The prospects of a US recession have been hotly debated with the labor market and consumer spending showing resilience even after some of the steepest interest rate increases in history. But Deutsche Bank sees 100% probability in the US.
The short-term federal funds rate stands at the highest level since 2006, but inflation remains twice the Fed’s target. Federal Reserve Chairman Jerome Powell warned after a meeting of the Federal Reserve’s Policy Committee on Wednesday that further interest rate hikes will likely be necessary to further quell inflation.
“Looking forward, almost everyone on the committee sees it as likely that some additional rate increases this year would be appropriate to bring inflation down to 2% over time,” Powell said. The Fed’s median forecast for the federal funds rate this year is 5.6%, up from 5.1% in March and above the current federal funds target of 5% to 5.25%.
While an increase in interest rates may bring inflation down to 2%, at what cost? Recession, says David Volkertz Landau, chief economist at Deutsche Bank.
He writes: “The United States is heading toward its first truly policy-led boom-and-bust cycle in at least four decades.” “The inflation we are seeing was largely the result of expansionary fiscal and monetary policy, and the extreme interest rate hikes needed to tame that have now been achieved. Avoiding a hard landing would be historically unprecedented.”
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What is the expectation of Deutsche Bank?
- interest rates: At least one 25 basis point increase in the federal funds rate in July. “While some progress has been made on better balancing the labor market and lowering inflation, both are still far from the Fed’s goals,” she said.
- consumer expenses: slowing, with excess savings mostly spent by October.
- Unemployment rate: It comes to just over 4% by the end of the year and 4.5% in the first three months of 2024. The unemployment rate in May was 3.7%.
- Economic growth: A “moderate recession” that begins in the last three months of the year and continues through the first three months of 2024. Next year, the economy will contract by 0.4%, compared to 1.4% growth this year.
- economic inflation: The CPI is around 2.75% and the core CPI, excluding the volatile food and energy sectors, is near 3.5% at the end of the year. The consumer price index for May was 4%.
There are other risks, too
Geopolitics can influence an investment bank’s outlook, too. The Russia-Ukraine conflict could intensify as well as the strategic competition between the United States and China.
“Another risk is a strong El Niño that leads to new inflationary pressures from higher food prices,” Volkertz Landau’s team said.
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Are there bright spots?
Yes, artificial intelligence.
“Given the weak cyclical outlook, low productivity, and declining demographics, we are in dire need of a new source of growth,” said Volkert Landau, and AI could be the same. Still, he said, it will take time for AI to reap the benefits — likely, not until later in the decade.
In the near term, the expected decrease in inflation and recession will prompt the Federal Reserve to start cutting interest rates in March 2024, he says. Just as the Fed aggressively raised interest rates, Deutsche Bank expects cuts to come just as quickly “by 50 basis points to 75 basis point increments to 2.625%.”
Medora Lee is USA TODAY’s money, markets and personal finance correspondent. You can contact her at mjlee@usatoday.com and sign up for the free Daily Money newsletter for personal financial advice and business news every Monday through Friday morning.
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