Bank of America economists are now longer forecasting mild recession this year in the US, saying household spending and the labor market have both held up better than expected as the Federal Reserve raised interest rates.
“Our previous expectation for the US economy included a mild recession that began later this year. We based that view, in part, on incoming data which suggested household spending was weakening in the face of an inflation-induced shock to real income,” analysts led by Michael Gapen, the bank’s head of US economics, said in a report Friday. “Since that time, incoming data has suggested US households and labor markets have retained more momentum than we expected.”
The bank now expects the economy will expand one percent in the third quarter, up from the previous estimate of a 0.5 contraction, and grow 0.5 percent in the fourth quarter. It previously had forecast a two percent contraction in the fourth quarter.
The prolonged economic momentum is a “double-edged sword,” the bank said. The risk of recession is reduced but it brings more Fed tightening.
The analysts are still forecasting three quarters of contraction but they now see the negative growth starting in the first quarter of next year. GDP is expected to fall 0.5 percent first three months of the year and then by one percent in each of the two quarters that follow. The previous estimate was for a 0.5 percent contraction in the first quarter followed by growth of one percent in the second and 1.5 percent in the third.
For the full year, the bank expects the economy will grow 1.6 percent, up from 1.2 percent in the previous estimate. Next year, the economy is now expected to shrink by 0.2 percent, matching the previous estimate. The estimate for growth in 2024 was dropped to 1.2 from 1.9 percent.
Following Powell’s speech at Jackson Hole and his comments this week, Bank of America now projects a 75 basis point hike in September. Previously, it had forecast a 50 basis point hike. The bank says the hikes are likely to stop when the federal funds target reaches a range of four percent to 4.25 percent by early 20203. The bank still expects the Fed will begin cutting rates by the end of 2023, an idea several Fed speakers have strenuously said was unlikely.
“We strongly believe that history suggests that the Fed is willing to surprise financial markets when it comes to policy rate cuts but not when it comes to rate hikes,” the bank’s analysts wrote in a separate note published Thursday.
The bank said it sees a slightly harder landing than it did in previous estimates. It now forecasts the unemployment rate to rise to five percent by the end of 2023, up from its previous estimate of 4.6 percent. In the nearer term, however, it expects the rate of unemployment to fall back down to 3.6 percent by the end of this year.
“Recent employment reports do not suggest labor demand and employment growth have slowed much in response to the tightening in financial conditions that began earlier this year,” the note explained. “With the Fed gradually pushing its policy rate higher into restrictive territory, we do look for demand for labor to moderate, but only slowly.”
The bank notes that deteriorating global economic conditions could benefit the U.S. economy by lowering energy demand.
“When concerns about downside risks to global growth rise, they often lead to falling energy prices that are then transmitted into US gasoline prices fairly quickly. The intensification of downside risks to growth in China, Europe, and the UK led to an earlier decline in headline price pressures than we anticipated, opening the door to a healthier backdrop for US consumers,” the analysts said.