Economists and financial analysts are particularly adept at analyzing data from the past and drawing conclusions. Their analyses allow us to learn from the past and adjust for the future. However, when it comes to predicting the future the results are far less consistent. To be prepared it is essential to understand many of the market changes that can cause recessions. Based on current market performance, business and Federal Reserve news and the looming presidential race here in the US, it seems likely we are headed in the direction of an economic downturn. The good news is that is will be far less severe than the one in 2008.
Eight Years of Economic Growth
There are many reasons to forecast a looming recession. We have a had a long cycle of economic growth…nearly eight years! While some consider these years ones of modest expansion, it is growth nonetheless. Eight years with no major stock crashes usually indicates the bears are waiting in the wings for the opportunity to pull the tired bulls down. Average unemployment in the United States has been steadily declining. The national unemployment rate is hovering at about 5% or slightly below. The United States has not seen an unemployment rate that low for 10 years! While this may sound encouraging it can likely have some rather sour effects as well. Low unemployment rates spike an increase in wages, which has been quite apparent in the area of analytics as well as IT. This causes a hit to corporate profits and spurs a chain reaction of lower investments, lay offs, hiring freezes fueling a downturn.
The international volatility in China and Europe has certainly not helped continued expansion in the United States. It has long been thought that we are becoming more and more dependent on a global economy and at the current time it rings particularly true. China was seen as an economic leader for years but their current growing pains have caused some global stagnation. Europe is particularly lackluster as well. Many European banks have dramatically scaled back US operations or are exiting the U.S. market altogether. Barclays, Credit Suisse, Deutsche Bank and others sold much or all of their wealth management businesses at fire sale prices recently. Some may speculate it was simply due to the fact they didn’t have much of a scale here, however, it may also be attributed to the fact that the U.S. has become a relatively expensive place to do business in recent years. The increased regulatory testing and compliance requirements have kept banks scrambling in addition to dealing with an increasingly expensive talent pool of candidates to do the work. It seems more plausible to think that their lackluster profits in the last year have caused them to rethink strategy and focus on business at home rather than abroad. It doesn’t bode well for our own economy as we become more dependent on the world.
It is also worth noting that the Fed is seriously considering raising interest rates this year. They have maintained low rates for years to encourage growth and risk taking, but as the market reaches its peak, the Fed usually gradually reduces incentives for growth. This may have some investors and major banks at a bit of a standstill as the decision is felt to be imminent. Low oil prices are also playing a factor here. The U.S. is, lets face it, an oil dependent economy and the consumer benefits of lower prices at the pump may soon be taken over by the negative impact of a weakened oil industry.
Perhaps the largest factor playing into the possibility of a recession is the upcoming presidential election. If you look at every presidency over the last 20-30 years, almost all of the terms ended in a recession. Our most recent, the Great Recession of 2008, came right after the end of the Bush Jr presidency, Clinton’s terms ended with the tech or dotcom crash, Nixon resigned during the oil crisis, and Carter ended on the recession that followed the Iranian conflict. With one president exiting and a new one coming in this is a good time for investors and financiers to rethink strategy and try to adapt to the possibility of new or radical economic policy changes. As Americans brace for what promises to be one of the most historic elections of our history, it is wise to also brace for a recession as the current pool of candidates is not receiving overwhelming votes of confidence. Many banks and investment firms may be taking extra cautionary measures in order to preserve the capital they have as both presumptive candidates seem to have such radically different ideas of what the U.S. ought to be focusing on.
Some may argue that a recession in 2016 is still extremely unlikely, saying employment numbers still support a growing economy. Perhaps the most compelling argument against a recession is the yield curve which doesn’t show any inversion for the next 10 months. This may be consoling to some, but it is hard to argue against historical precedence. Is the U.S. headed for a recession? The market certainly suggests so!
Sean Murphy, author of this article and Credit Practice Lead at Executive Recruiters Smith Hanley Associates, welcomes a discussion with you on what to expect from the economy in the coming year. You can reach him at [email protected].