Central banks around the world are willing to risk recession to fight inflation — and early signs suggest widespread pain for everyone, everywhere
- More than 80 central banks are aggressively raising interest rates to cool inflation.
- Rate hikes are the best tool for easing price surges but bring with them the risk of recession.
Countries around the world are rushing to crush inflation. The price? A global economic downturn.
In the US, the Federal Reserve chair, Jerome Powell, has warned that the fight against rising prices will "bring some pain" to Americans by slowing job growth, making mortgages and credit cards more expensive, and possibly prompting layoffs. He characterized the Fed's inflation target as "unconditional," offering a clear signal that the central bank will accept some economic discomfort — and even a recession — if it means ending the price surge.
He's not alone. Central banks in the UK, Europe, Canada, Switzerland, Indonesia — more than 80 countries in all — are similarly slamming the brakes on their economies to curb inflation, according to the World Bank. Monetary tightening is the broadest its been in five decades, and as inflation hovers at worrying highs around the globe, it's unlikely any central banks will ease up soon.
Policymakers' mission — to bring inflation to heel — has already caused downward revisions of forecasts for advanced economies' growth through 2023. Experts see job losses and weak wage growth on the horizon as economies shift into a lower gear. And businesses are already warning shareholders that things are only going to get tougher.
Corporate earnings offer the first signs of an impending downturn
Companies are already feeling the pain from the Fed's hiking cycle. On September 15, FedEx retracted its earnings forecast for the rest of the year and warned investors that the slowing economy will lead revenue to come up $500 million short of the firm's prior target.
When asked by CNBC's Jim Cramer if the global economy is entering a recession, FedEx's CEO, Raj Subramaniam, put it plainly. "I think so," he said.
Restoration Hardware's CEO, Gary Friedman, was more colorful when addressing recession worries in a September 8 earnings call.
"We're in a recession. Anybody who thinks we're not in a recession is crazy," he told analysts. "The housing market is in a recession, and it's just getting started."
Friedman and Subramaniam aren't alone. Of the companies included in the S&P 500, 240 brought up "recession" in their second-quarter-earnings calls, according to FactSet analysis. That's the highest share going back to 2010, when the firm started tracking such mentions. It also dwarfs the 212 "recession" citations seen at the start of the pandemic recession in early 2020.
Stocks' initial reaction to companies' slowing growth can pull the broad market dramatically lower, as it did on September 16, when FedEx's report amplified worries of economic weakness. That translates to less household wealth at a time when the S&P 500 is almost 20% below last year's highs.
Lower revenues and dampened profit forecasts can also lead to more immediate economic damage. Companies tend to cut costs to protect their margins when economic growth slows. That often shows up in the form of smaller raises, slimmed-down hiring plans, and, in the direst cases, widespread layoffs.
At some firms, job losses are already here. The Gap is set to cut 500 corporate jobs by laying off staff and shedding some roles entirely, according to a report from The Wall Street Journal published Tuesday. The move comes amid falling revenue and earnings and marks a major shift toward cost-cutting.
Tumbling sales have also prompted layoff plans at Walmart, Best Buy, and Bed Bath & Beyond in recent weeks. The former has also said it plans to hire fewer workers for the busy holiday season, further stoking concerns that waning demand will cut into the labor market's health.
Sales are expected to keep slowing, and "the current macro environment trends could be even more challenging and have a larger impact for the remainder of the year," Matthew Bilunas, the chief financial officer of Best Buy, said in an August 30 earnings call.
The Fed doesn't just expect some labor-market damage, it's betting on it. Powell has repeatedly highlighted the labor market's unusual tightness as a factor keeping inflation strong, with job openings still outpacing available workers two-to-one at the end of July. The US likely needs "softer labor market conditions" if it's to get over the inflation spell, the Fed chair said in a Wednesday press conference.
That softening is looking increasingly bleak, however. Projections published by the central bank on Wednesday show officials bracing for weaker growth, higher unemployment, and stickier-than-expected inflation through 2023. Those three factors are the key components of a growth recession.
If the Fed can get inflation lower with only a minor jump in unemployment, it's possible that the US can pivot to steady growth and a healthy economic expansion. Yet other central banks face the same predicament as the Fed, and as policymakers around the world rush to stifle inflation, the threat of a broader downturn looms large.
How a mild US slump becomes a deep global recession
More than 80 central banks are staring down the same problem. Inflation is well above their targets, but pulling it lower involves historically large rate hikes.
Such a hiking cycle comes with some unappealing trade-offs, but most have echoed the Fed's message: Some weakness today is worth it to make sure inflation doesn't get stuck at four-decade highs.
The Fed made its latest move on Wednesday, raising rates by another 0.75 percentage points to place its benchmark squarely in restrictive territory.
"If we want to set ourselves up and really, really light the way to another period of very strong labor market, we have got to get inflation behind us," Powell said Wednesday. "I wish there were a painless way to do that. There isn't."
That followed a hike of the same size by the European Central Bank on September 8. The ECB's 0.75-point hike was the first in its history and pushed its benchmark to the highest level since 2011. Officials noted that they expect to raise rates even higher to "guard against the risk of a persistent upward shift in inflation expectations," echoing the Fed's reasoning for such aggressive hiking.
The Bank of England, meanwhile, raised interest rates by half a percentage point on Thursday, saying it would continue to "respond forcefully, as necessary" to elevated inflation.
That so many central banks share the Fed's outlook could become a huge problem. The world's fight against inflation could spark recessions in several countries as policymakers dramatically tighten financial conditions and slow their economies to a halt.
Such a globally synchronized downturn would be worse for everybody. A new study from the World Bank forecasts that should inflation prove more persistent than expected, the global economy could enter a downturn in 2023 before recovering the following year. Jobs would be lost en masse, high rates would crush some borrowers, and the recovery from the pandemic would give way to a new crisis.
"Recent tightening of monetary and fiscal policies will likely prove helpful in reducing inflation," Ayhan Kose, the acting vice president for equitable growth, finance, and institutions at the World Bank, said. "But because they are highly synchronous across countries, they could be mutually compounding in tightening financial conditions and steepening the global growth slowdown."
Central banks could be mere months away from a lose-lose scenario. If inflation doesn't start to cool soon, the prevailing options policymakers have are to slam the brakes on their economies and throw the world into a recession — or usher in an era of cripplingly fast price growth.
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