The economy is clearly cooling, which is a mixed blessing for President Biden. Maybe it means weaker demand will finally get inflation under control. Or maybe it means the oft-predicted recession is actually on its way.
Retail sales dropped by 1% from February to March, a sharper decline than economists expected. That was the second drop in a row and the fourth decline in the last five months. Lower energy prices explain part of the falloff, which is good news. But every category was weak and there was no silver lining.
U.S. manufacturing output also fell by 0.5% in March, as U.S. and global demand for American goods softened. “Real consumer spending ended last quarter on a weak note and the handoff to Q2 is weak,” Oxford Economics reported on April 14. “The economic environment will become less favorable for consumers as income gains slow, excess savings run dry, prices stay high, and credit flows less freely.”
Consumer spending powers the U.S. economy, and when wallets grow thin, it’s worrisome. For now, there are a couple of mitigating factors. Retail sales mostly measure trade in goods sold at stores, and it’s well known that consumers loaded up on goods during the COVID pandemic, when they couldn’t travel or go out as much as usual. What's happening now is a shift in spending away from goods back toward services, which in a way is a return to normal.
Spending on services, measured by a different indicator, is holding up a bit better than spending on goods. But that’s slowing down, too, as inflation weighs on family finances and people spend down much of the excess savings they built up during COVID. Federal stimulus money, meanwhile, has largely run out.
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The interplay between spending and inflation directly affects Biden’s reelection prospects, assuming he runs again, as he has indicated. The latest price data shows inflation dropping to 5% in March, from a peak of 9% last June. That’s obviously going in the right direction. Yet there’s a sharp distinction between goods and services prices.
Goods inflation is now just 1.6%. A few things, such as food, are still too pricey. But other prices are dropping, especially the cost of gasoline and other forms of energy. Car prices are finally leveling out and tech products are gradually declining as the shortage of microchips eases.
The cost of services, however, is still rising at an uncomfortably high 7.3%, year-over-year. Rent is the biggest contributor. Travel costs are up, too. Inflation won’t be tamed until services inflation drops like goods inflation, bringing the overall rate of price hikes to 3% or less on an annual basis.
This might look like a “soft landing” scenario, in which the Federal Reserve raises interest rates by enough to cool the economy, without causing a recession or some other manmade fiasco. But shock waves are still emanating from the failure of two banks in March, and the worst may be yet to come.
The banking crisis itself looks to be contained, with the government able to keep depositors whole and therefore prevent other bank runs that could become a contagion. But banks are tightening up lending in the aftermath of the two failures, to lower their risk profiles. Credit has already been tightening thanks to aggressive Federal Reserve interest-rate hikes. The flow of credit to businesses and consumers will narrow further in coming months, as banks hunker down to ride out any further turmoil.
The never-ending recession watch of the Biden years has grown tiresome, but it still matters. Voters are gloomy to start with, probably because inflation has battered consumer psyches. That has kept Biden’s approval ratings in the low 40s, not a strong place to begin a reelection campaign. If there really is a recession that pushes up unemployment, Biden could be toast, especially if it occurs in 2024, as the next presidential campaign reaches full stride.
One way to tell is to watch initial claims for unemployment insurance (along with everything else). Like other economic data, those have been weakening lately, as more companies lay off workers. The current level, around 240,000 new claims per week, is okay. But if it rises above 300,000 and stays there, that’s a recession indicator. All those predictions of a recession might not be wrong, they might just be a bit premature.
Rick Newman is a senior columnist for Yahoo Finance. Follow him on Twitter at @rickjnewman
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