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Economic Update | More Recession Talk

By Dr. Uric Dufrene, Sanders Chair in Business and Professor of Finance, Indiana University Southeast

One of the big stories of the last recession and ongoing recovery has been the labor force. The Bureau of Labor Statistics (BLS) released the monthly report on state employment and unemployment last week, and the report indicated that Indiana’s labor force growth showed additional progress, increasing by another 16,000 in May. Indiana is now up by 25,000 compared to last year, same time. Kentucky saw a small increase in its labor force and is up about 32,000 from last year.

Indiana’s unemployment rate remained flat at 2.2%, significantly under the May national rate of 3.6%. Kentucky saw its lowest unemployment rate in the history of the series, reaching 3.8%, down from the April rate of 3.9%.

Indiana saw a noticeable uptick in payrolls. The report indicated that Indiana added another 9,000 jobs, and total payrolls in Indiana now exceed the level that existed in February 2020 by about 15,000. Kentucky saw its payrolls decline by 5,000, and its payrolls remain about 22,000 under the level that existed in February 2020.

Turning to Southern Indiana, employment is at the highest level for an April reading in the history of the series. Employment in the region normally peaks in July of each year, but if we compare April 2022 employment to previous April levels, it was at the highest level.  The labor force is at the level that existed in February 2020. However, for an April reading, Southern Indiana’s labor force reached an all-time high. This places the region’s unemployment rate at a staggering 1.8%.

For the Louisville Metro region, like Southern Indiana, job postings continue to remain high. Over the last 30 days, job postings exceeded the number that existed around the same time in 2019, pre-Covid. The number of unemployed, relative to the size of the labor force, is at an all-time low.

We should expect to see continued gains in the labor force of both states.  Labor force growth remains a key measure of the ongoing recovery. A portion of inflationary pressures can be attributed to supply chain challenges, and labor force growth will help alleviate some of these.

The past two weeks did see an increase in the number of “bad news” reports. A big headline was in the BLS CPI report.  The CPI reading came in above consensus estimates at an 8.6% annual rate.   The core rate, which strips out food and fuel, was at 6% and slightly above expectations. There was a violently negative reaction in the equity markets. The high CPI reading signaled that the Fed could increase rates by more than ½ a percent.   And indeed, the Fed responded with an increase of 75 basis points the following week. Unlike the negative reaction that occurred to the CPI release, the markets closed higher that day.

We can see the impact of high gas prices and overall inflation on consumer sentiment.  The latest consumer sentiment survey showed another decline.  There are only two other time periods when sentiment was lower: the early 1980s and the Great Recession. Consumer sentiment is low because inflation is at its highest in several decades. Inflation is not the only driver of consumer sentiment, but it is a major factor, particularly with the high levels.  The combination of steep declines in consumer sentiment, along with equity market declines, historically equates to the recessionary territory.

There were a couple of regional reports in manufacturing that came in much weaker than expected.  The Empire Manufacturing report and the Philadelphia Fed Index both came in under expectations and moved lower. These are only two measures of manufacturing activity but could be providing early indicators of an overall slowing of manufacturing activity. While we may see some slowing in manufacturing, simply due to a continued transition to normalization, I’m not expecting a contraction in growth. The last ISM Report on Business indicated that orders remain strong and growing, and customer inventories remain at low levels.

We saw a small increase in unemployment claims, but this is generally a very volatile series.  So, we will need additional data and consistently increasing claims to lend strength to the recession argument.  Another important indicator is consumer spending, a significant component of GDP.   If we continue to see steady declines in consumer spending, along with increases in unemployment claims, the chances of a recession increase.

Higher gasoline prices and elevated inflation will begin to eat into consumer discretionary spending.  While household balance sheets remain strong, compared to pre-pandemic, consumers can only take so much.   Sectors that rely on discretionary spending may begin to be pinched by higher gas prices.   The last retail sales report showed a .3% decline in retail sales, but this was not necessarily unexpected.    The pandemic saw gains in retail sales that were above trend, and a return to a level consistent with earned wages is inevitable.    A transition from goods to services spending should also continue.   The latest report did see a decline in furniture and home furnishings and electronics and appliance stores.   Foodservice and drinking places saw an increase.

The wealth destruction taking place in the stock market will also not help. Even with the double punch of inflation and stock market declines, we should escape a recession this year.  Job openings are about double the number of unemployed, and labor markets remain very tight.   Next year, however, as the impact of higher interest rates is transmitted throughout the economy (one of the first impacts is the housing sector), the chance of a mild recession has increased.  My optimistic (and hopeful) pathway is that inflation begins to cool later this year, leading to a slower movement in Fed hikes, and strong positive reactions in the equity markets.

Sources:  Bureau of Labor Statistics State Employment and Unemployment, Census Retail Sales, FactSet, Burning Glass, BLS CPI May 2022, ISM Report on Business

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