WASHINGTON – After a brutal year of rising prices and economic uncertainty, the country is ending 2022 with some signs of hope that inflation is cooling as the job market remains strong. However, economists and CEOs are warning that the economy will be on shaky ground in 2023, which could mean another turbulent year for consumers.
The year ended with a mixed picture for the economy. The US Federal Reserve’s preferred measure of inflation indicated that inflation slowed in November, although still higher than usual. Consumers spent more this holiday season, but as prices rose, they got less for their holiday cash. Despite high-profile layoffs at tech and media companies, unemployment remained relatively low at 3.7% in November.
Still, economists are forecasting a 70% chance of a recession in 2023, more than double the chance they said six months ago, according to a Bloomberg poll. But how painful that slowdown would be depends on a variety of factors both at home and abroad, including how the recent Covid outbreak in China is unfolding, what steps the Federal Reserve is taking on its way to cooling inflation, and how strong the Employers downsizing their workforces.
Here are four things to watch out for in the economy in 2023:
Covid’s tribute to China
While Covid infections in China may seem like a distant concern to most Americans, their impact on the broader economy is expected to have a major impact given China’s important role as a trading partner of the US and a large global consumer of oil and gas.
After months of strict lockdowns that caused ongoing disruptions to supply chains and severely dampened demand from Chinese consumers, China began lifting its Covid restrictions in recent weeks. Now the highly contagious Omicron variant of the coronavirus is spreading rapidly. China has stopped publishing official case numbers; A hospital in Shanghai said last week it expects half of the city’s 25 million residents to become infected in the coming days, Reuters reported.
China’s latest outbreak is fueling another wave of supply chain disruptions as factories with sick workers shut down, and it’s unclear how long it will be before infections subside and businesses return to some semblance of normalcy.
“China will eventually learn to live with Covid, but it’s going to be a really rocky road to get there, as we’ve all experienced here much earlier,” said Megan Greene, the chief global economist at the Kroll Institute, an economic research firm on Feste.
Once China emerges from the worst of the pandemic, a surge in oil consumption is expected from Chinese consumers, most of whom have been stuck at home and unable to travel for months. The return of Chinese oil demand could push up global prices and discourage Americans from filling up their gas tanks.
“By far the most important thing for 2023 is China’s Covid policy,” said Dan Klein, head of energy pathways at S&P Global Commodity Insights. “China had virtually no energy demand growth in 2022, which is pretty amazing to say the least.”
The Fed’s Next Move
The Federal Reserve has been trying to stem decades of inflation by raising interest rates since March in hopes that creating higher borrowing costs for consumers and businesses will slow spending and inflation.
The measures have taken their toll on some parts of the economy, such as the housing market, but the impact on other sectors will be felt more in 2023, economists predict.
“The Fed has done its job and will have more to do, but we don’t know exactly when that effect will hit the economy,” said Glenn Hubbard, an economics professor at Columbia University and chief economic adviser to President George W. Busch. “So I expect a recession in 2023, assuming the Fed continues on the path I expect, but of course the Fed remains a big risk.”
The key question in 2023 will be how many more rate hikes the Fed will make and how long rates will stay high while the effects play out on the economy.
While Greene, the Kroll Institute economist, believes the worst of inflation is behind the country, she doesn’t think it will get anywhere near the Federal Reserve’s 2% target by the end of 2023. As a result, the Fed will be forced to keep raising rates and keeping them high next year. Ultimately, she expects unemployment to rise to 5% before consumer spending falls enough to weigh significantly on inflation.
“That’s millions of people who will be unemployed and it’s going to have a real impact on a lot of people. I think that’s when consumers will really back off when the job market starts to deteriorate,” Greene said. “When people get laid off, or they know people who get laid off, consumers tend to really change their consumption patterns and back down for bad times.”
What’s next for the housing market
While much of the economy continued to plow along despite the Federal Reserve’s rate hikes, home sales declined for a decade straight, falling 35% year-on-year in November.
But there are signs that the turbulent real estate market is beginning to stabilize in 2023, even if the broader economy remains shaky, said Lawrence Yun, the chief economist for the National Association of Realtors, who forecast home sales to rise 6.8% would decrease in 2023 compared to 2022.
Despite the Fed’s rate hikes over the past year, Yun expects mortgage rates to fall slightly and prices to remain stable, with the median house price rising just 0.3% from 2022 as demand for houses continues to outstrip supply. But much will depend on how the overall economy performs and how long the Fed keeps rates at or above their current levels.
“Any possibility of robust activity is simply not there. The question is whether the economy can easily top the positive line or slip slightly below zero to slide into recession,” Yun said. “I think that’s the key question for the US economy.”
Yun expects rents to continue to rise, albeit at a slower pace than in 2022.
Growling in the supply chain
Helping to keep prices stubbornly high was a shortage of products and materials that persisted more than two years into the pandemic. Covid infections have continued to shut factories around the world, exacerbated by China’s easing of Covid restrictions.
Russia’s invasion of Ukraine has cut supplies of key manufacturing materials, and the war continues to create uncertainty about energy supplies, particularly for European manufacturers.
The problems have been particularly acute in the auto industry, which has experienced persistent microchip shortages as well as a number of other spot shortages of parts and materials. Congress passed legislation this year to boost domestic production of chips, but it will take several years for that offering to come online.
Meanwhile, as demand outstrips supply, car prices have risen nearly 24% over the past two years. Industry analysts expect limited stocks to last into 2023, which will keep prices relatively high.
Retailers struggled to find the right balance between supply and demand as they ended the year, trying to clear warehouses cluttered with fake goods as consumer spending habits changed. These spending partners could change again if the US enters a recession.
The big questions for 2023 will be how far these supply chain disruptions will be resolved and what impact this will have on reducing headline inflation.
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