SIDNEY — The annual Economic Outlook Luncheon focused this year on the mixed signals in the economy that have many asking, “Is the U.S. economy in a recession?” The luncheon was presented by Mutual Federal and the Sidney-Shelby County Chamber of Commerce and held at the Sidney-Shelby County YMCA, 300 E. Parkwood St., on Tuesday afternoon.
The Economic Outlook Luncheon’s keynote speaker was Richard Kaglic, vice president and senior regional officer of the Federal Reserve Bank of Cleveland’s Cincinnati branch. Kaglic’s presentation began with the main question of the luncheon, is the economy in recession? Usually a recession is defined by two consecutive quarters of decline in real gross domestic product (GDP). However, economists define it slightly differently; a recession is a significant decline in economic activity across the economy that lasts more than two or three months. Kaglic then went on to explain the different aspects economists look at to determine if the economy is in a recession; economic output, labor markets, inflation and Federal Open Market Committee (FOMC) projections.
According to Kaglic, output and employment are going in opposite directions. GDP growth rate has declined during the first half of 2022 by a 1.6% rate in the first quarter and by a rate of 0.6% in the second quarter. Kaglic argued that while this is a decline, it is not a significant one. Despite the decline in the growth rate, GDP output level has actually grown by a 3.5% rate since the COVID-19 pandemic started.
“One of the challenges when we’re talking about output growth is that output is a measure of the total production of goods and services by all of the economic actors within the geographic bounds of the United States. But the measure’s actually derived from expenditures data, what money people are spending in the economy,” said Kaglic.
According to Kaglic, measurements of production and expenditures are typically very close and move in the same directions and the gaps developing between spending and output in the U.S. is what is sending economists mixed signals about recession. These gaps occur when spending in the U.S. goes more towards products and services not made in the U.S. or even products made in a different time period.
Kaglic then explained what is weighing down GDP post-pandemic. Net exports fell by a rate of 3.1% in the first quarter of 2022 while imports surged at the same time which means that most of the U.S. expenditures during the first quarter of 2022 where spent on products that were not produced in the U.S. Kaglic also mentioned inventories of retailers in the U.S. are contributing to the low output of GDPs during the second quarter of 2022. Firms were more likely to be selling things that they had produced in the past which in turn caused a decline in GDPs at rate of 1.9%. Not only were retailers more likely to be selling items produced in the past, due to supply chain issues many switched to purchasing their inventories on a “just in case” basis causing an inventory overhang. The “just in case” model of inventory meant retailers were stockpiling their products to have just in case of supply chain issues so that they would not be forced to forego sales due to not having a product. Until the amount of overhang in inventories across the U.S. is brought down they will continue to pull the economy down.
“Another way to think about this is if, in both of those quarters, net exports were simply flat, that means exports were the same as imports, and inventories were flat, no increase and no decrease, in both quarters GDP growth would have been a positive 1.5%,” said Kaglic.
Next, Kaglic explained the effects the pandemic had on personal consumption expenditures (PCE). So far, PCE has been holding up. However, there has been a shift from services consumption to goods consumption. Goods consumption has risen about 20% past its pre-pandemic numbers while services spending has returned more slowly and is still not up to where it was before the pandemic. Recently, services spending has been increasing slowly while goods expenditures is flattening out. However, Kaglic stated there is still an imbalance in where the two expenditures should be and that imbalance is probably due to the increase on the prices of goods. One PCE that has seen a major jump due to inflation has been the housing market. Kaglic used his own experience as an example; he bought his home nearly a year ago and the interest rate on his 15-year mortgage is 2%. Currently the interest rate the same type of mortgage is 7%. This inflation in interest rates has caused the housing market to begin a decline.
According to Kaglic and the information available, GDPs are projected to increase at a rate of around 2-2.5% in the third quarter. However, what has been confusing to economists and policy makers is what has been happening with employment in the U.S. In September the U.S. created a net amount of 263,000 new jobs and has returned about 23 million jobs that were lost in 2020 due to the pandemic in just two years. Despite these new jobs, finding laborers to fill the workforce is still a struggle.
The labor force participation is lower than its pre-pandemic levels despite the workforce being larger than before the pandemic. The reason participation is so low is because individuals are not entering the workforce nearly as fast as they are leaving. The biggest age group responsible for the shortage of labor force participation are those aged 55 and older. The majority of citizens between 16 and 54 have returned to work to replenish the workforce following the pandemic. Kaglic stated that labor shortages are not a result of a shortage of workers but an overwhelming demand; the U.S. is creating more jobs than they can fill, right now there are approximately 10 million jobs available in the country.
“The workforce, in large part because of demographics, just can’t keep up with it. So as a policy maker, from a federal reserve standpoint … we can stimulate demand or we can quell the demand. So, our challenge right now is we’ve got to do what we can to stifle demand and growth such that the labor market can become a better balance,” said Kaglic.
With all the information he provided, Kaglic felt he could sufficiently answer the question of, is the U.S. economy in a recession? Looking at the declines in indicators such as employment, industrial production, manufacturing and trade sales, payroll employment, consumption and personal income during most of the recessions following WWII compared to the movement of these indicators since December of 2021, Kaglic does not feel like this would classify the U.S. economy as in recession. The only two indicators that have declined since December of 2021 are manufacturing/trade sales and personal income at rates of 0.8% and 0.2%, respectively.
Personal consumption expenditures (PCE) appears to possibly be decreasing, but at the same time the inflation of prices is spreading further across the various goods and services across the economy. With inflation spreading across the economy, according to a study done by the University of Michigan, individuals believe that it will continue to rise through 2023. However, the same study shows that people believe in the Federal Reserve’s ability to keep the economy on track and lower inflation in the next five years. According to projections by FOMC members, interest rates are expected to remain above 4% through 2023 and possibly even longer.
“One of the key messages that we’re trying to make while we are raising interest rates currently because we fully recognize that raising interest rates at a time when inflation is high, we recognize that it’s painful but it would be more painful in the long run if those inflation expectations became unhinged and started moving higher,” Kaglic said.
If the economy is expected to grow below its potential rate of growth, employment growth will slow until it is surpassed by labor force growth which would cause unemployment rates to grow to about 4-4.5%. With slower GDP output growth and rising unemployment, inflation should fall back under control, to under 3% in 2023.
