With the Federal Reserve rapidly raising interest rates, most economists believe a slowdown is inevitable and many think a recession is unavoidable. While pessimism is on the march higher, macroeconomist Claudia Sahm is leaning in the other direction and now expects a soft landing in 2023.
“Every day, I am becoming more optimistic — cautiously optimistic — about the U.S. economy next year,” Sahm, the former Fed economist who gave her name to the Sahm Rule recession indicator, told MarketWatch in an interview last week. “My base case now, and actually my base case for the last probably four to six weeks, has been: not a recession.”
Sahm thinks even though inflation remains volatile and too high, it’s showing signs of moderation, fueled in part by a slowing of producer-price inflation and falling import prices.
November’s job gains beat expectations and the unemployment rate stayed at 3.7%. Job openings and quit rates, while down some, “are still historically high.”
Federal Reserve chair Jerome Powell signaled recently that the central bank would slow the pace of its interest rate hikes at its mid-December policy meeting, and said he also saw a path to a soft landing.
“Markets were very excited when he said that,” Sahm said. “But look at the data — of course he’s saying that. It’s there.”
The widespread consensus is that the Fed will lift the upper end of its benchmark rate range to 4.5% after its policy meeting next week.
The Fed should stop short of raising its benchmark rate to 5%, Sahm said.
Asked about St. Louis Fed President Jim Bullard’s late-November comments to MarketWatch that the central bank may need to get its benchmark rate in the zone of 5% to 7% to tame inflation, Sahm said she thought the Fed’s communication policy had gone “completely off the rails.”
She noted that markets had to react to contradictory public remarks from four different Fed officials when the blackout period lifted after the November policy meeting. While Sahm said she didn’t want to tell anyone not to speak, and stressed that she values “an extremely robust debate around the FOMC [Federal Open Market Committee] table,” the public chatter has been “disruptive to markets at a time where markets needed no more disruption.”
“I think in particular, the off-the-script television interviews have been very disruptive,” she said. “Calm, prepared text that has been vetted: totally fine. Running your mouth on Bloomberg: While I find it entertaining … it’s really disruptive to markets.”
Sahm, who spoke to MarketWatch before Georgia Democrat Raphael Warnock won a full six-year U.S. Senate term in his runoff contest against Republican Herschel Walker, said she wasn’t worried that a split Congress would fail to react quickly and forcefully in the event of a downturn. Republicans retook the House with a slim majority in the midterms, while Democrats held on to Senate control.
“We’re all Keynesians in a foxhole,” Sahm said. “If there is a recession … if the unemployment rate starts shooting up to 5% and above 5; if there is a major contraction in consumer spending, they will send out the checks. They will enhance unemployment insurance.”
“‘Get them some income, but don’t do it all at once. The last thing we need right now is a big punch of demand.’”
— Claudia Sahm on providing recession relief while minimizing inflation impacts
Sahm offered a blueprint for getting income support to families if there is a recession while inflation remains high. Issuing smaller, repeated payments — compared, for example, to the $1,400 checks in the 2021 American Rescue Plan — would be less inflationary because it would emphasize relief while de-emphasizing stimulus, Sahm says.
“Instead of sending out $1,400 in one check, you spread it out over two years. You do little checks. And maybe it doesn’t have to be $1,400, and maybe you target it to [the] bottom 60%, not bottom 80%,” she said by way of example. “Get them some income, but don’t do it all at once. The last thing we need right now is a big punch of demand.”
Lessons from direct payments during the past three recessions should inform the design and administration of future such payments, Sahm said. For example, what she saw at the time as a failure in the 2009 Great Recession-era Making Work Pay tax credit “showed us how not to stimulate” and could actually work in today’s inflationary environment, she said. It was paid out in small increments over two years that prompted less household spending in her estimation.
“Macroeconomists have really let our understanding of fiscal policy atrophy, because we have this attitude … ‘Fiscal policy is messy, politicians are incompetent and we love the Fed — it’s run by macroeconomists, and the Fed can save the world,’” Sahm said. “The Fed can’t save the world. And fiscal policy is much more powerful.”
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