There's an above-average chance that the U.S. economy falls into a recession over the next two years, but it's not an inevitability, according to Goldman Sachs economists. Elevated inflation that is driving the Federal Reserve to raise interest rates poses a danger to an economy expected to show little growth to start 2022. Similar cycles in the past often have led to recession, and Goldman thinks there's about a 35% chance of that happening in the U.S. over the next two years or so. Economist Joseph Briggs pointed out that "historical patterns suggest the Fed faces a hard path to a soft landing as it aims to narrow the jobs-workers gap and bring inflation back to toward its 2% target. We still do not see a recession as inevitable, however, particularly since the [Federal Open Market Committee's] goal of cooling the economy while avoiding a recession will be helped by post-Covid normalizations in labor supply and durable goods prices." The latter part of that observation contains two critical points that could determine the future course of inflation and its broader economic impact. Through February, there were about 5 million more job openings than there were available workers — a tension that has seen wages surge which, in turn, helps perpetuate increased prices. Goldman has estimated that the gap will have to about halve, which could require bringing gross domestic product growth down to the 1%-1.5% range. The other part of the equation is how much pressure the demand for longer-lasting goods like appliances, televisions and autos has put in prices. Prices that consumers pay for these so-called durable goods fell nearly 1% in March, marking the first monthly decline since January 2021. Durables generally carry a higher price tag than nondurables such as food and clothing, and thus have had an outsized impact on headline inflation numbers. The Fed will be hoping these two dynamics work out, all while it deploys its two main tactics in taking down inflation: rate increases and balance sheet reduction . Goldman sees the Fed having four factors working in its favor: Labor market normalization that will see more workers come back to fill vacant jobs while the level of openings wanes; a reduction in supply-demand imbalances coupled with longer-term inflation expectations that remain well-anchored; the "surprisingly front-loaded" surge in mortgage rates that likely will see its drag on residential investment peaking in the second quarter of this year; and the strength of the household balance sheet. The final factor, Briggs noted, "argues for a milder recession if one were to occur, since a deterioration in the labor market is less likely to feed on itself." According to Goldman's calculations, there's about a 15% chance of a recession over the next 12 months, which is about standard for any given period. But for the following year, the probability rises to 35%. Indeed, the bad news for the economy and the Fed is that the central bank has a poor history of engineering "soft landings" in which it can raise rates significantly without causing a recession. Eleven of the past 14 tightening cycles in the post-World War II era have led to recessions, though Goldman notes that three of those downturns came due to other factors besides rate hikes. The firm considers the private balance sheet strength this time around to be of particular importance, as it indicates a nearly 80% chance that expansion can continue even with higher rates. Markets expect the Fed to hike its benchmark short-term borrowing rate by 50 basis points next month, following a 25-basis-point move in March. Traders are pricing in about a 74% chance that the total increases will reach 250 basis points, or 2.5 percentage points, by the end of 2022, according to CME Group data.
Apples are stacked for display and sale as people shop at a grocery store in Monterey Park, California, on April 12, 2022.
Frederic J. Brown | AFP | Getty Images
There's an above-average chance that the U.S. economy falls into a recession over the next two years, but it's not an inevitability, according to Goldman Sachs economists.