None of the various recession probability metrics are flashing red (though they were taken pre-Brexit, Brexit’s impact on the U.S. economy will likely be minimal; we export less than one percent of our GDP to the U.K. and financial market channels do not seem highly vulnerable). But the bottom line is that economists can’t predict downturns beyond telling you that one is out there somewhere, and we’re closer to it now than we were yesterday. The current expansion, at seven years old, is already late middle-age (as am I, for that matter), if we compare it to past expansions.
Here’s what keeps me up at night. There are two economic weapons against recession: monetary and fiscal policy. As of right now, both are in a potentially bad place regarding their ability to step up.
Monetary policy — and here’s the striking figure I promised — hasn’t had time to reload. The figure shows the Federal Reserve’s primary recession-fighting tool, the Fed funds rate (ffr). That’s the interest rate it wields to speed up (lower the ffr) or slow down (raise the ffr) growth. The arrows show how much, in percentage points, the Fed has lowered the ffr in past down cycles (shaded areas are recessions). The little circle at the end shows where the rate is today. As I said, no one knows when the next downturn will hit, but the likelihood that the ffr will be high enough to fall anything like as much as the numbers you see here is very, very low.
Should the Fed raise more aggressively so as to have a perch to cut from when needed? Of course not. That would be monetary malpractice: “Let’s break to the current recovery so we can fix the recession.” If anything — and here’s one area where Brexit may well affect U.S. policy — the weakening pound/strengthening dollar and market volatility means it’s probably less likely to raise soon than it was pre-Brexit.
Sure, the Fed has some other weapons, but they’re all secondary to the ffr. So monetary policy may be unable to contribute much countercyclical oomph to the next recession.
That’s leaves fiscal policy, meaning changes in taxes and government spending. A lot of what happens, as Ben Spielberg discusses here, is automatic stabilization from programs like SNAP (nutritional support), unemployment insurance and Medicaid. But Ben points out that each one needs strengthening, and if the downturn is at all deep, fiscal policy will need to provide a heavier lift than just these programs. We’ll need discretionary stimulus.
And that invokes Congress. The myth that none of this stuff worked in the last recession has been thoroughly debunked both in a positive sense (stimulus spending generated significant job and GDP growth) and a negative sense (fiscal austerity — the opposite of stimulus — deepens recessionary pain). But powerful coalitions in our current Congress have no use for such facts, and they are extremely likely to block any discretionary spending, especially deficit-financed spending, that comes under the rubric of stimulus, or as they call it, “failed” stimulus.
The answer, as Ben stresses, is to put more counter-cyclical fiscal policy on automatic, with triggers designed to turn on and off with need. But that, too, invokes Congress, which means we keep hitting the same wall. Simply put, we pay a price for political dysfunction, and that coin becomes especially dear in recessions.