According to many economists, there won’t be a recession next year either. There are good reasons for this:

• Many economists expect inflation to decline further. This means that central banks will be able to cut their rates substantially. Moreover, it will lead to an improvement in real purchasing power of households.

• House prices have held up well in most countries. There seems little reason to expect a sharp decline in prices this year, as long as unemployment does not rise sharply, housing shortages persist and mortgage rates seem to be declining rather than rising. As long as house prices remain at current levels or continue to rise, consumers will have the confidence to keep up consumption.

• Governments have no intention of tightening fiscal policy to any great extent (apart from fewer support measures to offset high energy prices). Compared to last year, the impact of fiscal policy on growth will diminish, but a persistent large budget deficit will continue to support the economy and employment (basically, the larger the public deficit, the greater the need for personnel). In already tight labour markets and with the prospect of a shrinking workforce due to ageing populations (and increasing resistance to immigration), this will be one of the reasons for companies to hold on to staff they would otherwise lay off in times of a weakening economy. As a result, stubbornly large deficits (in)directly ensure that labour markets remain tight and that consumer wage income is rising sharply.

• The Chinese authorities are coming under increasing pressure to boost the economy on a larger scale. If they fail to do this, there is a risk that the persistent decline in house prices and deflation will lead to a balance sheet recession, from which it is very difficult to escape, as Japan has shown. The best remedy is to combat the negative effects of a balance sheet recession as early as possible through ultra-loose fiscal policies.

The risk of extrapolation

The major risk is that last year’s situation will be extrapolated, while there are also good reasons to assume that economic growth will be far weaker this year, and that a recession will be likely:

• The spending of savings accumulated during the corona pandemic and the considerable improvement in supply chain problems have supported economic growth in 2023, as have loose fiscal policies and lower energy prices. However, many households have run out of additional accumulated savings. Supply chain problems are behind us and companies are working hard to get through their backlogs. These factors are therefore unlikely to boost the economy, or only to a very limited extent.

• The negative impact of tighter monetary policies was mitigated by the fact that, in recent years, many companies and (US) households have borrowed at fixed low rates over longer periods. As a result, some companies and consumers have, on balance, benefited from higher interest rates because they received more interest on their bank balances, while interest charges remained the same. This positive effect is unlikely to disappear, but it will diminish, partly because more companies will have to refinance maturing loans this year, and generally at far higher interest rates than the ones they are paying now. This also applies to many governments, which see interest charges rising to ever higher levels because of stubbornly large deficits and because cheap loans will have to be refinanced at higher interest rates. Higher interest charges will negatively impact investment activity, for example, and increase the pressure on governments to curb deficits.

• The downside of lower inflation is that it increases upward pressure on real interest rates (the economy responds primarily to changes in real interest rates) and it leads to more downward pressure on nominal economic growth. This is negative for corporate earnings growth, while debts will increasingly weigh down the economy.

• Forward-looking indicators such as the PMIs and bank lending, economic leading indicators and the inverted yield curve have been pointing to a recession for quite some time.