Recession fear has risen swiftly this year. Inflation is rising at its fastest pace in decades, the Federal Reserve has begun what is expected to be an aggressive rate-hike cycle, global supply-chain problems persist, and the Russia-Ukraine war has upended commodity markets. All this has driven a rise in market volatility and fear of a coming economic downturn.
We think the risk of a recession—sooner rather than later—has picked up. Intense market volatility, sour consumer confidence, and downward pressure on income growth all point to an economy that is slowing down. U.S. gross domestic product growth (GDP) contracted at a 1.5% annualized rate in the first quarter of 2022 (note that early GDP data is always subject to revision in later quarters). That was the first decline since the second quarter of 2020. While the trade and inventory components were largely responsible for the negative figure, the trend in consumer spending (which makes up about 70% of the U.S. economy) slowed throughout the quarter.
What a recession is (and isn't)
This is a good time to remind investors that a U.S. recession is not—and has never been—defined as two consecutive quarters of negative GDP growth. In fact, the 2001 recession only saw one quarterly GDP contraction; also, despite GDP contracting for two consecutive quarters in the mid-to-late-1940s, there was no recession. So the contraction in first-quarter 2022 GDP doesn't necessarily mean a recession is beginning.
The official arbiter of U.S. recessions is the National Bureau of Economic Research (NBER), which defines recession as "a significant decline in economic activity that is spread across the economy and that lasts more than a few months." The four primary components that the NBER looks at to determine whether the United States is in a recession are—not coincidentally—the four indicators that make up The Conference Board’s Coincident Economic Index (CEI):
- real personal income less transfer payments;
- nonfarm payroll employment;
- wholesale and retail sales;
- and industrial production.
As you can see in the chart below, the CEI tends to track the business cycle in real time, peaking at the start of recessions and finding a trough at the end of them.