Around the world, markets are flashing warning signs that the global economy is teetering on a cliff edge.
The question of a recession is no longer if, but when.
Over the past week, the pulse of the flashing red lights has picked up as markets grappled with the reality—once speculative, now certain—that the Federal Reserve will continue its most aggressive monetary tightening campaign in decades to wring inflation out of the the American economy. Even if it means triggering a recession. And even if it comes at the expense of consumers and businesses far beyond America̵[ads1]7;s borders.
There is now a 98% chance of a global recession, according to research firm Ned Davis, which brings some sober historical credibility to the table. The firm’s recession probability reading has only been this high twice before – in 2008 and 2020.
When economists warn of a downturn, they usually base their assessment on a number of indicators.
Let’s unpack five key trends:
The US dollar plays a major role in the global economy and international finance. And right now it is stronger than it has been in two decades.
The simplest explanation comes back to the Fed.
When the US central bank raises interest rates, as it has done since March, it makes the dollar more attractive to investors around the world.
In any economic climate, the dollar is seen as a safe place to park your money. In a troubled climate – a global pandemic, for example, or a war in Eastern Europe – investors have even more incentive to buy dollars, usually in the form of US Treasuries.
While a strong dollar is a nice perk for Americans traveling abroad, it creates headaches for just about everyone else.
The value of the British pound, euro, China’s yuan and Japanese yen, among many others, has fallen. It makes it more expensive for these nations to import essential goods such as food and fuel.
In response, central banks already battling pandemic-induced inflation will end up raising interest rates higher and faster to bolster the value of their own currencies.
The dollar’s strength is also creating destabilizing effects for Wall Street, as many of the S&P 500 companies do business around the world. According to a Morgan Stanley estimate, every 1% increase in the dollar index has a negative impact of 0.5% on S&P 500 earnings.
The No. 1 driver of the world’s largest economy is shopping. And American shoppers are tired.
After more than a year of rising prices on just about everything, with wages not keeping up, consumers have pulled back.
“The squeeze caused by inflation means consumers are dipping into their savings,” EY Parthenon chief economist Gregory Daco said in a note on Friday. The personal savings rate in August was unchanged at just 3.5%, Daco said – close to the lowest rate since 2008, and well below the pre-Covid level of around 9%.
Once again, the reason behind the pullback has a lot to do with the Fed.
The interest rates have rose at a historic pace, pushing mortgage rates to their highest level in more than a decade and making it harder for businesses to grow. Eventually, the Fed’s rate hikes should largely bring costs down. But in the meantime, consumers are getting a one-two punch with high loan rates and high prices, especially when it comes to necessities like food and housing.
Americans opened their wallets during the 2020 shutdowns, which drove the economy out of the brief but severe pandemic recession. Since then, government aid has evaporated and inflation has taken root, pushing up prices at the fastest rate in 40 years and reducing consumer purchasing power.
Business has boomed across industries for most of the pandemic, even with historically high inflation eating away at profits. That’s thanks (once again) to the resilience of American shoppers, as businesses were largely able to pass on higher costs to consumers to dampen profit margins.
But the earnings bonanza may not last.
In mid-September, a company whose fortunes act as a kind of economic clock gave investors a shock.
FedEx, which operates in more than 200 countries, unexpectedly revised its outlook, warning that demand was softening and that earnings were likely to fall by more than 40%.
In an interview, the CEO was asked if he believed the decline was a sign of a looming global recession.
“I think so,” he replied. “These numbers, they don’t bode well.”
FedEx is not alone. On Tuesday, Apple shares fell after Bloomberg reported that the company scrapped plans to ramp up production of the iPhone 14 after demand fell short of expectations.
And just before the holidays, when employers would normally increase hiring, the mood is now more cautious.
“We haven’t seen the normal September uptick in companies applying for temporary help,” said Julia Pollak, chief economist at ZipRecruiter. “Companies are hanging back and waiting to see what conditions apply.”
Wall Street has been hit with whiplash, and stocks are now on track for their worst year since 2008 – in case anyone needs another scary historical comparison.
But last year was a completely different story. Stock markets boomed in 2021, with the S&P 500 rising 27%, thanks to a flood of cash pumped in by the Federal Reserve, which unleashed a two-run monetary policy in the spring of 2020 to keep financial markets from crumbling.
The party lasted until early 2022. But as inflation set in, the Fed began to take away the proverbial punch bowl, raise interest rates, and wind down its bond-buying mechanism that had supported the market.
The hangover has been brutal. The S&P 500, the broadest measure on Wall Street — and the index responsible for the bulk of Americans’ 401(k)s – is down nearly 24% for the year. And it is not alone. All three major US indices are in bear markets – down at least 20% from their recent highs.
In an unfortunate twist, the bond markets, typically a safe haven for investors when stocks and other assets fall, are also in a tailspin.
Again, blame the Fed.
Inflation, together with the sharp increase in interest rates from the central bank, has pushed bond prices down, causing bond yields (aka the return an investor gets for the loan to the government) to go up.
On Wednesday, the yield on the 10-year US Treasury bond passed 4%, reaching the highest level in 14 years. That rise was followed by a steep fall in response to the Bank of England’s intervention in its own spiraling bond market – constituting tectonic moves in a corner of the financial world designed to be smooth, if not downright dull.
European bond yields are also rising as central banks follow the Fed’s lead in raising interest rates to strengthen their own currencies.
Bottom line: There are few safe places for investors to put their money right now, and that’s unlikely to change anytime soon global inflation comes under control and central banks loosen their grip.
Nowhere is the collision of economic, financial and political calamities more painfully visible than in Britain.
Like the rest of the world, the UK has struggled with rising prices largely attributable to the colossal shock of Covid-19, followed by the trade disruptions created by Russia’s invasion of Ukraine. As the West halted imports of Russian natural gas, energy prices have risen and supplies have fallen.
These incidents were bad enough on their own.
But then, just over a week ago, the newly installed government of Prime Minister Liz Truss announced a sweeping tax cut plan that economists from both ends of the political spectrum have declared as unorthodox at best, diabolical at worst.
In short, the Truss administration said it would cut taxes for all Britons to encourage spending and investment and, in theory, cushion the blow of a recession. But tax cuts are not funded, which means the government has to take on debt to finance them.
That decision sparked panic in financial markets and put Downing Street at loggerheads with its independent central bank, the Bank of England. Investors around the world sold British bonds in droves, plunging the pound to its lowest level against the dollar in nearly 230 years. As in, since 1792, when Congress made the US dollar legal tender.
The BOE staged an emergency intervention to buy up British bonds on Wednesday and restore order in the financial markets. It stopped the bleeding, for now. But the ripple effects of the Trusonomics turmoil are spreading far beyond the offices of bond traders.
Britons, already in a cost-of-living crisis, with inflation at 10% – the highest of any G7 economy – are now panicking over higher borrowing costs that could force millions of homeowners’ monthly mortgage payments to rise by hundreds or even thousands of pounds.
Although the consensus is that a global recession is likely sometime in 2023, it is impossible to predict how severe it will be or how long it will last. Not every recession is as painful as the Great Recession of 2007-09, but every recession is of course painful.
Some economies, notably the United States, with its strong labor market and resilient consumers, will be able to withstand the blow better than others.
“We are in uncharted waters in the months ahead,” economists at the World Economic Forum wrote in a report this week.
“The immediate outlook for the global economy and for much of the world’s population is bleak,” they continued, adding that the challenges “will test the resilience of economies and societies and exact a punishing human toll.”
But there are some silver linings, they said. Crises force transformations that can ultimately improve living standards and make economies stronger.
“Companies must change. This has been the story since the pandemic started, says Rima Bhatia, financial advisor for Gulf International Bank. “Companies can no longer continue on the path they were on. That’s the opportunity and that’s the silver lining.”
— CNN Business’ Julia Horowitz, Anna Cooban, Mark Thompson, Matt Egan and Chris Isidore contributed reporting.