The Breakdown - US Recession Odds Surge Over 70%

Episode Date: June 17, 2022

This episode is sponsored by Nexo.io, NEAR and FTX US.    Yesterday, the Federal Reserve increased the target Federal Funds rate by 0.75% – the biggest increase since 1994. While the markets initially popped on the news, stocks subsequently tanked and began pricing in even more economic pain to come. In today’s episode, NLW looks at the growing consensus around the idea that the United States is headed towards a recession.  - Nexo is an all-in-one platform where you can buy crypto with a bank card and earn up to 16% interest on your assets. On the platform you can also swap 300+ market pairs and borrow against your crypto from 0% APR. Sign up at nexo.io by June 30 and receive up to $150 in BTC. - NEAR is a blockchain for a world reimagined. Through simple, secure, and scalable technology, NEAR empowers millions to invent and explore new experiences. Business, creativity, and community are being reimagined for a more sustainable and inclusive future. Find out more at NEAR.org. - FTX US is the safe, regulated way to buy Bitcoin, ETH, SOL and other digital assets. Trade crypto with up to 85% lower fees than top competitors and trade ETH and SOL NFTs with no gas fees and subsidized gas on withdrawals. Sign up at FTX.US today. - This episode is sponsored by Nexo.io, NEAR and FTX US.    Yesterday, the Federal Reserve increased the target Federal Funds rate by 0.75% – the biggest increase since 1994. While the markets initially popped on the news, stocks subsequently tanked and began pricing in even more economic pain to come. In today’s episode, NLW looks at the growing consensus around the idea that the United States is headed towards a recession.  - Nexo is an all-in-one platform where you can buy crypto with a bank card and earn up to 16% interest on your assets. On the platform you can also swap 300+ market pairs and borrow against your crypto from 0% APR. Sign up at nexo.io by June 30 and receive up to $150 in BTC. - NEAR is a blockchain for a world reimagined. Through simple, secure, and scalable technology, NEAR empowers millions to invent and explore new experiences. Business, creativity, and community are being reimagined for a more sustainable and inclusive future. Find out more at NEAR.org. - FTX US is the safe, regulated way to buy Bitcoin, ETH, SOL and other digital assets. Trade crypto with up to 85% lower fees than top competitors and trade ETH and SOL NFTs with no gas fees and subsidized gas on withdrawals. Sign up at FTX.US today. - “The Breakdown” is written, produced by and features Nathaniel Whittemore aka NLW, with editing by Rob Mitchell, research by Scott Hill and additional production support by Eleanor Pahl. Jared Schwartz is our executive producer and our theme music is “Countdown” by Neon Beach. The music you heard today behind our sponsors is “Catnip” by Famous Cats and “I Don't Know How To Explain It” by Aaron Sprinkle. Image credit: Drew Angerer/Getty Images, modified by CoinDesk. Join the discussion at discord.gg/VrKRrfKCz8. - “The Breakdown” is written, produced by and features Nathaniel Whittemore aka NLW, with editing by Rob Mitchell, research by Scott Hill and additional production support by Eleanor Pahl. Jared Schwartz is our executive producer and our theme music is “Countdown” by Neon Beach. The music you heard today behind our sponsors is “Catnip” by Famous Cats and “I Don't Know How To Explain It” by Aaron Sprinkle. Image credit: Drew Angerer/Getty Images, modified by CoinDesk. Join the discussion at discord.gg/VrKRrfKCz8.  

Americans feel like the economy is off. And so the Biden camp is left having to convince voters, either, one, that it's off for different reasons than they believe, i.e. it's not his policies, or two, that their feelings are off. That is a brutally difficult argument to have to make, whatever truth there may be behind it. You're wrong about what you feel is not historically a winning political position. Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. The breakdown is sponsored by nexo.io, near an FTX, and produced and distributed by CoinDesk.

What's going on, guys? It is Thursday, June 16th, and today we are talking about the odds of a recession in the U.S. surging over 70%. Before we get into that, however, if you are enjoying the breakdown, please go subscribe to it, give it a rating. give it a review or if you want to dig deeper into the conversation, come join us on the Breakers Discord. It's where we discuss everything from macro to crypto to crypto to topics beyond, and I would love to see you there. If you want to find a link to that, you can check out the show notes or go to bit.ly.com slash breakdown pod. Lastly, a disclosure as always, in addition to them being a sponsor of the show, I also work with FTX. So today in many ways is part two of yesterday's

show. In that program, we were discussing the Fed's recent turn more hawkish. Effectively, last Friday's inflation report for the month of May, surprised to the upside, where inflation had been expected to be around 8.2%, suggesting we had peaked, and instead went up to 8.6%. Almost immediately, the Fed started signaling that they might actually raise their estimates and forward guidance of 50 basis point hikes for June and July, and consider a 75 basis point hike in the upcoming FOMC meeting, which concluded yesterday. In that episode, we talked about the implications for housing in the mortgage market in specific, and how there may be a lagging effect that shows the negative consequences of these policies for long after they have reversed when it comes to

housing. Today, of course, then we're picking up where we left off, and if you remember, Exactly as I finished recording, the Fed had officially announced a 75 basis point rate hike, as the market had come to expect. Now, this was the biggest hike since 1994 and raises the current federal funds rate to a target range of 1.5 to 1.75 percent. On top of that, Fed Chair Jerome Powell put another 75 basis point hike on the table for June. The vote for the increase was 10 to 1, with Esther George dissenting in favor of a 50 basis point hike. We also did indeed get updated estimations of the terminal rate, which is the

highest rate that the Fed expects to get to in this round of increases. At each of these meetings, the Fed releases something they call the dot plot, which shows forward projections of where they expect the federal funds rate to be over time. In the days leading up to the FOMC meeting, the bond market had ratcheted up its expectations for a higher terminal rate, jumping from between 2.5 and 3% previously to 3.5% to 3.9% in the wake of the inflation report last week. The bond market seems to have gotten it right. Official new guidance shows that the Fed anticipates raising rates to 3.4% by the end of the year, which, by the way, is a heck of a lot higher than the 1.9% guidance released in March,

and anticipate a peak of 3.8% next year. What's more, Fed officials don't see rates coming down until 2024. The Fed also anticipates inflation to be at 5.2% at the end of this year. Now, in Powell's speech and the Q&A that followed, they spent a lot of time on things that the Fed can't control. I've heard some say that this was the Fed can't print oil speech. Jerome Powell reiterated numerous times that the Federal Reserve cannot control oil prices and that their tools are pretty limited to the demand side. This, of course, is a reaction to how much of the inflation

that we're seeing is related to energy prices. The other big part of the discourse is, of course, around recession. When it comes to that, the Fed has reduced their GDP expectations. From Nick Timorouse, the chief economics correspondent at the Wall Street Journal, quote, officials projected 1.7% GDP growth this year and next, down from March projections of 2.8% and 2.2% respectively. The unemployment rate is projected by all but one official to rise over the next two years. End quote. In total, 18 participating officials expect growth to slow and the jobless rate to rise slightly. Still, when questioned about whether the Fed was attempting to tip the economy into a recession, Chairman Powell denied that this was the policy aim. Market analysts seemed to think differently.

Diane Swank, who's the chief economist at Grant Thornton, said this is a Volker-esque Fed. That means the Fed is willing to take a rise in unemployment and a recession to avert a repeat of the mistakes of the 1970s. Supply shocks won't correct themselves, so the Fed must reduce demand to meet a supply-constrained world. Renaissance macro research writes, the Fed revising down growth, revising up unemployment, and revising up inflation, which is a lagging indicator and also pushing up the path of interest rates. This is a recipe for recession. Wells Fargo writes indications that inflation is becoming more entrenched in the U.S. economy has caused the Federal Reserve to become even more hawkish. We now judge that recession next year is more likely than not.

Now, when it comes to the Fed's culpability in causing recession and being unable to fight inflation, there is still a bit of variance in the takes. Ryan Avent, the global economics reporter at The Economist, says central banking is hard, and there's obviously lots of uncertainty around. But I feel like there's a good chance we're reading macro papers in 20 years, which are like the recession of 22, 23 was yet another case of Fed overreaction to energy price shocks. Lull, why do we keep doing this? Generally, I think that because there was a pre-existing inflation issue, many people are sort of missing what a profound inflation shock the war has been,

and are perhaps misjudging the nature of the inflation threat we now face. Joe Wisenthal from Bloomberg writes, it's been clear for a while that there's very little appetite for any kind of nuanced analysis of inflation. But it seems like Powell made it official today, that really the main thing that matters is just gasoline, because regardless of the cause, gasoline flows to expectations. Apologism aside, a lot of folks think that there was not enough clarity coming from the Fed. Jeffrey Gunlock wrote, Powell today said that the critical goal is to get inflation down to 2% while minimizing unemployment in the inflation fight.

Want to hear the plan, not just the goal. Nimble is not a plan. Nimble risks over steering on individual data releases. Paint or get off the ladder. The mainstream left in the U.S. meanwhile has a very different interpretation. John Nichols, who's a reporter at the nation, said the Fed had two options for tackling inflation. One, encourage a crackdown on price gouging and taxation of the rich. Two, raise interest rates to a level that will lead to less employment, lower wages, and a general slowing of the economy. And they chose an interest rate hike. Now, in no way am I delegitimating

this as something that's worth discussing, but it is important to note that the Biden administration and the Dems in Congress are fighting for their political lives right now. They desperately need to shift the narrative. And that's not to say that they wouldn't have come to the same conclusion that price gouging and taxation was the right path out of this. But it is very, very clear that the narrative has to shift for them to have any chance in the U.S. midterm elections coming right up in November. Nexo lets you easily buy crypto with your bank card and earn industry leading interest rates. Earn up to 16% on crypto and up to 12% on stable coins. Nexo makes passive income easy with interest paid automatically and daily. With Nexo, you can also borrow against your crypto at 0% APR and exchange over 300 pairs.

Receive a welcome bonus of up to $150 in Bitcoin until June 30th at nexo.io. That's nexo.io. This episode is brought to you by Meir, a climate neutral, high speed, and low transaction fee, layer one blockchain platform. NIR is a blockchain for a world reimagined. Through simple, secure, and scalable technology, NIR empowers millions to invent and explore new experiences. Business, creativity, and community are being reimagined for a more sustainable and inclusive future. Reimagined your world today at NIR.org. The breakdown is sponsored by FTXUS.

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What about what the actual market? thinks. In the wake of the press conference, there was an immediate equities in crypto bounce, which had people momentarily excited. However, there are a couple possible reasons for this leg up. One is, of course, that markets liked what they heard. They want inflation solved and they want a Fed that's willing to do whatever it takes. The second, however, is a little bit different and could just be an unwinding of tail hedges. In other words, in the lead-up to every FOMC meeting, there are speculations about a range of results. In general, the Fed has shown up fairly in the middle of those expectations. That means that whoever was hedging the extreme hawkish possibility has to

unwind that position. Lily Francis, aka Nobit's Lily, said something along these lines. Writing might have been a positioning rally. Be careful feeling too bullish. People were expecting X, and only 0.75% X happened, so they're closing out 0.25X. Whatever the reality of the bounds, it did not last long. This morning, the headlines blared. U.S. recession odds hit 72%, threatening Biden presidency. S&P 500 sinks 3% as recession feels royal trading. JPMorgan strategists say stocks imply 85% chance of U.S. recession. Dow drops more than 700 points as post-Fed rally fades. NASDAQ hits lowest level since September 2020. U.S. faces a Fed-triggered recession that may cost Biden a second term. So as the Dow heads down for the 10th out of the last 11th weeks, the first time, by the way,

that that's happened since the Great Depression, the story coming through here is pretty clear. The Fed is fighting hard against inflation. In so doing, it's creating conditions that may lead to a recession. Americans feel like the economy is off. And so the Biden camp is left having to convince voters either, one, that it's off for different reasons than they believe, i.e. it's not his policies, or two, that their feelings are off. As Bloomberg puts it, quote, Biden's economists are laying out arguments for why the soaring cost of living isn't Biden's fault. And the economy is much better than voters seem to think it is. That is a brutally difficult argument to have to make, whatever truth there may be behind it. You're wrong about what you feel is not historically a winning

political position, especially when last week sentiment among U.S. consumers went down to the lowest levels since 1978. There is a chart in Bloomberg, which obviously I can't show you because you're listening to this, but it really shows just how terrible a year it's been both for the economy and for the administration that has presided over it. Between January 21 and now, the inflation rate has gone from under 1% to over 8%. Consumer sentiment has gone from between 70 and 80% down to around 50%, and President Biden's approval rating has gone from about 55% to under 40%. Now, economists have a term, the misery index, which adds inflation and unemployment. Currently, it is higher than it was in several post-World War II recessions. From Bloomberg again, quote,

Linda Lake, one of Biden's top pollsters during the 2020 election, says her focus groups are awash with talk of the rising cost of gas and housing and how wages aren't keeping up. Lately, concern about the sliding value of 401k retirement funds has been surfacing too. One of the key challenges here as well is that it's not just one group dealing with this misery, but everyone. Consumers on the lowest end of the spectrum are dealing with massively more costly food and rent. Those who have eeked ahead a little bit and tied their money to the stock market have found the S&P 500 down 20%, officially bare market territory. And as we discussed yesterday, the average mortgage has almost doubled to 6% in the last six months,

making homeownership for many even more out of reach. According to a U-Gov and economist poll, a majority of Americans now believe the U.S. is already in a recession or will be in the next 12 months. The lowest group in terms of believing the U.S. is already in a recession are Democrats, who came in around 40%. and even they tip the scales above 70% when it comes to their belief that we will be in a recession within the next 12 months. It really is a shocking chart. Republicans, income over 100K, income 50K to 100K, age 50K to 100K, age 65 and over, independence, women, registered voters,

men, age 18 to 29, Hispanics, income under 50K, age 30 to 44. All of these groups have over 50% believing that we are already in a recession. Now, even with this, market analysts are even more convinced than the general public. According to JPM, the S&P 500 now implies an 85% chance of a U.S. recession. This warning is based on the average 26% decline for the S&P 500 during the past 11 recessions. And on top of all this, while Fed Chair Powell may be saying that there is no recession and causing a recession isn't the plan, some of the individual Fed seem to disagree. Terrick Brooker, an independent economic journalist, writes, The Atlanta Fed GDP forecast for Q2 GDP has been downgraded to zero percent.

With Q1 already a negative print in the books, the U.S. may already be in recession. What about the housing side that we discussed yesterday? Any new data points there? If you'll remember, April saw good news on housing starts, aka new home construction. That month saw 1.81 million new housing starts, which was the strongest number since 2006. In May, however, residential starts declined 14.4%. They're at their lowest level in a year and way lower than the median forecasts. What's more, applications to build, which is a proxy for future construction, also fell to their lowest point since last September. As you might expect, most interpretations of this data are

pointing to pressure from higher mortgages. While it's a take it or leave it type of evidence, real estate TikTok is, in my experience, full of videos of real estate folks pulling back on new deals because of rising rates. Lastly, as we wrap up, what about other parts of the world? Is this a U.S. only phenomenon? The short answer is no. The Bank of England raise rates, by 0.25%, which is their fifth straight raise. And in Europe, as Lynn Alden writes, the ECB had an emergency meeting today and announced a new tool to address southern European debt problems. In short, the ECB is trying to deal with interest rate spreads on government bonds between southern European countries like Italy and northern European countries like Germany.

The 10-year Italian bond is at 4%, while the German 10-year bond is at 1.65%. The ECB did not announce at this meeting an interest rate policy change, but they did announce an intention, quote, to speed up the completion of the design of a brand new anti-fragmentation instrument. Many commentators have noted that this looks just like QE under a different name. Jim Bianco sums it all up. The ECB held an emergency meeting today, it's first since March 2020, to, quote, create a new tool to combat unwarranted jumps in euro area bond yields. The ECB actually has a tool to combat unwarranted jumps in euro area bond yields. It's called QE. But they can't use that tool if they are trying to rein in inflation. So, they are looking for some magical tool that

allows them to both combat inflation and bring down rates. Hint, that tool does not exist. And should they even be concerned with spreads? Shouldn't they be more concerned with inflation? In the end, I believe the ECB has no choice but to pick fighting inflation like the Fed. The markets know this, which is why the global aggregate total return chart is collapsing. Rates have to go a lot higher and the pain that brings. So there you are. That is the state of when it comes to the larger macro environment. As every day and every week passes, we get more and more numbers rather than just narratives that suggest where we're heading. Certainly in crypto, this has been a week of settling in to the reality that we may be in for a longer period

down here than we would have liked. But such is the nature of markets. Last thing before we close out, tomorrow, CoinDesk will be closed honoring the Juneteenth holiday, so there will be no show on Friday. We'll be back to our regular schedule on Saturday. For now, I want to say thanks again to my sponsors, nexo.io, near and FTX. And thanks to you guys for listening. Until not tomorrow, but the day after, be safe and take care of each other. Peace.