Recession fears rising, Washington begins to consider how to respond
On Capitol Hill, congressmen have begun discussing the challenge of intervening to ease the pain of a recession in a way that doesn’t exacerbate inflation. In the White House, aides have informally begun to weigh hypothetical options such as unemployment benefits and food stamp support. And at the Federal Reserve, staffers have been discussing with outside analysts how monetary policy might respond to both economic slowdown and high prices simultaneously — a twin challenge it has not faced in decades.
“I’m often asked by policymakers what we should do during the next recession if inflation is still high — that’s on their minds right now, including within the Biden administration,” said Wendy Edelberg, director of the Hamilton Project and a senior fellow in economics at the Brookings Institution, a centre-left think tank in DC. “I spoke to them about it.”
Experts generally agree that a downturn now is unlikely to result in the deep rupture in jobs seen during the Great Recession of 2008-2009 or the 2020 pandemic meltdown. Many analysts are predicting that any downturn is likely to be “mild” with unemployment staying below 5 or 6 percent. The current unemployment rate is 3.5 percent.
But Washington’s ability to remedy the situation may be limited by efforts to combat inflation. During the pandemic and the Great Recession, Washington flooded the economy with unemployment assistance and other cash supplies. If such measures were implemented now, they risked raising inflation. With the Fed raising interest rates faster than it has in decades as part of its fight against inflation, the new federal spending would require additional borrowing at a time when debt is becoming ever more expensive.
“Typically in a recession, when inflation is not too high, monetary and fiscal policy try to stimulate demand to stimulate us a way out of a recession – leading to inflation being lifted from too low a level,” he added Edelberg added. “But in this case, stimulating a way out of a recession would be counterproductive to efforts to also fight inflation.”
Joe Brusuelas, chief economist at RSM, said he was approached by Fed officials to discuss how economic turmoil abroad could weigh on the US economy and how financially Markets would react if a recession hits while inflation is still high, or if there is a more conventional recession coinciding with global economic turmoil. “It was in the context of the current environment, which is more external than the US,” Brusuelas said.
In a statement, a senior White House official disputed the idea that the government was preparing for a recession, emphasizing the advisers’ focus on inflation. The job market has proved very resilient despite the central bank’s rate hikes – jobless claims fell to a three-week low in mid-October, a report released on Thursday showed. Another report next week is expected to show economic growth in the third quarter of this year.
“The White House is not planning a recession — the economy is growing and the unemployment rate is 3.5 percent, the lowest it has been in 50 years,” said Heather Boushey, a member of the White House Economic Advisory Council. “We’re working to bring down inflation and we’re focused on lowering the cost of living.”
Washington policymakers insist their focus on cutting prices amid the highest inflation in 40 years. The latest inflation report showed prices continued to rise in September, with “core” inflation rising a worrying 0.6 percent over the month. The labor market has also maintained its rapid growth: In the United States, 263,000 jobs were created in September and the unemployment rate fell to 3.5 percent. In this regard, some government officials dismissed the idea of planning for a recession now as premature.
But cracks have emerged, worrying many politicians. The Federal Reserve’s campaign to cool inflation has led to a series of large rate hikes aimed at curbing consumer demand and spending. Despite persistent inflation and strength in the labor market, there are signs that the Fed’s efforts are working: demand for housing is collapsing and the stock market has fallen sharply. The average interest rate on a 30-year fixed-rate mortgage, the most popular US home loan, rose to 6.94 percent this week from Freddie Mac, a huge increase from 3.22 percent in January.
At the White House, some officials recently had informal talks about possible policy responses to the next recession and the lack of tools apparently available, according to two people familiar with the matter, who spoke on condition of anonymity to reflect private conversations. Those talks touched on improvements to the unemployment system and increased food stamps as possible measures that could protect vulnerable Americans from a recession without fueling broad-based inflation. White House officials stressed that such a conversation was hypothetical and did not reflect serious considerations of government policy.
The President has also called in aides to brief him on the possibility of a panic in financial markets similar to that in the UK, a person familiar with the matter said. The helpers considered such a result highly unlikely. This briefing was first reported by The New York Times.
“We may need to look at this recession in terms of very targeted relief; it’s a much more subtle strategy,” said a person aware of the government’s “very preliminary” talks, speaking on condition of anonymity as she was not authorized to speak to the media. “We’re trying to prepare for a recession where there’s also inflation, and with that, the blanket bailout-style or the Cares Act-style or the Recovery Act-style bailout legislation is off the table — economically and politically.”
Congress begins to wrestle with similar questions. At a bipartisan staff briefing earlier this week, three policy analysts — Edelberg; Michael Strain, director of economic policy studies at the conservative-leaning American Enterprise Institute; and Marc Goldwein, senior vice president of policy for the Federal Budget Committee — posed questions about how lawmakers should weigh options for responding to a recession. Several Democratic members of Congress have also separately asked about potential policy responses to a recession next year, according to Strain.
“You’re asking about the policy options that are available if we have a recession,” Strain said. “I suspect the government is concerned about the possibility of a recession in 2023.”
The toughest challenge in an inflationary recession might be that of the Federal Reserve. Typically, during downturns, the central bank lowers interest rates to stimulate demand. But a recession that begins while inflation is still high would complicate that response. According to Eswar Prasad, an economist at Cornell University, Federal Reserve officials held both formal and informal discussions at an annual conference in Jackson Hole, Wyoming, in August about the difficulties the central bank would have in fighting inflation and recession at the same time who worked as a senior economist at the International Monetary Fund.
Among the challenges the bank faces is that its balance sheet remains large due to its response to Covid, which limits the extent to which it can buy assets to support spending. Its other key tool – interest rates – would face similar limitations, as any rate cut to meet economic demand would counteract this year’s attempts to contain inflation.
A central bank spokeswoman declined to comment.
“This is a real conundrum for both monetary and fiscal policy at the moment. How can policymakers avoid fueling inflation while supporting a flagging economy headed for recession?” said Prasad. “The tools involved are very different.”
Rachel Siegel contributed to this report.