Securities Attorney Briefing 13 August 2019

Wall Street sees risk of recession rising

Wall Street is getting seriously gloomy about the economy, with recession warnings mounting and stocks tumbling just as President Donald Trump prepares to fire up his reelection campaign machine. Over just the last few days, economists at Goldman Sachs, Morgan Stanley and Bank of America all warned that Trump’s bitter trade war with China is taking a bigger bite out of economic growth than expected.

The warnings came as stocks suffered another big dip on Monday with the Dow closing off nearly 400 points, or 1.5 percent. The blue-chip index closed at 25,897, over 700 points lower than it was in January of 2018 before Trump’s trade fights began in earnest. The collective wisdom now spreading across Wall Street is that no trade deal will be struck with China before the 2020 election; business investment will continue to sag; and a series of interest-rate cuts from the Federal Reserve won’t be enough to juice more growth out of an economy now in its tenth year of expansion — the longest stretch in American history. “It makes sense for everyone to be downgrading, because everyone assumed we’d have some kind of trade deal with China by now and we don’t,” said Megan Greene, an economist and senior fellow at Harvard’s Kennedy School of Government. “And now we have the risk of the trade war turning into a currency war,” she said. “The consumer is still pretty strong, but business investment looks really bad and if it was going to pick up again it would have by now.” The president has transitioned from boasting about stock market gains to blaming the Fed for recent declines and softness in the economy. Overall economic growth cooled to a 2.1 percent pace in the second quarter after nearly hitting Trump’s goal of 3 percent last year following a round of tax cuts and higher federal spending. And he’s promised that he will win the fight with China. “The Fed’s high interest rate level, in comparison to other countries, is keeping the dollar high, making it more difficult for our great manufacturers,” Trump tweeted last week. Economists, however, note that interest rates adjusted for inflation remain very low by historic standards. And few businesses report having any trouble getting credit. The central bank last month reversed course and cut rates by a quarter point, citing uncertainty from the trade war. Wall Street analysts expect at least one more rate cut this year and possibly two or three. Instead of blaming the Fed, Wall Street economists are citing Trump himself as the biggest anchor on markets and the economy. “Fears that the trade war will trigger a recession are growing,” Goldman Sachs economists led by Jan Hatzius wrote in a note to clients over the weekend. “We expect tariffs targeting the remaining $300 billion of U.S. imports from China to go into effect and no longer expect a trade deal before the 2020 election.” Goldman increased its estimate of the potential economic hit from the trade war to 0.6 percent of gross domestic product, both through the direct channel of higher costs due to tariffs and reduced investment by businesses afraid of what might happen next. Goldman now expects the economy to grow at just 1.8 percent in the fourth quarter of the year. Bank of America analysts led by Michelle Meyer in a note out on Friday increased their warning of a recession by 2020. “We are worried,” the analysts wrote. “We now have a number of early indicators starting to signal heightened risk of recession. Our official model has the probability of a recession over the next 12 months only pegged at about 20 percent, but our subjective call based on the slew of data and events leads us to believe it is closer to a 1-in-3 chance.” Those indicators include the fact that investors are now demanding higher interest rates on short-term debt than they are longer term debt, a phenomena known as an “inverted yield curve” that tends to precede recessions. The inverted curve generally means investors expect economic conditions to get worse rather than better in the future.