Anatomy of a Recession Update: What Is a Recession, Exactly?

Hear from Jeff Schulze, Head of Economic and Market Strategy at ClearBridge Investments, about the state of the US economy. Get his perspective on the Federal Reserve’s next potential moves.

Host: Jeff, we have the next FOMC [Federal Open Market} meeting coming up on September 19th and 20th, and then two more after that for the remainder of 2023. Do you think we’re at or near the end of the hiking cycle given the progress we’ve seen with inflation?

Jeff Schulze: Well, we’ve seen a lot of progress with inflation. Obviously, still some more work to do, which is why the Fed is going to have “higher for longer” policy. They’re going to keep rates elevated for the next couple of quarters at a minimum. But I do think, given the weakness that we saw with the labor market data and the signs that you’re starting to see a rebalancing—with lower job openings and the payrolls reports seeing some strong revisions downward and the rise of the unemployment rate up to 3.8%—I think that will likely give the Fed some comfort that they’re starting to make some progress on cooling the economy and returning inflation to 2% on a sustainable basis. So, if you look at September, the markets are pricing virtually a 9% chance of a rate hike. So, I don’t think it’s going to be coming here in the next week. We may get one in November. Again, it just depends on how the data comes in for inflation in the labor markets. But from my vantage point, I think you’re going to see continued weakness in the US economy, and I think we have seen the last rate hike of this cycle.

Host: So, Jeff, shouldn’t that weaker labor data mean that a soft landing is actually going to happen?

Jeff Schulze: Well, the soft-landing camp is certainly cheering that with the price action last week, but I want to say that the landing always looks soft before it ultimately is a hard landing or a recession, right? Look at the [US] unemployment rate. It was flat on a year-over-year basis during the summer of ‘07, during the spring of ‘01 and early 1990. Obviously, those all materialized into recessions. A hard landing has to go through a soft landing first.

So, looking at the job openings data: dropped from 9.6 million to 8.8 million. That is a massive move lower. And let’s not forget that the job openings data has a lag of around six weeks, so it’s probably weakened even further. Maybe more importantly, you saw the quits rates move lower, which is good for inflation. But looking at the epicenter of labor market tightness, which is leisure and hospitality, the quit rate actually dropped from 5% to 3.9%. That is a massive move. And that leisure and hospitality is punching well above its weight with 23% of jobs created over the last year. So, if the epicenter of labor market tightness and job growth over the last year is loosening to a very strong degree, that’s maybe a situation where the labor market is going to overshoot to the downside. Also, there’s other signs of concern that we saw in late August with those releases. The Conference Board’s Consumer Confidence Survey dropped way more than consensus expected. More importantly, our job sentiment indicator in our Recession Risk Dashboard—which is the number of consumers that are saying “jobs are plentiful” minus those that are saying “hard to get”—dropped by a full 6% down to 26. That is a massive move, and it’s the lowest that we’ve seen since April of 2021. But more importantly, from a labor market and an economic perspective, this is consistent with the unemployment rate rising over the next couple of months.