Signs that the U.S Might be Falling into a Recession

Talk of the U.S falling into a recession has been growing, we look at the primary reasons stoking these fears.

Despite stocks near to revisiting all-time highs and an unemployment rate that is back down below 5.0%, certain analysts persist in arguing the US economy is teetering on the edge of a doom-laden recession.

After all it has been quite a long time now since the last ‘great’ recession in 2008, much longer than the average five-year intervening period since the end of world war two, and some would say we are overdue.

Let’s look at some of the main points of those are making the recession argument:

1. Wholesale Withdrawal from Emerging Markets

For the better part of the twenty first century the net flow of capital has been into emerging markets (EM), accounting for trillions of dollars, mainly in the form of investment, however, recent concerns about the global economy and the sustainability of EM growth have led to a sudden unprecedented withdrawal. Without outside investment to cushion them, companies in the EM will be more vulnerable:

“In other words, now that capital is going out rather than coming in, we’re seeing just how much of the growth in Asia, Africa, Eastern Europe and Latin America since 2000 has been driven by a credit bubble and how much is real, durable economic activity.” Explains New York Time’s Neil Irwin.

The loss of investment could cause a global recession, which would have a knock-on effect on the U.S, causing a domestic recession there.

Although normally quite durable to outside shocks, the U.S economy will be hit from a weaker starting position this time round, and this could be enough to push it into recessionary territory.

2. A Stock Market Collapse 

Another argument put forward by doomsayers is that the Stock Market is due a major correction – if not a complete bear market.

The main point here is that for years’ large companies have been overinflating their share prices by spending much of their spare cash on buying back their own shares.

This has the effect of further increasing the value of the shares, both by increasing demand short-term (during the buy-back) and by leaving less in circulation, thus increasing their value because of reduced supply. This – it has been argued, is the fallacy underpinning the most recent bull-market in stocks.

Companies will have their comeuppance, however, when the true cost of the share buy-back philosophy is laid bare – which is when they are made to suffer from not investing in real growth through R&D, investment in staff and market expansion. It is then that stocks will come crashing down.

3. A Chinese Hard Landing.

China is the second largest economy in the world, so clearly a recession there would impact on the U.S.

The Chinese economy is already slowing down going from 7.0% to between 6.5% and 7.0% in recent years, in a slow spiralling decline.

Chinese stock markets have recently borne the brunt of this slow-down, having fallen sharply during 2016. T

Those who argue a recession is coming in the U.S say things will get worse in China when the debt bubble bursts. They argue debt is now as high as 300% of GDP.The streets of empty apartments built during the housing boom are a chilling reminder of the European slow-down when the credit bubble in the west burst. If the same happens to the Chinese, it could domino-push the U.S into recession.

4. A Strong Dollar.

The strong dollar can be seen as an underlying risk in most of the scenarios discussed here. In the event of an emerging market crisis, for example, a too strong dollar increases the debt burden for EM companies trying to repay investments made in dollars, or debts which have often been denominated in dollars.With each tick the renminbi, or the Brazilian real weakens against the dollar, companies in China and Brazil with dollar debts see the amiunt the repay rise by an equivalent amount.

On the domestic front a strong dollar makes U.S exports more expensive so the companies which rely on export business suffer a fall in profits. Although this is less a problem for the U.S which has a huge domestic market, it could still be a factor contributing to a recession.

5. Below Trend Growth

For those saying we should fear a recession, recent data, showing below-trend growth is a sign of worse things to come. The U.S economy grew 2.4% in 2014 and 2015, but now economists are down-grading their forecasts for 2016 from 2.6% previously to 2.2%. Given the trend is not very steep anyway, a break below 2.4% has raised eyebrows amongst many investors, who are concerned that this could be the start of a new trend lower.

Morgan Stanley: “Consensus 2016 growth estimates have been cut to 2.2% from 2.6% three months ago – this rate is slower than the 2.4% growth achieved in the past two years, raising concerns that we may be heading towards a recession.”

6. Fear of Central Bank Impotence

Dysfunctional central banks are another recessionary concern. It’s now becoming clear that central bank policies - especially in the ‘laboratory case’ of Japan, which has had QE for nearly two decades, has failed to control exchange rates or inflation.

The euro-zone is in a similar situation after the euro surprisingly rose following the December ECB rate meeting when the central bank reduced deposit rates deeper into negative territory.

The deeper fear, however, is that in the event of another crisis central banks will lack the ammunition to adequately respond and buffer the economy, leading to a global financial crisis.