Honestly, I don’t know what I believe here. This whole pandemic-driven cycle has, to use the technical term, been weird. Historical analogies don’t seem nearly as useful as they usually are. The economy has been amazingly resilient so far in the face of rate hikes, but I have no idea whether that will continue.
Put it this way: If our story is that Fed tightening will produce a recession, we’d expect that to work mainly though housing, the usual channel. Indeed, Fed hikes led to a big rise in mortgage interest rates, which hit 7 percent almost a year ago and have fluctuated since then. But housing starts, after an initial drop, have stayed fairly strong — at or above prepandemic levels. So the usual process by which hikes produce a recession doesn’t seem to be operating. There may be other ways a recession can happen, but as I said, the historical correlations may not be much of a guide.
Coy: Paul, you were right to call out those who thought we needed a punishing recession to get inflation down. I also agree that the economy is weird lately. The labor market has held up surprisingly well, which is wonderful. Housing is pretty good, too.
But cracks are forming. A lot of signs that a recession could be coming. To start with housing, since you brought it up, high mortgage rates are freezing sales of existing homes. People don’t want to move because they’ll have to replace their cheap mortgage with a more expensive one. So the market is thin — not many homes for sale, and shoppers can’t find what they want. Also, basically no one these days can refinance and get a better rate, so that’s a potential source of cash for consumers that’s absent. The Mortgage Bankers Association said Sept. 20 that its index of mortgage applications, which includes refis, rose in the preceding week, but it was still back where it was in 1997. I can hardly remember 1997.
The labor market isn’t as resilient as it appears at first sight, either. A lot of the jobs that are being created are part-time. Average weekly hours worked in the private sector fell slightly in the 12 months through August. If you look at aggregate hours worked by everyone, they rose only 1.8 percent over that period. If the Fed is waiting for the labor market to break before it eases up, it’s going to end up waiting too long, because by then it will be too late.