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The next recession will be mini compared to the last 2 — and feel completely different

Empty shelves for pasta are seen at a supermarket on January 13, 2022, in California.
Empty shelves for pasta are seen at a supermarket on January 13, 2022, in California.
  • The US might be heading for another recession, but it probably won't be a bad one.
  • Spending on goods is finally slowing, and that's enough to spark a "mild" downturn, one economist said.
  • Americans' finances are generally in good shape, meaning growth will likely only slow moderately.

If you're panicking over the possibility of a looming recession, don't worry too much, because the next downturn likely won't be anything like the Great Recession or the sharp slide during the early pandemic.

Wall Street giants like Deutsche Bank and Bank of America are projecting recessions starting next year on the grounds that there's just no way for the Fed to fight inflation without slowing the economy to a halt. 

But even if those predictions come to light, it's probably not going to be that bad.

For the first time since the early 1990s, economists see the country on track for a fairly normal recession. That's because, according to what experts told Insider, it will be more like a correction after a year of outsize spending throughout the economy. As Americans rein it in, the numbers will likely show a contracting economy for a few quarters, but the country won't feel the pain of previous 21st-century downturns.

Though Americans' demand for products seems insatiable, Susan Sterne, president and chief economist at Economic Analysis Associates, told Insider it doesn't look like consumers are overextending themselves financially, as they did in 2008.

"I don't think we are in such excesses that the consumer pulls back for an extended period of time," she said, adding that continued spending should bring "some stability on the employment side." 

The coming downturn would also look dramatically different from the coronavirus recession. Daily COVID-19 infections, while up from levels seen earlier in 2022, are still leagues below the highs of the Delta and Omicron waves. Restrictions have been all but entirely reversed, and the summer travel season is in full swing. Today's economy has much more in common with the pre-pandemic situation than that of early 2020.

"The type of recession we're looking at is not like a serious, massive downturn in consumer spending across the board," Brett Ryan, a senior US economist at Deutsche Bank, told Insider.

The service industry is set to win the next recession as people are eager to get back out there 

At its core, the recession will be powered by a return to more normal economic activity, Brett Ryan, a senior US economist at Deutsche Bank, told Insider. "Normal," in this case, means a pullback in how much stuff we're buying and a shift back to in-person services.

In recent months, Americans' wallets faced a "perfect storm" as stimulus aid dried up, inflation ripped higher, and interest rates started to climb, Ryan said. That trend will mainly hit Americans' elevated pandemic-era spending on goods like furniture, cars, and clothes — as opposed to services like movie theaters, bars, and transportation.

Goods spending

The switch won't be dramatic enough to cause a catastrophic downturn akin to the Great Recession, but it will pull growth lower.

"Just having goods spending pull back to its pre-COVID trend is enough for a mild recession," Ryan said.

Services, meanwhile, are poised to thrive through the downturn. Deutsche Bank sees spending on services like healthcare, lodging, and travel continuing to climb as the sectors retake their pre-pandemic trends. That uptick will keep the economy from suffering a larger drop in activity, Ryan said.

The recession, then, will likely be a bifurcated one. Americans have "accumulated a ton of wealth over the course of this cycle" through stimulus, increased saving, and a financial-market rally that only recently reversed course, Alex Lin, a senior US economist at Bank of America, told Insider. Their spending will keep service businesses on the rebound, while goods producers will face a rude awakening as the country enters its new normal.

The biggest risk lies with the Fed

Several factors stand to transform the mild recession into a severe downturn. Chief among them is inflation and, specifically, the Fed's efforts to pull price growth to more sustainable levels.

The central bank has a herculean task on its hands. Raising interest rates too quickly can weaken demand so much that spending nosedives, companies lay off workers, and economic growth plummets. Moving too slowly, however, could keep inflation at worrying highs and further erode Americans' buying power.

The central bank has emphasized it will be flexible in its plans to tighten monetary policy. Yet supply-chain problems continue to prop up inflation, and Fed Chair Jerome Powell has said that policymakers aren't banking on a solution coming soon. That leaves the onus on the Fed to bring demand more in line with supply, but doing so without halting the recovery will be extremely difficult.

"The margin of error is just so narrow," Lin said. "Monetary policy is a blunt tool. [The Fed] can't really slow things down very precisely."

For consumers, the Fed's crusade against inflation will be like a fever: uncomfortable, but necessary for healing. Rate hikes lift borrowing costs throughout the economy, making mortgages, car loans, and credit-card debt more expensive. 

Yet the policy works with a lag of about six to 12 months, meaning it won't weigh on inflation until later in 2022 at the earliest. That means, for at least some time, Americans will contend with rising interest rates and faster-than-usual price growth. 

"Yes, there may be some pain associated with getting back to [2% inflation]," Fed Chair Jerome Powell said in a May 4 press conference. "But the big pain is in not dealing with inflation and allowing it to become entrenched."

There are some early signs of light at the end of the tunnel. There are "no strong signs of overleverage" in the economy, and household balance sheets are much stronger than they were in the years after the financial crisis, Lin said. Once inflation trends lower, there's reason to believe spending will keep growing and economic growth will settle at a healthy clip, he added.

"As the consumer emerges out of the next recession, we think that the chances of a quick recovery are probably pretty good," Lin said. "It's just a completely different environment than, say, the post-financial-crisis period."

Read the original article on Business Insider

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