The Next Recession: What It Could Look Like

With the New Year and the US recovery soon to be record-breaking in duration, many are asking when the next recession is likely to come and what will cause it. While none of us has a crystal ball that gives a clear view of the future, there are a few things we can say.

First, and most importantly, the next recession will not look like the last recession. The last recession was caused by the collapse of a massive housing bubble that had been the driving force in the previous recovery. While economists like to pretend this was an unforeseeable event, that is not true.

There was an unprecedented run-up in nationwide house prices. It was clear that this was not being driven by the fundamentals of the housing market, as there was no remotely corresponding increase in rents, and vacancy rates were hitting record levels.

Furthermore, it was easy to see the housing bubble was driving the economy. Residential construction was hitting record shares of GDP, more than two full percentage points above its long-term average of 4.0 percent of GDP.

The wealth created by the bubble was also leading to a consumption boom, as people spent based on the new equity created by the run-up in the price of their home. This was also easy to see in the data, as the ratio of consumption-to-income hit record levels.

This history is important to review because many analysts are looking for the next recession to be a replay of the 2008 crash. If we pretend that the bursting of the housing bubble and subsequent downturn was an unforeseeable event, then there could be other unforeseen events that will sink the economy. For this reason, it is necessary to point out that the 2008 collapse was entirely foreseeable, economists just ignored the evidence that was visible to anyone who examined the economy with open eyes.

If we rule out the collapsing bubble as the story for the next recession, we are left with the standard story that explains every recession since the end of World War II and before 2001. The Federal Reserve Board raises interest rates too high in an effort to head off inflation. While this chain of events is not likely to trigger a recession in 2019, it is certainly plausible that it will play out in 2020.

While wage growth has been sluggish following the Great Recession, the tighter labor market is finally giving workers more bargaining power. The year-over-year rate of increase in the average hourly wage (the most commonly used measure) was 3.2 percent in the December data. That is up from a 2.5 percent rate in 2017. If we take the annual rate for the most recent three months compared with the prior three months, it is slightly faster at 3.3 percent.

This pace of wage increases is not terribly fast, but it does seem likely that the pace will continue to accelerate if the labor market stays tight. The rate of productivity growth has remained very weak in this recovery at just over 1.0 percent.

Productivity growth acts as an offset to wage growth. If productivity growth were equal to growth (3.2 percent in the most recent data) then employers are seeing no increase in their labor costs per unit of output.

However, in a context where wage growth is 3.2 percent and productivity growth is just 1.0 percent, labor costs per unit of output are rising at a 2.2 percent rate. If wage growth accelerates with no corresponding increase in productivity, then labor cost per unit of output will be rising more rapidly.

Higher labor costs will not be passed on directly in higher prices. Conditions of competition will likely limit firms’ ability to raise prices. This means profits may be reduced to some extent. This is perfectly reasonable, since there was a large increase in profits at the expense of workers in the Great Recession.

However, at some point it is likely that higher labor costs will lead firms to raise their prices more rapidly. If the Fed is committed to maintaining its target of a 2.0 percent average inflation rate, it will find it as necessary to raise interest rates to increase the unemployment rate and reduce workers’ ability to secure pay increases. While it surely does not want to induce a recession with higher rates, the history suggests that this is a likely outcome.

Again, this is not a story that is likely to play out in 2019. The inflation rate remains under 2.0 percent using the core personal consumption expenditure deflator, which is the key measure for the Fed. However, if wage growth does continue to pick up in the next few months, then we are likely to see a somewhat higher inflation rate in the near future.

That could trigger more aggressive rate hikes by the Fed. Given the lag between increases in interest rates and their impact on the economy, Fed rate hikes in the middle of 2019 will not lead to a recession in 2019, but they certainly could in 2020.

That would be my best guess as to what the next recession looks like and when it will come. There can always be extraneous factors that would hugely change the picture. For example, if a war or revolution lead to large disruptions of oil flows and therefore sharp price rises. It is also possible that Trump’s trade wars get completely out of control and go from being minor drags on the economy to major disruptions.

But, barring these sorts of unpredictable events, I would go with a Fed-induced recession in 2020.

This article originally appeared on The Hankyoreh (Korea).

More articles by:

Dean Baker is the senior economist at the Center for Economic and Policy Research in Washington, DC. 

Weekend Edition
August 16, 2019
Friday - Sunday
Paul Street
Uncle Sam was Born Lethal
Jennifer Matsui
La Danse Mossad: Robert Maxwell and Jeffrey Epstein
Rob Urie
Neoliberalism and Environmental Calamity
Stuart A. Newman
The Biotech-Industrial Complex Gets Ready to Define What is Human
Nick Alexandrov
Prevention Through Deterrence: The Strategy Shared by the El Paso Shooter and the U.S. Border Patrol
Jeffrey St. Clair
The First Dambuster: a Coyote Tale
Eric Draitser
“Bernie is Trump” (and other Corporate Media Bullsh*t)
Nick Pemberton
Is White Supremacism a Mental Illness?
Jim Kavanagh
Dead Man’s Hand: The Impeachment Gambit
Andrew Levine
Have They No Decency?
David Yearsley
Kind of Blue at 60
Ramzy Baroud
Manifestos of Hate: What White Terrorists Have in Common
Evaggelos Vallianatos
The War on Nature
Martha Rosenberg
Catch and Hang Live Chickens for Slaughter: $11 an Hour Possible!
Yoav Litvin
Israel Fears a Visit by Ilhan Omar and Rashida Tlaib
Neve Gordon
It’s No Wonder the Military likes Violent Video Games, They Can Help Train Civilians to Become Warriors
Susan Miller
That Debacle at the Border is Genocide
Ralph Nader
With the Boeing 737 MAX Grounded, Top Boeing Bosses Must Testify Before Congress Now
Victor Grossman
Warnings, Ancient and Modern
Meena Miriam Yust - Arshad Khan
The Microplastic Threat
Kavitha Muralidharan
‘Today We Seek Those Fish in Discovery Channel’
Louis Proyect
The Vanity Cinema of Quentin Tarantino
Bob Scofield
Tit For Tat: Baltimore Takes Another Hit, This Time From Uruguay
Nozomi Hayase
The Prosecution of Julian Assange Affects Us All
Ron Jacobs
People’s Music for the Soul
John Feffer
Is America Crazy?
Jonathan Power
Russia and China are Growing Closer Again
John W. Whitehead
Who Inflicts the Most Gun Violence in America? The U.S. Government and Its Police Forces
Justin Vest
ICE: You’re Not Welcome in the South
Jill Richardson
Race is a Social Construct, But It Still Matters
Dean Baker
The NYT Gets the Story on Automation and Inequality Completely Wrong
Nino Pagliccia
Venezuela Retains Political Control After New US Coercive Measures
Gary Leupp
MSNBC and the Next Election: Racism is the Issue (and Don’t Talk about Socialism)
R. G. Davis
Paul Krassner: Investigative Satirist
Negin Owliaei
Red State Rip Off: Cutting Worker Pay by $1.5 Billion
Christopher Brauchli
The Side of Trump We Rarely See
Curtis Johnson
The Unbroken Line: From Slavery to the El Paso Shooting
Jesse Jackson
End Endless War and Bring Peace to Korea
Adolf Alzuphar
Diary: What About a New City Center?
Tracey L. Rogers
Candidates Need a Moral Vision
Nicky Reid
I Was a Red Flag Kid
John Kendall Hawkins
The Sixties Victory Lap in an Empty Arena
Stephen Cooper
Tony Chin’s Unstoppable, Historic Career in Music
Charles R. Larson
Review: Bruno Latour’s Down to Earth: Politics in the New Climatic Regime
Elizabeth Keyes
Haiku Fighting