Paradox in the U.S.: the risk of economic recession from the healthy job market itself

Photo by Getty / CNBC.

According to CNBC, there has never been a historic precedent in which a recession economy could create 528,000 new jobs in a month like the U.S. economy in July. The US unemployment rate in July was 3.5 percent, the lowest since 1969, nor does it fit the definition of an economic downturn.

But that doesn't mean there isn't a recession waiting for the U.S. economy ahead. The irony here is that the stability of the labor market can put the entire economy at the greatest long-term risk. This is because the tightening of the job market strengthens the possibility that the Federal Reserve (Fed) continues to raise interest rates sharply to control inflation is on the rise and has reached the highest level in more than 40 years. One effect of raising interest rates would be to relieve the tightening of the labor market and reduce the rise in wages, thereby reducing inflationary pressures.

THE FED'S MISSION IS NOT EASY
“The problem is that the strength of the job market creates more room to keep raising interest rates, and that raising rates increases the risk of the economy falling into a recession, " said Jim Baird, chief investment officer at Plante Moran Financial Advisors. "Continuing to tighten monetary policy without causing a negative effect on consumers and the economy is absolutely not an easy task."

In fact, after the brilliant employment report-which included a 5.2% increase in hourly wages over the same period last year – Wall Street traders raised their bets on the Fed's rising toughness. On Tuesday, the market betted the possibility that 69% of the Fed had a third consecutive 0.75 percentage point rate hike during a monetary policy meeting in September, according to data from CME Group.

On Wednesday, financial markets will receive another important report from the U.S. Department of Labor, which is the Consumer Price Index (CPI) - the most interested inflation gauge. According to forecasts, the index continues to rise sharply, reflecting rising price pressures despite a sharp decline in U.S. gasoline prices in July.

A " hot " figure on inflation would make it harder for the Fed's efforts to use the interest rate tool to curb consumer prices without pushing the economy into a recession. Global bond investment director Rick Rieder of asset management giant BlackRock said the challenge for the Fed today is " how to make a soft landing while the economy is hot, and that landing takes place on a runway that has never been used before."

"The employment report is much better than expected, making it difficult for the Fed when it wants the job market to calm down to pull inflation down. The question now is how much interest rates will rise before inflation can be controlled."Mr. Rider wrote in a report.

THE WORST HAS NOT YET COME?
In Friday's session, the two-year yield was higher than the 10-year yield with the highest spread in about 22 years. The yield of short-term bonds that exceed the yield of long-term bonds is called the yield curve reversal - a sign that an economic downturn may be imminent, especially when that reversal lasts. Currently, the U.S. Treasury yield curve has reversed since early July.

The reversal of the yield curve not only indicates an impending recession, but usually occurs after 1-2 years. This means that the Fed has time to manage, but it also means that the Fed must not raise rates at a slow pace but raise rates quickly - something policymakers want to avoid - so that when the downturn occurs, they can already control inflation and start moving to lower rates to save growth.

"This is certainly not my main scenario, but I think we're going to start hearing people talk about a consecutive sharp rate hike. However, this will only happen if the next Inflation Report shows the heat of prices, " said Charles Schwab chief strategist Liz Ann Sonders.

Sonders called the situation a "special cycle" in which demand shifts from goods to services and poses many challenges to the economy, making the debate over whether the U.S. economy is already in decline less important than what awaits the economy ahead.

It is also a common view of economic experts in general, who fear that the hardest part of the journey has yet to come.

"Although gross domestic product (GDP) has fallen for two consecutive quarters in the first half of this year, a strong job market means the economy may not be in recession. However, economic activity is expected to continue to decline from now until the end of the year and it is increasingly likely that the U.S. economy will fall into recession by the end of this year or early 2023, " said Frank Steemers, senior economist at the Conference Board.