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As President Biden prepares to deliver his State of the Union address Tuesday night, he sits with an economic conundrum.
The Federal Reserve has hiked interest rates by 4½ percentage points over the past 11 months, one of the strongest moves in several decades to cool the economy and dampen rising prices.
Yet employers continue to hire as if the good times will never end. In January they added 517,000 jobs – almost double the number in December – while the unemployment rate fell to its lowest level since 1969.
During his speech at the Eisenhower Executive Office Building on Friday, the President did a lap of honor and declared that the “economic situation is strong”. Its annual appearance before a joint session of Congress will almost certainly include a claim that the economic boom is no accident; It’s the result of administrative policies, including America’s $1.9 trillion bailout plan and efforts to smooth out tangled supply chains.
This Biden boom is sure to confuse skeptics who have been predicting for months that the Fed’s anti-inflation campaign would trigger an imminent recession. But the economy’s unexpected performance is also testing the ability of policymakers to keep the recovery going.
“This is not a standard business cycle. … It’s unique,” said Fed Chair Jerome H. Powell last week. “Certainty is not appropriate here.”
In fact, the post-pandemic economy is proving difficult to imagine.
Growth has slowed to 2.9 percent in the most recent quarter from an annual rate of 7 percent at the end of 2021, which the president had expected in public statements a year ago.
This downshift was the first step towards a “soft landing” – curing inflation without a sharp rise in unemployment. However, slowing growth was expected to be followed by a similar moderation in job creation and Friday’s Blockbuster report, which included upward revisions for November and December, showed that has not yet happened.
As jobs sprout rather than shrink, the Fed is likely to continue raising the cost of borrowing for businesses and consumers. The danger is that the Fed will go too far in trying to control inflation and plunge the economy into recession.
Whether the US can continue to defy the odds of a recession depends on what happens in industries like leisure and hospitality, healthcare and entertainment. These service businesses are enjoying a boom as consumers return to their pre-pandemic lifestyles.
Hotels, airlines and medical clinics are all hiring like crazy. The Las Vegas Sands, a casino and resort company, lists 50 job openings on its website, including cybersecurity specialists, attorneys, and a receptionist. HCA Healthcare, which operates medical facilities in 21 states and the United Kingdom, hires doctors in Texas, nurses in Kansas and laboratory assistants in Colorado.
Commodity prices, which were a major contributor to inflation last year, have started to fall. Other key spending categories are expected to follow soon. Advertised apartment rents, for example, are cooling down. But it will take time for these changes to be reflected in official government data.
White House officials are seeing signs that wages in the service sector of the economy are not rising at the pace of last year. If that moderation continues, it would take the pressure off prices and allow the Fed to halt raising rates, according to a senior administration official, who spoke on condition of anonymity to discuss internal deliberations.
“We don’t see it. It’s not happening yet,” Powell told reporters this week, referring to a reversal in services inflation.
The bigger problem is that Friday’s jobs report shows that understanding the economy just doesn’t get any easier. While the worst of the pandemic is in the past, businesses and consumers still bear their scars.
Americans behaved differently in the days of Covid restrictions, buying significantly more goods than usual and using fewer personal services.
The economy reacted. Transportation and warehousing businesses grew and now employ about 1 million more workers than in February 2020, while leisure and hospitality businesses are still short of 495,000 workers, according to the Bureau of Labor Statistics.
According to Daleep Singh, chief global economist at PGIM Fixed Income, they are short of nearly 1.5 million workers, which they would likely need now if they had grown at their typical pace over the past three years.
Friday’s jobs report provided insight into key hiring trends. Manufacturing companies hired 46,000 new workers in January, according to seasonally adjusted statistics from the Department of Labor. But service companies added nearly nine times as many, or 397,000. Leisure and hospitality were among the most active industries along with healthcare.
After laying off tens of thousands of workers in the early months of the pandemic, major airlines have scramble to hire new workers. American Airlines has hired about 40,000 people over the past two years and plans to hire more this year, including about 2,000 pilots, executives told investors last month.
Robert Isom, the airline’s chief executive, described the hiring wave as “unprecedented”.
Likewise, United Airlines, which never hired more than 900 pilots in a year before the pandemic, hired 2,500 last year, CEO Scott Kirby recently told investors. “Pilots are and will remain a significant capacity constraint,” he said.
Beneath the surface of the $25 trillion US economy, industry and consumers are beginning to establish a new normal. Many pre-pandemic habits have disappeared. But the economy remains in the shadow of a once-in-a-century global catastrophe.
At auto parts maker Clips & Clamps Industries in Plymouth, Michigan, Jeff Aznavorian senses a slight downturn approaching. The company’s president hopes to hold on to its existing annual revenue of $15 million this year before an expected surge in business in 2024.
So far the orders are holding up. Last year’s supply chain troubles are just a memory. His biggest headache, he said, is insecurity.
“I can see February and March pretty clearly. Beyond March I can’t see anything at all,” he said.
Fed and Wall Street analysts have the same problem. Standard economic models, which economists use to predict future developments, build on the experience of the last few decades.
There is no manual for managing the fallout from a global pandemic that has included societal lockdowns, closed factories and staggered national reopenings. Standard relationships – like the link between job gains and wages or between employment and inflation – are breaking down.
“We have a murky understanding of how this post-pandemic economy works,” Bernard Baumohl, chief global economist for the Economic Outlook Group, wrote in a note to clients on Friday.
The Fed should rethink conventional economic theory that says inflation is bound to rise when the unemployment rate falls because employers competing for a dwindling labor pool will raise wages and eventually prices, he said.
That theory doesn’t explain last year, when the annual rate of increase in average hourly wages fell to 4.4 percent last month from 5.9 percent in March — even as the job market tightened, Baumohl said.
Further clouding of the economic outlook: The aftermath of the pandemic coincides with a multitude of unusual forces. The aftermath of war in Europe, unpredictable populist governments and the transition from fossil fuels to renewable energy are making the Fed’s task more difficult, said Singh, a former Biden adviser.
In addition, the full impact of the central bank’s rate hikes over the past year has yet to be felt. And an expected battle between the President and House Republicans over raising the debt ceiling could spark further economic turmoil.
“The era of ‘Great Moderation’ in the global economy is over for now and will not return anytime soon,” Singh said. “We are in a phase of greater volatility. We are in a phase of adjustment.”
The Fed’s median forecast assumes that the economy will grow little this year, expanding by just 0.5 percent. Many Wall Street analysts are calling for a shallow recession beginning in the spring.
“If we do have a recession, it’s likely to be very mild by historical standards,” said Eric Winograd, senior economist at AllianceBernstein in New York.
“Here we are: the strongest job growth in history; the lowest unemployment rate in 54 years; manufacturing is recovering faster than it has in the past 40 years; inflation falls; Real wages are rising – but rising moderately, not through the roof; the economy is growing at a solid pace,” he said. “Put simply, I would argue that the Biden economic plan is working.”
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