US recession odds are becoming unsettlingly high

THE notion of a US recession seemed remote just a few months ago, a mere blip on the radar of economic possibilities. More recently, however, that picture has started to change. A downturn, while still a risk scenario, is no longer unthinkable. A confluence of factors, from policy uncertainties to fragile financial markets, is casting a shadow over the world’s largest economy.

Several key financial indicators are already flashing yellow. The yield on 10-year Treasury bonds has fallen about 70 basis points in recent weeks, while oil prices have slipped below US$70 a barrel. These moves coincide with a string of disappointing economic data releases, reflecting growing apprehension about the immediate consequences of President Donald Trump’s trade policies and public sector reforms. Indeed, judging from recent surveys, policy uncertainties have already dampened business and household confidence, clouding the economic outlook. This spreading weakness is manifesting itself in three distinct stages.

First, lower-income households have been struggling, burdened by dwindling savings, maxed-out credit cards and mounting debt. Second, the corporate sector is now adopting more of a wait-and-see approach, faced with a barrage of policy pronouncements and an increasingly unpredictable environment. Third, the threat of a tit-for-tat tariff war has become much more of a reality this week, with the potential to disrupt global supply chains and stifle economic growth.

Adding to the unease, inflation, which had shown signs of abating, is proving more stubborn than anticipated. This whiff of stagflation – that troublesome combination of stagnant growth and rapidly rising prices – raises the spectre of another policy misstep by the Federal Reserve. The central bank faces a delicate balancing act as it’s caught between the requirements of its dual mandate to maximise employment and deliver price stability.

Not a foregone conclusion

Yet, it is important to remember that recession is, at this stage, far from a foregone conclusion. Several factors offer a counterweight to these negative forces.

Lower energy prices boost the purchasing power of consumers and reduce input costs for businesses. The administration’s deregulation agenda could unleash a wave of corporate investment. And, while the short-term disruptions caused by Trump’s trade policies are undeniable, the potential for long-term productivity gains through innovation in areas such as artificial intelligence, robotics and life sciences should not be discounted. Similarly, if handled well, public sector reforms could open the way for more efficient government operations and even provide some debt relief.

Nevertheless, the balance of risks has shifted. It is just a matter of time until economic forecasters revise down their 2025 growth projections from the median estimate of 2.3 per cent in a February Bloomberg survey. A downward revision of as much as a full percentage point is not out of the question, raising concern about how far the US economy is from “stall speed”.

While still relatively low, my probability of a recession has increased from 10 per cent at the beginning of the year to 25 to 30 per cent today. This is a consequential and quite unsettling development for an economy with high potential and aspirations, elevated asset prices, and a pivotal role in driving global growth.

A former chief executive officer of Pimco, the writer is president of Queens’ College, Cambridge; chief economic adviser at Allianz; and chair of Gramercy Funds Management. He is author of The Only Game in Town.