hourly wage fell 3.6% from a year earlier when adjusting for inflation, the 15th consecutive monthly decline from a year earlier.
And on Monday, Walmart, the nation’s largest retailer, lowered its profit outlookclaiming that rising gas and food prices are forcing shoppers to spend less on many discretionary items, like new clothes.
The price spikes were triggered by a combination of strong consumer demand and global shortages of plant parts, food, energy and labor. And so the Fed is now raising rates aggressively.
“There is a risk of overdoing it,” warned Ellen Gaske, economist at PGIM Fixed Income. “Because inflation is so bad right now, they are focusing on the here and now of every monthly CPI report. The last one showed no letup.”
Despite inflation, rate hikes and declining consumer confidence, one thing has remained strong: the labor market, the most crucial pillar of the economy. Employers created a record 6.7 million jobs last year. And so far this year, they’re adding an average of 457,000 more each month.
The jobless rate, at 3.6% for four straight months, is near a half-century low. Employers have posted at least 11 million job openings for six straight months. The government says there is two job offers, on average, for every unemployed Americanthe highest ratio ever recorded.
Job security and the ability to advance to better positions provide Americans with the confidence and financial means to spend and keep the jobs machine running.
Still, it’s unclear how long a hiring boom will last. Maintaining spending in the face of high inflation, Americans have tapped into the heavy savings they accumulated during the pandemic. It won’t last forever. And Fed rate hikes mean it’s getting more and more expensive to buy a house, car or major appliance on credit.
The weekly number of Americans filing for unemployment benefits, a bellwether for layoffs and an indicator of where the labor market might be headed, hit 251,000 in the most recent reading. That’s still pretty low by historic standards, but it’s the most since November.
COVID-19 has kept millions of Americans locked in their homes. But that hasn’t stopped them from spending. Unable to go out to restaurants, bars and cinemas, people have instead loaded up on factory-made goods – appliances, furniture, exercise equipment.
Factories have seen 25 straight months of expansion, according to the Institute for Supply Management’s manufacturing index. Customer demand has been strong, although supply chain bottlenecks have made it difficult for factories to fill orders.
Now the factory boom is showing signs of strain. The ISM index fell last month to its lowest level in two years. New orders fell. Factory hiring fell for a second straight month.
A key factor is that the Fed’s rate hikes increase borrowing costs and the value of the US dollar against other currencies, a move that makes US goods more expensive overseas.
“We doubt the outlook for the manufacturing sector will improve anytime soon,” Andrew Hunter, senior U.S. economist at Capital Economics, wrote this month. “Weakening global growth and a slowing stronger dollar look set to keep U.S. manufacturers under pressure over the coming months.”
No sector of the US economy is more sensitive to interest rate increases than housing. And Fed hikes and prospect of continued credit crunch are taking their toll.
Mortgage rates rose in line with the Fed’s benchmark rate. The average rate for a 30-year fixed rate mortgage hit 5.54% last weeknearly double its level a year earlier.
The government announced on Tuesday that sales of new single-family homes fell 8% last month from May and 17% from June 2021. And sales of previously occupied homes fell in June for a fifth consecutive month. They are down more than 14% compared to June 2021.
In response to the rapidly slowing residential market, builders are cutting spending. Construction of single-family homes fell last month to its lowest level since March 2020, at the height of pandemic shutdowns.
AP Economics Writer Christopher Rugaber contributed to this report.