A hard landing has become the base case for many more economists as the year has unfurled — and especially following last month’s banking-sector turmoil. But Morgan Stanley’s Seth Carpenter says there are still signs a soft landing can be achieved.
(Bloomberg) — A hard landing has become the base case for many more economists as the year has unfurled — and especially following last month’s banking-sector turmoil. But Morgan Stanley’s Seth Carpenter says there are still signs a soft landing can be achieved.
The global chief economist joined the What Goes Up podcast to discuss his views on why, even as growth in the US slows, a full blown recession can be avoided.
Here are some highlights of the conversation, which have been condensed and edited for clarity. Click here to listen to the full podcast or subscribe below on Apple Podcasts, Spotify or wherever you listen.
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Q: You are leaning into the soft-landing camp, thinking that perhaps we might be able to avoid a recession. Walk us through how you’re thinking about that.
A: We’ve actually been in the soft-landing camp for awhile. There were definitely times when everyone in markets was throwing rocks and sticks at us and saying that we’re crazy because it was clear we’d get a recession. And then the data for January and February came in — that looked a lot better, and people were telling us that we were crazy that we were still calling for a big slowdown. And now the world has shifted again.
So what is our thinking? There are a few key parts to our logic. The first thing is that it seems hard to avoid the fact that the US economy is going to slow down. And part of the reason why that’s hard to avoid is because that is absolutely, categorically, by design the Fed’s objective. The reason they have been hiking as much as they have, the reason they will keep hiking interest rates at least a bit more, is because they want the economy to slow down a lot in order to have inflationary pressures abate. So the slowdown part should be pretty easy to get on board with.
What about the missing the recession part? Partly, because the slowdown is the Fed’s choice, at least having a chance to avoid a recession should also be the Fed’s choice. And we think they’re looking carefully at the data and asking, ‘do we have enough evidence that things are slowing down a lot, but not yet crashing?’ Because that’s what they’re looking for in order to stop the hiking cycle. So we think the last hike is in May when there’ll be more evidence of more of a slowdown, but not yet evidence that things have actually fallen off of a cliff.
And then the last part of our thesis is — usually what it takes in the US to get a recession is some shock or something that causes the slowdown. So we’ve got that.
But you also need an amplification mechanism. So the economy slows down and businesses lay off millions of workers and their lack of income causes a slump in spending. Or you get a big credit crunch and everything seizes up. Both of those are clearly possible, but we don’t think they are imminent. For the labor side of things, the job market still seems pretty healthy, the unemployment rate’s very low. And if you look at how much employment we have relative to the level of GDP, you’d come away with the conclusion that, boy, businesses are still a little shorthanded.
What that means is the economy can slow down and businesses don’t have to do the same wave of firing that they’ve had to do in previous slowdowns. So that makes us feel a little bit better.
And even though there’s clearly tighter funding conditions for bank and banks are pulling back on their lending — especially given what’s happened in the wake of all of the banking turmoil — we’ve got to remember that things were already slowing down. Loan growth was already slowing before we got these new sensational headlines about the banking-sector turmoil.
We don’t think any pullback by banks and their willingness to lend is going to be the thing that tips us over to recession.
We are looking for growth that’s below a half a percent in real terms, so very, very close to zero. But importantly, we are not looking for a full-blown recession where we have several months in a row of contraction.
Q: The emergency term-lending facility that was introduced and the discount window that the Fed opened wide — was that enough to prevent the type of nervousness among banks that would cause them to rein in lending?
A: It’s really hard to know what the counterfactual would’ve been. When I look at the Fed’s weekly statistical release to parse out what sort of lending went on, there was a huge increase that first week. But then when you start to look into the details, there wasn’t, at least in the first week, that much that went through that new term-lending facility — about $12 billion or so. A huge amount went to the FDIC’s bridge banks. There’s also a fair amount based on First Republic’s own public disclosures that went directly there.
And so my initial reading, perhaps through some slightly rose-colored glasses, was that the situation based on that borrowing was more idiosyncratic than systemic.
Now, there’s still a lot of borrowing for many banks, and the amount going through that term facility has actually edged up a bit over time. It has not fallen. So we don’t want to be complacent.
I suspect that the lending was there, it took care of some of the institutions that critically need it. Others, as we know, have been resolved or are being resolved. My take really though is that we had a largely idiosyncratic problem against a backdrop of the whole system facing a higher funding cost. But that was very much the intent of the Fed by raising the federal funds rate 500 basis points.
That’s just a small part of the interview. Click here to listen to the rest.
–With assistance from Stacey Wong.
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