Goldman Sachs lowers recession forecast as 'Goldilocks' debate heats up

Jobs data in a 'Goldilocks scenario' ahead of future rate hikes: Economist

Josh Schafer
·Reporter
Mon, July 17, 2023 

Goldman Sachs now sees just a 20% chance the US economy enters a recession in the next 12 months.

The firm had previously projected a 25% chance for a recession and remains well below the consensus estimates it cites from the Wall Street Journal that show a 54% chance.

"The recent data have reinforced our confidence that bringing inflation down to an acceptable level will not require a recession," Goldman Sachs chief economist Jan Hatzius wrote on Monday in a note titled "The Narrative Turns."

Investors have been closely watching for signs of whether the Federal Reserve's interest rate hikes will send the US economy into a recession. But Goldman Sachs' call comes after the latest string of economic data have depicted a resilient US economy. The June jobs report revealed a 3.6% unemployment rate that is still historically low while average hourly wages increased 4.4% compared to last year. Overall, the labor market added 209,000 nonfarm payrolls that month.

Meanwhile, the latest Consumer Prices Index report showed inflation increasing at its slowest pace since March 2021.

Hatzius specifically highlights the unemployment rate's decline, consumer sentiment hitting its highest levels in nearly two years and a reversal in an upward trend in weekly jobless claims as key signs of economic strength.

"We do expect some deceleration in the next couple of quarters, mostly because of sequentially slower real disposable personal income growth—especially when adjusted for the resumption of student debt payments in October—and a drag from reduced bank lending," Hatzius wrote. "But the easing in financial conditions, the rebound in the housing market, and the ongoing boom in factory building all suggest that the US economy will continue to grow, albeit at a below-trend pace."

Enter 'Goldilocks'

The positive economic outlook has strategists and economists more frequently referencing a fairy-tale ending to the Fed's rate hike path where inflation cools but the economy doesn't tip into a recession.

“'Goldilocks' has entered the room once more!" Evercore's lead strategist Julian Emanuel wrote in a note on Sunday in reaction to the recent positive economic data.

Emanuel is referencing the term Goldilocks economy, which is defined as a period of full employment, economic stability, and stable growth, according to Investopedia.

In other words, a Goldilocks economy is one that resembles the fairytale character's ideal porridge temperature. It's not too cold or too hot, but rather just right.

A miniature Goldilocks and the Three Bears set on display at the Miniatura - Dolls' House and Miniatures show at the National Exhibition Centre in Birmingham. (Photo by Aaron Chown/PA Images via Getty Images)

But not all economists see the outlook into 2024 as totally rosy, with many still believing some level of a recession is coming at the start of next year. And Emanuel concedes that could be the case as well.

"While the 'Three Bears' (Recession) may not 'enter the house' for months to come, even Goldilocks' curls are subject to wilting in 2023’s record summer heat," Emanuel wrote.

The holes in the strong economy argument center around what could develop over the next several months. While 3% inflation is a notable increase, it's not the Fed's targeted 2%, and core inflation, which eliminates the volatile food and energy categories, is sitting at 4.8%.

And even stocks could be getting "too hot," if earnings season sparks a further push higher in the S&P 500 beyond the already 26% rally from the October lows.

Together, Emanuel points out that the picture is improving. And while the Goldilocks scenario is in play, it might be too early to call the porridge just right for now.

Josh is a reporter for Yahoo Finance.