Meet the Wall Street fearmongers who got it all wrong about a “looming recession.”

A cluster of dark clouds and lightning bolts imitating downward arrows disappear from the screen, revealing a $100 bill with a smiling Benjamin Franklin.

With the growing number of reasons to be optimistic about the US economy, Wall Street forecasters who have predicted that a recession is imminent have had to admit defeat.Arantza Pena Popo/Insider

Wall Street fearmongers were dead wrong in their assessment of a recession

Wall Street analysts and economists have always tended to fall in love with their forecasts. They don’t like to admit when they’re wrong, and even as the evidence against them mounts, many stand by their case. This stubbornness explains why Wall Street has an extraordinarily hard time letting go of the idea that a recession is imminent.

As recession forecasts continue to fail, the explanations for this delay are repeatedly explained away. Strong job growth? It is a late sign that the end is near. Rally in the US stock markets? We also had a big rally in mid-2008. Is housing construction gaining momentum? That’s only because inventory is low.

Although analysts have been predicting a recession for over a year, none of the arguments behind the forecasts stand up to scrutiny. And one can only argue that the recession is only six months away. With the growing number of reasons to be optimistic about the US economy, it is time for the recessionists to admit defeat. The economic doomsday clock has been reset.

bear growls

In the past year, Wall Street pessimists’ reasons for an imminent recession have changed. First it was the rise in food and energy prices, then it was the housing market, and now it’s the “long and variable lags” of rate hikes that many of the same people say the economy just couldn’t handle at all. Despite the shifting targets, it’s important to get a feel for the bears’ current arguments to better understand why calls for economic doom are overdone.

One of the favorite indicators for recessionists is the slowdown in bank lending. Data shows that banks are raising their credit standards, which means fewer people and businesses are getting access to credit. If that cash flow is cut off, it is argued, retail spending and business investment will fall – cutting off the main engine of economic growth. I think there are a few problems with this mindset.

First, bank lending is a lagging indicator: the growth rate of money on loan tends to peak when the country is already in recession and bottom when a recovery has already begun. As far as we know, the slowdown in bank lending is a reaction to the slowdown in growth over the past year and tells us nothing about the future. Second, lending standards for small, medium and large companies have tightened over the past four quarters. This does not appear to have hurt the economy, however, as performance has generally been better than expected over the same period.

This mismatch between lending and actual economic output could be due to the post-pandemic cycle being driven by higher incomes rather than rising loan balances. Americans got sizable pay rises and numerous pandemic stimulus packages they could count on — without having to charge it all off their credit cards. Evidence of this is that bank lending as a percentage of GDP is around 2016 levels, meaning that increased debt has not been the driver of activity for about seven years.

What about the claims that America’s job market is going downhill? Growth pessimists have recently pointed out that the rising number of jobless claims is a sign that the long-resilient labor market is deteriorating. Typically, they say, a recession occurs whenever claims rise that much from their 12-month low.

There are problems with this approach too. For one thing, the initial damage data wasn’t particularly clean – data issues were identified and sharp increases one week are corrected the next. But even if we take the data at face value, it’s worth noting that there is a disconnect between initial jobless claims – people claiming benefits – and rolling claims, which measure who actually receives them. Standing claims have not risen nearly as much as one would expect given the surge in initial claims, suggesting people are finding new jobs relatively quickly. Other jobs data also remains strong. Layoff announcements have slowed significantly, particularly in the tech industry, and the overall layoff rate remains low. Finally, despite the recent surge in initial claims, monthly job reports have remained surprisingly strong.

When it comes to weakness in the commercial real estate sector, the bears are on slightly firmer ground, but even then I’m skeptical that the problem is anywhere near as bad as it’s being portrayed. Investment in buildings — which includes spending on non-residential buildings like malls, offices, housing, and power plants — accounts for less than 3% of U.S. GDP, and only part of that is the problem. Office real estate gets most of the attention given the continued remote work and lack of occupancy in inner cities, but office construction actually accounts for only a small portion of commercial real estate these days. Energy and manufacturing account for a larger portion of the sector’s investment, and these areas are being pushed by private investment due to federal fiscal policies such as the CHIPS Act.

While the case for a sudden economic slowdown is complicated and full of loopholes, the case for a strong remainder of 2023 is fairly straightforward.

Blue sky

As the labor market remains stable, consumer price inflation is cooling off rapidly. Grocery and energy bills are falling, used car prices are likely to fall this summer and once soaring rental costs are reeling. This means tailwind for household incomes and consumer spending.

The pressure on the US real estate market is easing. The real estate sector has lost nearly a full percentage point of GDP over the past year, but there are clear signs the once-battered industry is bouncing back. New home sales hit their highest level in a year. Surveys of homebuilders show that they are bullish despite a rise in mortgage rates — which is notable as changes in builder sentiment tend to predict the direction of real estate investment in the quarters to come.

Inventories, which have held back GDP growth over the past year, are also likely to reverse. Businesses built up inventory during the worst of the supply chain crisis in 2021 and 2022 and have slowly sold off that excess over the past year. Without the need to order new goods, this inventory build contributed to the decline late last year. If consumer spending continues, as it appears, companies will need to stock up, which in turn will support US factory production and investment along the supply chain.

Another touchstone on the “continued growth” side is the improving outlook for the financial markets. Around this time last year, stocks were falling sharply, corporate bond markets were showing signs of stress and the dollar was strengthening, making it harder for American companies to export their goods. In short, markets anticipated a recession, which created a negative feedback loop for the economy. This year the market trend went in the opposite direction. Importantly, the Federal Reserve has begun to slow its aggressive rate-hike plan and has signaled that it does not expect the economy to collapse to meet its anti-inflation targets.

These positive factors don’t exactly scream “recession”. A popular saying last year was: “Housing is the business cycle” or “Housing is the indicator par excellence”. Well, housing construction is clearly picking up speed. This is no longer a controversial point. Growth pessimists tend to back up the notion that Federal Reserve rate hikes will have “long and variable lags” with quite a bit of currency, meaning it will be a while before tightening kicks in before it takes us down . But the Fed has been tightening for 18 months, and it’s the rate-sensitive areas of the economy that have shown improvement recently – if anything, the economy has already digested the rate hikes and moved on.

head i win Pay, you lose

Growth pessimists seem to lack logical consistency in their views. Their arguments are always contradictory: “Growth is holding up, which means the Fed needs to keep raising rates, which is bad for stocks.” “In fact, growth is weak and the Fed has already raised rates too much, which is bad for the economy and for stocks.” Another concern in the market is that the stock market rally is the result of just a few companies, which is a bad sign. But in 2022, the stock market saw a selloff, while breadth — a measure of companies whose stocks are rising — was better but also bad. Of late, doomsayers argued that defaulting on the debt would be bad, but once the debt ceiling was lifted and the Treasury General Account replenished, it was bad, too, because that meant new government bond issuance would drive investors away from equities.

It’s starting to give me a headache! At some point, rational people have to put their hands up and say, “You’re wrong.”

In this intransigence, however, lies an opportunity. If the consensus continues to struggle to give up the recession forecast, it means stocks still have room for gain as forecasts continue to be revised upwards and investors begin to see the potential for further improvement in the economy.

But by the time the analysts speak up, the damage will already be done. Recession calls have ingrained the thought of a slowdown in investors’ minds for over a year, and people who have sold their portfolios or acted defensively will have missed out on strong market gains this year. The economists and forecasters who banged the drum of doom may suffer reputational damage, but that’s nothing compared to the financial confusion they’ve caused for average investors.

My broader point is simple. The short-term recession risks are disappearing rapidly. There will be no recession for the next six months and it is becoming increasingly likely that we will not see a recession in the next year either.

Neil Dutta is Head of Economics at Renaissance Macro Research.

Read the original article on Business Insider

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