The Markets Watch For A Future Recession, But Is It Already Here?

There’s been some debate about whether potential moves from the Fed, weak financial markets or signals from a recently inverted yield curve may hint at a coming recession, but could we already be in one?

Surprisingly, today we learned that real economic growth for the first 3 months of 2022 in the U.S. fell on government estimates. Most economists expected growth to rise around 1%. It went the other way. Often a recession is defined as two quarters of negative growth, so rather than speculate about a future recession, are we perhaps already more than halfway into one?

Q1 Data

In Q1 real GDP in the U.S. fell -1.4%. The important thing here is that this is a real number. Output in the U.S. grew strongly in Q1, but because of sharply rising prices, output after adjusting for those big price spikes actually declined.

It wasn’t all bad news. Consumers and businesses largely continued to spend despite the omicron surge that was seen early in the quarter. That’s important because recessions typically occur when consumers, businesses, or both pull back on spending.

Fortunately, we didn’t see that in the Q1 GDP report. However, net exports declined and government expenditure fell sharply dragging what was reasonably soft growth into negative territory.

Government Spending

In some ways the government easing back on expenditure is a good thing, as the pandemic fades and things return to normal. Though that reduction in pandemic spending still cuts GDP.

Net Exports

However, the net export picture is maybe more of a concern, though again that series is often volatile, especially now in the context of the Ukrainian conflict and supply chain disruption. The GDP estimate will also be revised over the coming months, and could change, though a revision to positive growth seems optimistic.

So Are We In A Recession?

Given today’s surprise, it is possible that Q2’s numbers show a similarly surprising picture, and the U.S. therefore technically hits a recession. Q1’s numbers were below forecast growth of a little over 1% and economic forecasts look broadly similar for Q2. They could be similarly wrong, especially if the economy continues to see post-pandemic disruption and continued high inflation.

However, if a recession does occur it may be more the result of trade volatility and the government reducing expenditure as the pandemic ends, rather than a more typical, and more painful, recessionary environment.

That’s one reason why the markets appear generally anxious, but not in full panic. If the U.S. were to meet the technical definition of a recession but consumer and business expenditure remained in positive territory over the coming quarters, then the markets could live with that.

Such a recession would be potentially mild by historical standards. Still, today’s economic release makes the Fed’s task yet more complex when they meet to determine rates next week. Fixed income markets still expect a 50bps hike this month and perhaps a similar move in May, but what happens after that in the current muddled economic environment is less clear.