No two recessions are alike. But the potential recession of 2022 appears to be the most unique we have ever seen.
Some of the classic signs of an economic slowdown are already on the horizon. US GDP shrank for two consecutive quarters – the standard definition of a technical recession.
Meanwhile, home building activity has fallen while consumer confidence is at its lowest level since the outbreak of the pandemic. However, President Joe Biden said Thursday that the nation remains “on the right track.”
Here are three main reasons why the upcoming recession will differ.
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The job market is strong
In most recessions, economic output and employment fall simultaneously. Declining revenue forces companies to cut staff, leading to higher unemployment. Ultimately, higher unemployment leads to lower consumer spending and this creates a vicious cycle.
However, in 2022, unemployment remains at a record low. The official unemployment rate in June was 3.6% – the lowest level since February 2020. A strong labor market is “historically unusual” during a recession, according to economists at Goldman Sachs.
An extraordinarily strong job market can draw its strength from another unusual source: the financial strength of companies.
Companies are rich in cash
Businesses see a drop in sales and profits during downturns. This process may have already begun. However, US companies are preserving their profits and creating a huge wealth of cash in the midst of this recession.
The average after-tax profit margin for US corporations is around 16% right now. In traditional recessions, this rate drops to single digits. Meanwhile, these companies combined hold more than $4 trillion in cash. This is a standard and very unusual for a recession environment.
Companies may have raised this money during the era of easy money and low interest rates over the past decade. Now, that money acts as a storehouse and can allow companies to retain employees despite the economic slowdown. Rates are rising
Another unusual factor for this recession is the hawkish stance of the Federal Reserve. In most recessions, the central bank lowers interest rates and adds more money to the economy to stabilize it.
However, in 2022, the Federal Reserve raised interest rates massively to curb inflation. Given the strength of the labor market and corporate balance sheets, the central bank may have more reason to continue raising interest rates.
What will come next?
“This is unsustainable,” says John Hilsenrath of the Wall Street Journal. He believes that one of two things must happen to resolve this imbalance: Either the economy recovers quickly, ending the recession, or the economy continues to decline, forcing employers to cut jobs.
These two scenarios could be the “soft landing” and the “hard landing” the Fed mentioned earlier. Investors need to keep an eye on all indicators to see what scenario happens because the impact can be severe.
This could be an ideal time to bet on weak growth and technology stocks in the event of a soft landing. However, in the event of a hard landing, investors may need to turn to defensive asset-backed stocks such as healthcare companies and real estate investment trusts.
Either way, 2022 is shaping up to be an interesting year for investors.
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This article provides information only and should not be construed as advice. It is provided without warranty of any kind.