How to Prepare for a Recession

 By Ray Birch

IRVINE, Calif.—There’s little chance the Federal Reserve will steer the U.S. away from a recession in the next 12-18 months, says one economist, who adds delinquencies among the nation’s lenders could become an issue in the near future.

Elliot Eisenberg, chief economist for economic consultancy GraphsandLaughs, said during a recent Origence webcast he does not think the recession will be deep. But he also urged credit unions to revisit loan loss reserves built during the pandemic and to shore those up again.

What the growth of inflation will come down to, explained Eisenberg, is whether the Federal Reserve, as it adjusts rates upward to curb inflation, will be able to engineer a “soft landing” for the economy.

“This is not an easy road for the Fed,” Eisenberg said during Origence’s 2022 - Economic & Lending Trends webcast.

Eisenberg expects the Federal Reserve will move on a series of rate hikes this year, including another 50 BP hike in the coming months, to move rates about one percentage point higher than where they are now.

“What happens next becomes important,” said Eisenberg. “GDP will be steadily declining through 2022, so when we get into 2023 we will be back to 2% growth—so, back to normal pre-COVID GDP levels.”

The Big Concern

A big concern for the Fed’s ability to engineer a soft landing for the economy—meaning no recession—is the Federal Open Market Committee will be heavily focused on raising rates this year, explained Eisenberg.

“The problem is they're not going to have the luxury of time to think about this because they’ve got to be cranking rates at every meeting,” he said. “And the chances are the data will be noisy and the Fed will raise rates too much. Unless inflation drops like a rock between now and the end of the year--if it's 5% to 6% by the end of the year, which is down from 8%—we’ve still got a problem.”

Eisenberg painted a picture of what he said is likely to occur in the U.S. when considering the global economic picture. He noted oil prices are back up again—with demand increasing, sanctions against Russia and with Europe expected over the next six months to case purchasing oil from Russia as the result of its invasion of Ukraine.

“This will likely throw Europe into a recession,” Eisenberg said. “So, we have Europe in a recession, confidence across the board in the U.S. is not so hot now, the stock market is not so hot now... If we start raising rates, the chances of the Federal Reserve accidentally driving us into a recession can’t be ignored.”

GDP to Weaken

Eisenberg is also forecasting U.S. GDP will weaken steadily in 2023, 2024 and 2025.

“By the end of next year GDP will be just 2%. So, the fed funds rate can’t be all that high if GDP is 2% unless inflation is relatively bad,” observed Eisenberg. “I suspect the Fed will have to start reversing course and begin pushing down rates, or not driving them up that much.”

Eisenberg repeated his lack of confidence in the Federal Reserve making all the right moves.

“I don’t think the Fed can do a soft landing (with the economy and adjusting rates),” continued Eisenberg, who thinks a “garden variety recession” will occur sometime in 2023. “History shows us the Fed has not been good at predicting what will happen.”

Indeed, looking back upon the Federal Reserve’s historical performance, 37% of the time it has been on target with the Fed funds rate, 29% of the time it has been correct in handling inflation, and 24% pf the time it has been correct in how it responded to unemployment, Eisenberg said.

“The Fed doesn’t know anything. They are not stupid, they just can’t predict the future,” he said.

Additional Observations

Other observations made by Eisenberg during the Origence webinar:

• “Corporate profits have been terrific. I suspect they will turn down as consumer demand goes down.”
• Savings rates are declining. Therefore, credit union loan-to-share ratios should improve.
• Incomes are not keeping up with inflation.
• Household net worth is “phenomenal.”
• Bankruptcy rates are very low. But the government has “kicked the delinquency and bankruptcy can” down the road with stimulus funds and additional unemployment payments.
  “Delinquencies will begin to rise. Eviction notices will go up, and we will return to a regular economy…Loan loss reserves have been falling. That said, there are a lot of loan losses in the system. Defaults are going to rise as rates go up. Banks and credit unions should reexamine loan loss reserves based on a potential recession and general economic and interest rate issues.”
• Used car prices appear to be going down. “People are just running out of money. This may be the end of the price appreciation game for used cars.”
• “The yield curve will give the Fed heartburn. How high can they raise the fed funds rate before they invert the yield curve?”