An analyst at Bank of America warned that the US economy is deteriorating rapidly and could push the country into recession, just three days after Deutsche Bank expected the decline to come in 2023 as the Federal Reserve tightened interest rates to tame soaring inflation.
The “inflation shock” is getting worse, the “price shock” is just beginning, and the recession shock is “coming,” Bank of America chief investment strategist Michael Hartnett wrote in a note to clients.
In this context, he added, cash, volatility, commodities, and cryptocurrencies can outperform bonds and stocks, which is a typical precursor to an economic recession.
The Federal Reserve signaled on Wednesday that it would likely start culling assets from its $9 trillion balance sheet at its meeting in early May, and would do so at nearly twice the pace it did in its previous exercise of “quantitative tightening” as it faces rates. Ongoing inflation is at a four-decade high of nearly 8 percent.
The vast majority of investors also expect the central bank to raise the key interest rate by 50 basis points.
Deutsche, the first major bank to present a negative outlook, said on Tuesday that the recession would be “mild,” but would be another blow to Americans who are already struggling, CNBC mentioned.
“The US economy is expected to take a significant hit from additional Fed tightening by late next year and early 2024,” the bank’s economists said in a note to clients.
Bank of America chief investment strategist Michael Hartnett warned clients of an impending recession shock
Hartnett said the recession will come as a result of the Fed’s efforts to combat inflation, which hit 7.9 percent in February, the highest level in 40 years.
In terms of notable weekly inflows, BofA said emerging market equity funds enjoyed the largest inflow in ten weeks at $5.3 billion in the week through Wednesday while emerging market debt instruments attracted $2.2 billion, their best week since September.
It was also eight weeks of outflows for European equities at $1.6 billion while US equities enjoyed their second week of inflows, adding $1.5 billion in the week through Wednesday.
However, despite the inflows, the financial analyst still predicts a recession as Deutsche forecasts a 1.5 percent increase in the national unemployment rate next year, which would push Americans’ total number of jobs to 5.1 percent.
It also comes as the 2-year Treasury yield temporarily surpassed the 10-year yield last week, a classic signal that precedes every US recession.
Deutsche Bank expects a recession in the US in late 2023 and that the unemployment rate will rise by 1.5 percent, bringing total jobs to 5.1 percent (above).
While the Fed aims to raise interest rates by 2 percent by the end of 2022, Deutsche expects the Fed to go beyond that and raise rates to 3.5 percent through 2023.
The central bank expects headline inflation to rise 4.3 percent this year alone. Meanwhile, economic growth is expected at 2.8 percent this year, down sharply from the 4.0 percent growth rate projected in December.
Deutsche expects the decline to continue to grow in late 2023 and early 2024 and will affect US jobs.
The unemployment rate in the United States is currently 3.6 percent, with about 6 million Americans out of work, a steady rebound from the pandemic that has left 20 million out of work.
If Deutsche’s forecast comes true and unemployment increases by 1.5 percent, about 8 million people will be out of work.
Deutsche added that while he expects the US economy to take a hit, the previous outlook is relatively positive.
“Growth is expected to rebound thereafter as inflation eases and the Federal Reserve reverses some of its interest rate increases,” the bank’s economists wrote. “We acknowledge the significant uncertainty around this outlook, but we also note that the risks to the downside and a deeper slowdown are significant.”
The Federal Reserve has been planning for months to raise interest rates for the first time since 2018. Rates have been pushed to near zero during the coronavirus pandemic, as Chairman Jerome Powell pursued a policy goal of maximizing employment with higher tolerances. for inflation.
“Inflation is likely to take longer to return to our price stability target than previously expected,” Powell said at a press conference on Wednesday. He said prices were likely to rise again in the March figures after Russia’s invasion of Ukraine sent crude oil prices higher.
Fed Jerome Powell expected inflation to drop by more than 3 percent after the Fed voted to raise interest rates with a plan to continue increasing them to 2 percent by the end of 2022.
The 2-year US Treasury yield (top) briefly surpassed the 10-year yield (bottom) last week before returning to normal. This phenomenon usually precedes recessions in the United States
However, Powell insisted that “the US economy is very strong and well positioned to deal with a tighter monetary policy.”
Deutsche indicated that a Powell outcome would be the likely case and that the recession would not last long, but said outside the realm of inflation, there are still worrying signs.
Last Thursday, the yield of two-year Treasury bonds temporarily exceeded the yield of 10 years, which means that the return on investment for the US Treasury in the near future exceeds that of the next decade.
The return over two years was 2.337 per cent, while the return over 10 years was 2.331 per cent. As of Tuesday, the 10-year yield rose to 2,542 percent, with the 2-year yield closing at 2,530.
CNBC reported that this phenomenon preceded every American recession in modern times.
However, Deutsche warned that if yields reverse again and the Fed’s efforts to bring down inflation prove unsuccessful, the outcome could be even worse for the US.
“If any of these assumptions prove incorrect, inflationary pressure, central bank tightening and recession could be more severe than in our baseline forecasts,” Deutsche Bank said.
Billionaire hedge fund founder Ray Dalio has warned that the US economy is headed for ‘stagflation’ similar to the 1970s.
Deutsche’s warning came as billionaire hedge fund founder Ray Dalio issued his warning that the US economy was headed for “stagflation” similar to the 1970s.
I think what we will likely see is a period of stagflation. And then you have to understand how to build a portfolio that’s balanced for this kind of environment,” Dalio said Yahoo Finance In an interview published on Monday.
Stagflation is defined as a period of high inflation combined with an economic slowdown and high unemployment—an unusual combination the United States faced in the 1970s, when oil crises and failed monetary policy devastated the economy.
“The past is a guide to what is happening now,” said Dalio, founder of Bridgewater Associates. “The environment we’re in is starting to look a lot like the ’70s.”
Dalio argued that the Fed now faces a dilemma in which it will either raise interest rates too low to reduce inflation, or too high for the economy to sustain.
“So what you have is enough tightening by the Federal Reserve to deal with inflation appropriately, and that’s very stressful for the markets and the economy,” he said.
“The Fed is going to be in a very difficult place a year from now as inflation is still high and it starts to put pressure on both the markets and the economy,” Dalio explained.
Dalio expected the inflation rate to stabilize at around 5 percent, well above the Fed’s flexible target of 2 percent.
“We are beginning a paradigm shift,” he said, explaining that inflationary expectations will only lead to higher prices, as money flees from bonds and workers insist on higher salaries.
“A paradigm shift is starting to happen, and that will also be self-supporting,” he said. “This has all happened before, all of this has happened many times before.”
Dalio said the explosion in the money supply was the cause of the currency’s depreciation even as it boosted stock markets.
He said, “When you spend more money than you earn, you have to print money to make up the difference.”