Over the last year and a half, economists, professional speculators, and forecasters have all predicted a recession. Their prediction was so alarming that the Federal Reserve decided to apply a preemptive monetary policy to prevent the recession from happening. The forthcoming recession was announced to be different in many aspects than the previous one. The recession of 2008 was a liquidity issue. There was not enough money circulating in the economy. This time, there is too much money in circulation because the Federal Reserve increased the money supply through the distribution of stimulus checks when the pandemic took place. The money supply exceeded real output and as a result, inflation soared.
Sources: Board of Governors of the Federal Reserve & U.S. Bureau of Economic Analysis
The rise of inflation was becoming a serious conundrum for the economy. And to avoid the economy experiencing hyperinflation, which would devalue the currency and weaken the dollar, the Federal Reserve started increasing interest rates every quarter on a 0.25-base point increment. This raise in interest rates affected financial markets and consumer markets. It became much harder for entrepreneurs, corporations, and individuals to borrow and spend. Inflation began to slow down toward the end of 2022 while interest rates remained high.
The Federal Reserve has prioritized currency preservation at the expense of economic growth. The rise of inflation could have been avoided in the first place if the Federal Reserve did not increase the money supply during the pandemic. Indeed, during the pandemic, real output declined. That means the total production of wealth was decreasing. When the total production of wealth decreases, demand for that production of wealth should also decrease in order to maintain the economy in equilibrium. The Federal Reserve did not do that at all. They instead increased the money supply to encourage spending in order to stimulate economic growth while the supply of goods and services was inadequate. As a result, demand outpaced supply, and producers were forced to raise the price of their goods and services, which then led to an increase in the general level of prices.
Inflation remains high but not as high as in 2022, financial markets started to rally again, and unemployment overall remains low except in the tech industry, which is experiencing massive layoffs, especially among the Fortune 500 companies. According to a Goldman Sachs article, the threat of a recession remains alive this year despite the economy heading in a more positive direction. According to Goldman Sachs Research, the consensus estimate on the probability of a meaningful downturn in the American economy in the next 12 months is at 65%. Though, a recession may not seem as imminent this year as it was predicted in the past. In fact, this recession could be avoided. This recession is avoidable because according to the below-potential growth could rebalance supply and demand in the labor market and dampen wage and price pressures with a much more limited increase in the unemployment rate. Moreover, the Feds tightening financial conditions last year have already begun to affect inflation in a positive direction. We do not believe that the Feds will increase interest rates after March 2023. By then, the financial conditions would be stable enough for the Feds to start reducing these rates. It remains, of course, possible that a recession may occur, but it is now unlikely compared with last year when it was truly imminent.
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