Negative economic growth in the first half of the year may be a prelude to a much deeper downturn that may last into 2024.
Stephen Roach, who served as chairman of Morgan Stanley Asia, warns the US needs a “miracle” to avoid a recession.
“We will definitely have a recession as the lagged effects of this big monetary tightening start to kick in,” Roach told CNBC’s “Fast Money” on Monday. “They haven’t moved in at all now.”[ads1];
Roach, a Yale University senior fellow and former Federal Reserve economist, suggests that Fed Chair Jerome Powell has no choice but to take a Paul Volcker approach to tightening. In the early 1980s, Volcker aggressively raised interest rates to curb runaway inflation.
“Go back to the kind of pain Paul Volcker had to impose on the US economy to reduce inflation. He had to take unemployment above 10%,” Roach said. “The only way we won’t get there is if the Fed under Jerome Powell keeps his word, stays focused on discipline and gets the real federal funds rate into the restrictive zone. And the restrictive zone is a long way away from where we are right now now.”
Despite the Fed’s strong rate hike path, unemployment is at 3.5%. That matches the lowest level since 1969. That could change on Friday when the Bureau of Labor Statistics releases its August report. Roach predicts the rate is going to start climbing.
“The fact that that hasn’t happened and the Fed has done significant monetary tightening to date shows you how much work they have to do,” he noted. “Unemployment will probably have to exceed 5%, hopefully not much higher than that. But it could go to 6%.”
The ultimate tipping point may be the consumers. Roach speculates that they will soon capitulate due to persistent inflation. When they do, he predicts the pullback in spending will reverberate through the broader economy and create pain in the labor market.
“We are bound to have an accumulated fall in the economy [GDP] somewhere around 1.5% to 2%. And the unemployment rate would have to go up by 1 to 2 percentage points at a minimum,” Roach said. “It would be a garden-variety recession.”
“Cold War” with China
The forecast abroad is not much better.
He expects the global economy to also sink into a recession. He doubts China’s economic activity will dampen the impact, citing the country’s zero-Covid policy, severe supply chain backlogs and tensions with the West.
Roach is particularly concerned about the relationship between the US and China, which he writes about in his new book “Accidental Conflict: America, China and the Clash of False Narratives” which will be published in November.
“In the last five years, we’ve gone from a trade war to a technology war to now a cold war,” Roach said. “When you’re in this trajectory of escalating conflict like we’ve been, it doesn’t take much of a spark to turn it into something far more serious.”