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Recession looks less likely for U.S., these economists say, but a ‘slog’ still lies ahead

Despite the recent turmoil in the bank sector, a recession is still not the most likely outcome for the U.S. economy over the next two years, analysts at the Peterson Institute for International Economics said Monday.

“The data has been more resilient than we thought it would be,” said Karen Dynan, a professor of the practice of economics at Harvard University, at a briefing for reporters ahead of the formal release of their semi-annual forecast.

In particular, the U.S. labor market has added an average of over 400,000 jobs in the past two months. In addition, demand and spending have also held up.

In hindsight, this shouldn’t have been a surprise because of the excess savings built up over the pandemic that still hasn’t been used up. On top of that, there is still pent-up demand for services and autos.

But hold the celebrations. We are in for a “slog” for the next two years, Dynan said.

The economy should only barely expand, at a 0.6% rate from the fourth quarter of 2022 to the fourth quarter of this year, and then at an only slightly better 1.4% rate over the same period in 2024.

All this means there will be “a couple more” 25-basis-point rate hikes from the Federal Reserve, Dynan said. Financial markets are pricing in sharp rate cuts by the end of the year.

Inflation should come down over the next two years but remain stubbornly above the Fed’s 2% target, Dynan said.

Inflation looks like it has “peaked…for now,” Dynan said. The fundamentals look pretty good as supply-chain woes have eased, oil prices are low, and the public’s expectations of future inflation are not high.

Inflation, as measured by the core personal consumption expenditure index that excludes food and energy prices, will drop to a little below 4% at the end of this year and into “the low 3s” by the end of 2024, Dynan said. The core PCE rate was 4.7% in January, the latest month for which data is available.

The unemployment rate should rise to 4.5% “this year and next,” from just over a 50-year low of 3.6% in February.

The stress in the banking sector after the collapse of Silicon Valley Bank “looks to be contained,” with the weakest banks taken out, Dynan said. “It is a negative but not a huge negative.”

Credit conditions will tighten as banks hold on to their cash, in part because they are aware that stronger regulation is coming.

The tightening in credit will do some of the Fed’s job but futher rate hikes are warranted, she said.

Of course, all the risks seem to be on the downside and the crisis might just be catching its breath.

Dynan said she was also not forecasting a global recession. Europe is looking surprisingly strong and the Chinese economy should be stronger than last year, she said.

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