Recession Fears Are Back
A little over a year ago, I wrote a Mitch on the Markets columnabout the growing likelihood of an ‘economic soft landing.’ I compared Fed policy and the economy in 2024 to what we saw in 1996, during the Greenspan Fed. Here’s what I concluded:
“In 1996, real GDP growth was volatile from quarter to quarter but rose 2.5% for the year, and the S&P 500 climbed +22.68%. I won’t be so bold as to call for a similar outcome in 2024, but the idea of modest GDP growth with solid double-digit gains in stocks does not seem out of the realm of possibility. In fact, I think it’s more likely than unlikely.”
I made my market call on the premise that the Fed and the U.S. economy would achieve an ‘economic soft landing,’ which went as hoped last year—the economy grew 2.8% and the S&P 500 rose +25%.1
But 2025 looks a bit different out of the gates.
At the start of the year, investors were focused on the pro-growth, pro-business stance of the new administration. Many were pricing-in an era of lower taxes and deregulation, which consensus believed would drive M&A and economic growth higher. Confirmation of an ‘economic soft landing’ seemed all but assured.
But as initial policies began taking shape, confidence in a soft landing has somewhat dissipated. And recession fears have returned.
As I wrote last week, economic and trade policy uncertainty has spiked in the past few weeks. Many business leaders and investors assumed the administration would be sensitive to stock market volatility, perhaps pivoting policy in response. But that does not seem to be the case.
Treasury Secretary Scott Bessent has suggested that the U.S. may need a financial reset after years of government-driven expansion and rising asset values, and Commerce Secretary Howard Lutnick has similarly noted that tariffs are likely to cause an initial surge in prices. The refrain is that the economy may need to endure some short-term hardship for long-term restructuring.
There’s also the matter of reductions in the size of the federal workforce. The economic question to ask is whether the private sector will be able to fully absorb displaced workers at a time when businesses already face uncertainty over tariff policy. To be fair, the federal workforce declined by over 10% in the mid-1990s with no destabilizing effect on the jobs market, but that was also a time of steady, strong economic growth.
A final point to make in the recession argument is that household financial sentiment is showing signs of stress. A recent survey by the New York Federal Reserve recorded the most significant monthly decline in household confidence since 2023, while the probability of Americans missing debt payments has also risen to levels not seen since early 2020. These indicators suggest that economic unease is growing.
It is with this backdrop that the Federal Reserve must navigate its path on rates. Fed Chair Jerome Powell has signaled that policymakers are in no rush to adjust interest rates, and he has also hinted that the central bank may not immediately respond to tariff-driven price increases. For instance, if inflation accelerates further, the Fed will not necessarily rush to raise rates. They may opt instead to scrutinize data carefully, to distinguish between temporary price fluctuations and underlying inflationary trends. Fed Governor Christopher Waller described this as the challenge of “signal extraction,” where policymakers must differentiate between short-term tariff effects and more concerning long-term inflation.
For investors, there are a lot of moving parts to consider.
Bottom Line for Investors
If I knew for certain that the Trump administration was going to levy 25% across the board, tariffs on all imports for one year (for example) or commit to implementing a ‘reciprocal tariff policy’ indefinitely, I could assign a much higher probability to near-term rising inflation, rising long duration Treasury bond yields, an economic recession, and a bear market.
The problem is that it’s impossible to know how tariff policy will look tomorrow or at any point in the future.
Tariffs could be more permanent, which may hit economic growth slightly but potentially be offset by pro-growth policies like tax cuts and deregulation. The Trump administration could also pull back on tariff policy as the downside risks become more acute, which I think would factor as a positive surprise for markets. Again, there is no way to know for sure. But now that recession fears have returned and are being telegraphed more frequently by major banks and financial media, I’ve become more optimistic. When recession fears return, the wall of worry follows—creating opportunities for positive surprises.
Disclosure
1 Wall Street Journal. March 10, 2025. https://www.wsj.com/economy/trump-team-recession-hard-landing-c8f23d5d
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