The U.S. economy has little chance of falling into a recession this year or next unless the Federal Reserve raises interest rates more than they are currently projecting, according to a new forecast released yesterday at the 13th annual Inland Empire Economic Forecast Conference, hosted by the UC Riverside School of Business.
“Although there are signs of stress in parts of the economy, the wealth created by the excessive fiscal stimulus enacted in 2020 and 2021 continues to drive a consumer consumption binge that will propel the economy forward,” said Christopher Thornberg, director of the UC Riverside School of Business Center for Economic Forecasting and one of the forecast authors. “The only possible thing that could tip things downward in the near-term is if the Fed applies even more aggressive quantitative tightening to control inflation than they’re now projecting.”
If the Fed stamps out inflation in the near-term by forcefully reducing its balance sheet, it will drive up interest rates, cool financial markets sharply, and possibly create a modest recession next year led by consumer cutbacks, according to the new outlook. However, in the longer term, if Fed action is inadequate, the United States may be looking at several years of very weak growth, with consumers in a relatively poor financial position at the end.
“This is now a balancing act,” said Thornberg. “Functionally speaking, policymakers went from maximum acceleration – the stimulus – to maximum braking – tightening by the Fed – over a single year, something that would create turbulence in even the healthiest economy.”
Although the new forecast is predicting economic growth to continue in the nation, California, and the Inland Empire in the short run, albeit at a slower pace (“we’ve cooled from white-hot to red-hot”), in the longer term, the major economic wildcard comes from the growing Federal deficit. According to the new forecast, much will depend on how long bond markets are willing to tolerate the excessive level of today’s U.S. government debt.
In California, the state is on the brink of a milestone: recovering all the jobs it lost during the pandemic-driven downturn and mass retirement. While many states have already reached full recovery, as of this writing, California still has a 47,300 job deficit. However, it’s increasingly likely that the state’s job count will be above water by the end of this year, according to the forecast.
Key findings:
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In the United States, inflation is moderating and may have peaked, but it won’t decelerate rapidly. Expect price growth and interest rates to remain elevated in the near term.
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Consumer spending now accounts for the highest share of U.S. GDP since 2006. This consumption is also apparent in the rapidly growing U.S. trade deficit, which accounts for the largest a share of GDP since the runup to the Great Recession.
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There is a massive amount of equity in the current U.S. housing market driven by a decade of low mortgage debt accumulation. The industry also has very low inventories of existing homes for sale and vacancy rates are still at a record low level. This is not a market that is due for a collapse — at least not yet.
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The major problem for new housing is the ultra-low mortgage rates homeowners currently enjoy. Anyone who sells now will have to go from a sub-3 rate to something in the 5+ category. That is not a move most homeowners make — unless they have to. The ‘move-up’ market is all but frozen.
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California's employment recovery has been uneven, with inland communities faring better than coastal areas. The Inland Empire has 5 percent more jobs today than it had prior to the pandemic, while at the other end of the spectrum, there are still 3 percent fewer jobs in Ventura County.
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California's labor force contracted during the pandemic and employers have struggled to find workers, especially in coastal communities. The primary reason behind the labor force changes is population growth. From 2019 to 2022, population grew in inland communities and declined in coastal communities, driven by affordability.
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After two years in which California’s housing market went gangbusters, and home prices increased an average 43 percent, the rising interest rate environment, in addition to stretched prices, has led to a major slowdown in 2022. A price crash in the market is nowhere in sight, although a slowdown in price growth is expected.
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The share of homes purchased by investors in the Inland Empire is at record highs. This parallels the nationwide interest by private equity in purchasing large swaths of residential real estate. This forecast expects the share of homes purchased by investors to increase.
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Current sale price cuts for homes in the Inland Empire are more of a reality check than a price decline warranting concern. The rate of bidding wars has only dipped to levels seen in the early part of 2020.
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The Inland Empire has experienced a tremendous boom in Transport and Logistics employment (16.6 percent of all jobs in the region are now in this sector). The Information sector has grown, but lags other employment categories, highlighting the relative underrepresentation of knowledge workers in the region. This forecast expects employment in the Inland Empire to continue growing, although at a tapered pace.
The 13th annual Inland Empire Economic Forecast Conference was held on October 5th. A copy of the forecast book can be downloaded in its entirety here.
