Economic growth around the world has slowed to a crawl but (so far) there are few signs of the second-round effects on jobs, income and spending that would turn a significant slowdown into an outright recession.
The International Monetary Fund has forecast global output will increase by just 3.0% this year, the slowest expansion since the recession of 2008/09 ("World economic outlook", IMF, Oct. 15).
The Fund expects growth to accelerate slightly to 3.4% next year but only because of a slightly better performance in economies such as Turkey and Argentina currently under severe strain.
The slowdown has been synchronised globally and centred on manufacturing, investment and trade as rising tariffs and increased policy uncertainty have hit business confidence and consumer spending on motor vehicles.
In recent months, there have been signs the slowdown has spread from the more volatile manufacturing sector to infect more stable services industries, raising the threat of a recession to its highest level for a decade.
So far, however, there have been few of the second-round effects on employment, incomes and consumer spending that would turn a slowdown into a more serious downturn.
US manufacturers reported production excluding motor vehicles and parts was down 0.7% in the three months between July and September compared with a year earlier, the worst performance since late 2016.
But the number of employees in manufacturing was still up 1.0% compared with the same period a year earlier, while aggregate hours worked were down but only by 0.3% (“Current employment statistics”, BLS, Oct. 4).
For the whole US economy, personal incomes minus transfer payments from the government such as social security were still up by 2.8% in real terms in the three months from June to August compared with a year earlier.
Real consumer expenditures were also up 2.5% in June-August compared with the same period in 2018, down from 3.5% growth a year earlier but well above recession levels (“Personal income and outlays”, BEA, Sept. 27).
The US slowdown is real and significant, but unless it starts to translate into job losses and reduced income growth it is unlikely to become a full-blown recession.
Growth has been hit even harder in the rest of the world, especially in economies with a heavy exposure to international trade such as China and Germany.
But there have been few reports of widespread job losses, which suggests the slowdown is showing only first-round effects so far.
Recessions, like booms, are caused when the change in economic activity is amplified and becomes self-reinforcing through second-round positive feedback effects.
The challenge for policymakers is to create a firebreak to prevent the slowdown from becoming a slump, and there are signs that the risks have been recognised at the top level.
In response to growing fears of recession and signs of ebbing growth, the Federal Reserve has already cut interest rates by 50 basis points since July, with other major central banks also taking steps to ease financial conditions.
Prodded by the deteriorating economic outlook, trade negotiators from the United States and China have also displayed greater flexibility and claim to be making progress towards a phased agreement.
While any deal is unlikely to settle all economic disputes between the two nations, it could provide a truce and prevent further damaging tariff escalation that would almost certainly tip both economies into recession.
Provided policymakers can avoid any further unnecessary shocks to the system, the global economy has a fair chance of avoiding a recession.
The progressive inversion of the US Treasury yield curve through the latter part of 2018 and the first nine months of 2019 was symptomatic of growing fears about recession and expectations of interest rate cuts.
Since the start of October, the yield curve inversion has been reversed, reflecting greater hopes for a trade deal as well as economic data suggesting conditions are not worsening as rapidly as feared.
Recent yield curve movements are only partially reassuring. The curve normally inverts well before the onset of a recession and then starts to un-invert a little before the recession itself kicks in.
The initial inversion is driven by fears of a slowdown, but the curve starts to un-invert as policymakers respond to weakening activity by cutting short-term interest rates aggressively in an attempt to sustain the expansion.
Significant and sustained yield curve inversions have preceded every recession in the last 50 years, and in almost all cases the curve has started to un-invert before the recession actually starts.
Not since 1966/67 has there been a significant and sustained inversion followed by a soft landing rather than a recession (“Annual report of the Board of Governors of the Federal Reserve System”, 1966 and 1967).
In that case, the Fed acted to tighten credit and bank lending significantly in late 1966 to cool an overheating economy and then reversed course in 1967 when the economy showed signs of slowing significantly.
Top Federal Reserve officials will be hoping for a similar outcome in late 2019 and early 2020, with rate cuts intended to provide a soft landing and sustain a continued expansion.
From now, however, rate cuts will matter less than whether a trade truce is achieved and uncertainty for business can be reduced, and whether or not manufacturers and services firms react to the slowdown by cutting jobs and scaling back wage increases.
John Kemp is a Reuters market analyst specialising in oil and energy. Before joining Reuters in 2008, he was an analyst for Sempra Commodities, now part of JP Morgan and Mercuria. He holds a degree in Philosophy, Politics and Economics from the University of Oxford.