Despite Easing Price Pressures, Economists in WSJ Survey Still See Recession This Year

Despite signs that inflation is starting to ease, economists still expect higher interest rates to push the US economy into a recession next year, according to The Wall Street Journal’s latest quarterly survey.

On average, business and academic economists polled by the Journal put the probability of a recession in the next 12 months at 61%, up slightly from 63% in the October survey. Both numbers are historically high outside of current recessions.

The Federal Reserve had originally hoped it could lower inflation only by a slowdown in economic growth rather than an outright contraction, an outcome called a “soft taper.” But three-quarters of respondents said the Fed would not achieve a soft rate cut this year.

This is despite a slightly more optimistic outlook for inflation. Measured by the year-on-year change in the consumer price index, inflation eased from 9.1% last June to 6.5% in December, and economists expect it to fall to 3.1% by the end of this year, an endpoint of lower than the 3.3% expected in the last survey, in October. They see it ending 2024 at 2.4%, little changed from the previous poll.

“While recent inflation indicators have shown some progress, some persistent categories such as basic services are tied to a historically tight labor market, suggesting there is still ‘a long way to go’ for the Fed,” Deutsche Bank economists Brett Ryan and Matthew. Luzzetti said in the survey. “The Fed will stay on its tightening trajectory to restore labor market rebalancing and price stability, which in our view would create a sharp increase in unemployment and recession,” they added.

Greg Daco, chief economist at EY-Parthenon, said: “While services activity remains strong, the housing sector is falling under the weight of high mortgage rates and manufacturing activity is lagging – both signaling a wider economic downturn has likely to come”. He expects the combination of persistent inflation, tighter financial conditions and weaker global growth to push the US economy into a mild recession in the first half of 2023.

While economists don’t think a recession is inevitable, they expect it to be relatively shallow and short-lived, consistent with other recent surveys.

On average, they expect gross domestic product to grow at an annual rate of 0.1% in the first quarter of 2023 and contract by 0.4% in the second. They see no growth for the third quarter and a 0.6% growth rate for the fourth.

Economists expect GDP to stagnate this year, growing by just 0.2% in the fourth quarter of 2023 compared to the fourth quarter of 2022. In a WSJ poll in October, economists forecast GDP growth of 0.4 % in 2023.

While most recessions have included at least two consecutive quarters of negative growth, that is not the criterion used by the panel at the National Bureau of Economic Research, a nonprofit academic group that dates business cycles. A recession is “a significant decline in economic activity that spreads throughout the economy and lasts more than a few months,” the NBER says on its website. However, even this definition is loose because the NBER ultimately declared the 2020 decline at the start of the Covid-19 pandemic a recession even though it only lasted two months.

Employers are expected to cut jobs starting in the second quarter through the end of the year, the survey found. For 2023 as a whole, economists expect payrolls to fall by an average of 7,000 per month. That’s a sharp drop from the October survey, when economists expected employers to add nearly 28,000 jobs per month over the trailing four quarters.

Economists see high inflation and the Fed’s efforts to tame it as a major risk to the economy this year.

When asked which category of inflation will be the most difficult to moderate in 2023, a quarter of economists chose housing. Another 18% said health care and another 18% chose personal services.

Economists in the survey expect the Fed will need to raise the target federal funds rate to 5% this year, in line with the central bank officials’ own forecasts. The Fed raised its rate target by half a percentage point in December, to between 4.25% and 4.5%. Fed officials are trying to balance the risk of raising rates too much with the risk of not doing enough to slow spending and investment, which could allow higher inflation to take root.

Fed officials have signaled they do not expect to cut rates this year. Economists disagree: 51% expect the Fed to start tapering this year, though that’s down from 60% in the last poll. Markets are also pricing in interest rate cuts this year.

The Fed will begin tapering in the fourth quarter of this year, according to 31% of economists. Another 37% expect this in the first quarter of 2024, and 8% expect it in the second quarter of next year.

The paper surveyed 71 economists, although not every economist answered every question. The survey was conducted from January 6-10.

A look at the markets shows that asset managers are moving money in ways that suggest they see a recession coming. WSJ’s Dion Rabouin explains what to look for and why we’re told investors are increasingly overvaluing a recession. Illustration: David Fang

Write Harriet Torry at [email protected] and Anthony DeBarros at [email protected]

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