U.S. Recession Chances Inch Down to 26% Within Next 12 Months

While recession chatter endures amid a persistent trade war with China and a further retrenchment in corporate investment, robust signals from other aspects of the U.S. economy—like the labor market⁠—have eased concerns of an imminent downturn.

Chance of Recession Within 12 Months

Bloomberg Economics created a model to determine America’s recession odds. Right now, the indicator estimates the chance of a U.S. recession at some point in the next year is 26%, down slightly from 27% in early October. That reading is higher than it was a year ago but significantly lower than before the last recession. There are reasons to keep a close eye on the economy, but it’s not time to panic yet.

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Risks Stabilize

Probability of U.S. recession within 12 months

Source: Bloomberg Economics

The recession probability model developed by Bloomberg economists Eliza Winger, Yelena Shulyatyeva and Andrew Husby incorporates a range of data spanning economic conditions, financial markets and gauges of underlying stress. The small reduction in the recession probability reflects an easing of financial-market conditions.

The spread between three-month and 10-year Treasury securities became less negative in September, before turning positive in October. That spread has inverted before each of the last seven recessions. At the same time, the S&P 500 Index has surged to record-high levels, cutting the odds of recession nearly in half since the stock rout seen in December.

Yield Curve Reverts, Wage Growth Steady

Selected key indicators from recession probability model

Sources: BEA, BLS, Bloomberg Economics

Inflation-adjusted wages continue to grow at a healthy, albeit subdued, pace. Before the 2007-2009 recession, real wage growth declined sharply amid softening labor demand and a bounce in inflation. This restrained consumer purchasing power at a vulnerable time.

Looking at slower-burning sources of stress, corporate profit margins give some cause for concern. As profitability declines, companies will look for ways to cut costs. That could lead to a pullback in hiring—or even layoffs—denting the consumer spending that is currently the main prop to growth. However, all current indications suggest consumers remain relatively confident.

Forecasting just when a recession will begin is notoriously difficult, but as a downturn nears, indicators flash clearer warnings. Because different indicators show signs of strain at different points, the heat map below reflects the chance of a recession at various points in time, with each focusing on a different set of indicators.

For instance, the reading on whether the U.S. is on the immediate cusp of recession is based in part on weekly filings for unemployment benefits. At the three-month mark, the model focuses on financial-market variables like the spread between three-month and 10-year Treasuries. Six months ahead, the Conference Board’s Leading Economic Index takes a starring role. Looking further out, the focus is on imbalances that play out over longer periods, like corporate interest costs relative to profits.

While the Federal Reserve lowered interest rates for a third straight meeting last month, that leaves the central bank with relatively limited means to stimulate the economy should things worsen. Ahead of the Great Recession, interest rates hovered around 5%, leaving ample room to lower borrowing costs. At the start of this year, the benchmark interest rate was half that. Fed Chairman Jerome Powell said Oct. 30 that officials believe monetary policy is in “a good place” and signaled the central bank will hold off on any further cuts unless the economic outlook changes materially.

Diminishing Firepower

Federal Reserve interest rate cuts in prior downturns

*Assumes minimum target range for the federal funds rate of 0-0.25%. Years denote start of easing cycles

Source: Bloomberg Economics

Many define a recession as two consecutive quarters of negative growth. The official dating committee at the National Bureau of Economic Research takes a more holistic approach, defining a recession as a “significant decline in economic activity spread across the economy, lasting more than a few months.” As the chart below shows, not all recessions are created equal. Coming with a financial crisis attached, the latest downturn was especially protracted and deep. Previous recessions have been shorter and shallower.

Shallow or Deep?

Quarterly change in U.S. GDP following recession; 100 = start of recession

Sources: BEA, Bloomberg Economics

Recessions are usually accompanied by a swift increase in the unemployment rate. The jobless rate differs greatly between downturns depending on the breadth and severity of the recession. While unemployment peaked at 10% in 2009, and rose even higher in the early 1980s, other downturns have brought still-painful but smaller increases in the jobless rate.

Out of Work

Quarterly change in U.S. unemployment rate in past recessions

Sources: BLS, Bloomberg Economics

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