How could all those dire recession forecasts be so wrong?

When it comes to the U.S. economy, the hits just keep on coming. That’s the obvious takeaway from (November 07, 2023)’s third-quarter GDP report, which found the economy grew at a remarkably robust 4.9% annualized real rate from July to September. That beat expectations, and was the fastest the economy has grown since the end of 2021 (when growth was being fueled by the post-pandemic rebound and the Biden administration’s stimulus spending).

The economy saw solid growth in almost all the key components of GDP. Consumer spending was up 4% year-over-year, thanks to low unemployment, falling inflation, and the fact that consumers still have more than a trillion dollars in extra savings built up during the pandemic. Private investment, especially in R&D, rose, and has now contributed to GDP growth five quarters in a row. Companies also spent heavily on restocking inventories last quarter, which is a sign that they expect consumer demand to remain solid. Residential investment rose, because in spite of rising interest rates, builders are building new homes. And government spending, particularly on defense, rose. 

If you wanted to look for blemishes in the report, you could point to the fact that real disposable personal income fell slightly in the quarter, though it was still up more than 3% year-over-year. And the inventory buildup means that next quarter, inventories will likely contribute little to economic growth. But on the whole, the report paints the picture of an economy that’s in solid shape, and that has not just fully recovered from the pandemic, but may well have boosted its underlying trend growth rate.

On the one hand, that’s not surprising, given that most of the economy’s key underlying metrics—employment, inflation, consumer spending, corporate investment, corporate profits—have been moving in the right direction all year. But what is striking about the continued good health of the economy is how contrary it’s been to the expectation of most pundits and economic analysts.

Almost exactly a year ago, after all, Bloomberg published an article with the headline: “Forecast for US Recession Within Year Hits 100% in Blow to Biden.” The article explained that Bloomberg Economics’ recession probability model, which is based on 13 different macroeconomic and financial indicators, saw a recession in the next 12 months as essentially certain, and that the odds of a recession hitting sooner than within a year had also risen.

Other forecasters were also glum, if not as certain of a downturn as Bloomberg’s model was. Even though the economy grew at a healthy 3.2% clip in the third quarter of 2022, a Bloomberg survey of 42 economists in October put the likelihood of a recession at 60%, and a similar Reuters poll that month put the odds at 65%. Pessimism was so ubiquitous, in fact, that CNBC ran a piece at the end of the year titled, “Why everyone thinks a recession is coming in 2023.”

And the skepticism endured. The Federal Reserve’s own staff, for instance, said in December 2022 that a recession was “plausible,” and by March of this year was predicting that a mild recession would hit before the year was out.  

There are obvious reasons for last year’s grim forecasts. Consumer sentiment was gloomy (as, oddly, it still is today). The stock market had fallen sharply. And, most obviously, in an effort to squash inflation, the Fed had hiked interest rates four points in a matter of nine months. (It’s hiked them another full point this year.) When interest rates rise that much that quickly, it’s not unreasonable to expect it to put a significant dent in economic growth.

At the same time, the ubiquitousness of the gloom, and its persistence in the face of continued good economic performance, also seemed to reflect a desire not to be fooled again. Analysts had, for the most part, missed the sharp increase in inflation that we saw in 2021 and 2022, and it felt as if they were making sure they were not going to underestimate the potential downside risks to the economy again. And there’s no real peril in offering up a gloomy forecast (particularly when everyone else is, too), since if you turn out to be wrong, it’ll be because of a nice surprise that no one’s really unhappy about. 

But in their relentless focus on the downside risks to the economy, economic analysts and much of the business press missed the upside potential of the U.S. economy. We have, after all, seen the economy keep growing in the past despite interest-rate hikes, and it’s not really clear that higher interest rates have that much of an impact on consumers, who are the big drivers of the current boom. When unemployment is low, inflation is falling, corporate profits are healthy, and government programs like the ones created by the Inflation Reduction Act are helping boost investment, that’s a recipe for growth.

That doesn’t mean that the U.S. economy is going to grow at anything like the clip it did last quarter. And if the Fed decides it needs to keep hiking, at some point those higher rates will have a meaningful negative impact on the economy’s growth rate. (The stock market’s seemingly grim reaction to the GDP news likely reflected concern that a booming economy might lead the Fed to keep hiking interest rates, coupled with some earnings reports that disappointed investors.) But people have spent a lot of time over the past 18 months talking about all the things that they thought were likely to go wrong with the economy. Maybe we should take a minute to recognize all the things that have gone right.