The economic landscape is a perpetual cycle of highs and lows, characterized by shifting indicators that hint at the future’s uncertainty. Recently, the financial world has transitioned from debating the implications of a yield curve inversion to dissecting the potential labor market slowdown. These evolving conversations, though intriguing, raise concerns about the imminent downturn that has long been anticipated.
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The Sahm Rule and Recession Triggers
One of the key focal points in the current economic discourse is the Sahm rule, an indicator developed by former Fed economist Claudia Sahm. According to this rule, when the unemployment rate rises half a percentage point from its cycle lows, it signifies the onset of a recession. This rule serves as both a diagnostic tool and a policy proposal, advocating for proactive stimulus measures to combat recessionary forces. However, it’s important to note that the Sahm rule considers a three-month moving average, suggesting that it has not been technically triggered as of yet.
Claudia Sahm is an economist who currently serves as a Senior Fellow at the Jain Family Institute. She is also the creator of the Sahm Rule, which is a metric for determining when the economy is in a recession. Sahm previously worked as a section chief at the Federal Reserve Board of Governors, where she conducted research on macroeconomic policy issues. She has also held positions at the White House Council of Economic Advisers and the Federal Reserve Bank of New York. Sahm is known for her research on fiscal policy, monetary policy, and labor markets.
A Rule That Calls for Vigilance
The Sahm rule underscores a common tendency in economic analysis, where the initial half-point increase in the unemployment rate often goes unnoticed or is underestimated. This rule serves as a reminder to take such movements seriously, emphasizing the need for preparedness rather than relying on optimism.
Other Warning Signs
While the Sahm rule has garnered attention, it is not the sole indicator raising concerns about a looming recession. Michael Kantrowitz of Piper Sandler has put forward the “10% rule,” which posits that a recession has always followed when the total number of unemployed people increases by 10%. Currently, the figure stands at 7.7%, signaling potential trouble. Additionally, Michael Darda at Roth MKM has established a similar rule for continuing jobless claims, where a 10% rise from year-earlier levels has consistently preceded a recession. Alarming as it may be, the current increase in continuing jobless claims stands at a staggering 30%.
Connecting Employment Indicators to Economic Outcomes
The convergence of various employment-related rules and indicators paints a worrisome picture. It is becoming increasingly evident that while an inverted yield curveAn inverted yield curve is a type of yield curve in which long-term bonds have lower yields than short-term bonds. Typically, yield curves are upward sloping, meaning that longer-t... More might set the stage for a recession, the employment indicators serve as concrete evidence of one. This dual perspective emphasizes the gravity of the current economic situation.
California’s Predicament: A Bellwether for Economic Health
California, often regarded as a leading indicator due to its status as the largest state by GDP, has already found itself in a precarious position. According to the Sahm rule, the state’s unemployment rate reached 4.7% in September, indicating recessionary conditions. Considering that California’s downturns often precede nationwide economic shifts, this development raises further alarms.
The Uncertain Road Ahead
While it might be tempting to dismiss the chorus of recession warnings and take solace in the perception of a “still pretty strong” labor market, the path to maintaining strength appears daunting. To remain robust, we would have to defy historical norms and break the established rules. As Claudia Sahm herself stated, “when the unemployment rate starts rising, it usually keeps going.”
Bottom-line: The current economic landscape is characterized by shifting indicators that have transitioned from concerns about a yield curve inversion to a focus on a potential labor market slowdown. A key focal point of this discourse is the Sahm rule, developed by Claudia Sahm, a former Fed economist, which suggests that a recession occurs when the unemployment rate rises half a percentage point from its cycle lows. While the rule operates on a three-month moving average and has not technically triggered yet, it emphasizes the need for vigilance when interpreting economic data. Other indicators, such as the “10% rule” proposed by Michael Kantrowitz and rules related to continuing jobless claims, add to the concerns of an impending recession. The convergence of these employment-related indicators with the possibility of an inverted yield curve sets a worrisome tone for the current economic landscape, and California’s economic predicament further heightens these concerns. To navigate the uncertain road ahead, acknowledging the seriousness of these indicators and being prepared for economic challenges is crucial, as historical patterns suggest that once the unemployment rate starts rising, it tends to continue in that direction.
FAQ
The Sahm rule, developed by former Fed economist Claudia Sahm, considers a half-point rise in the unemployment rate from its cycle lows as an indicator of an impending recession. It serves as both a diagnostic tool and a policy proposal to initiate early stimulus measures.
The “10% rule,” as proposed by Michael Kantrowitz, suggests that a recession has historically followed when the total number of unemployed people increases by 10%. Continuing jobless claims, when they rise by 10% from year-earlier levels, have also consistently foreshadowed recessions.
California, as the largest state by GDP, often serves as a leading indicator for economic shifts. It is currently facing recessionary conditions, with its unemployment rate exceeding the Sahm rule’s threshold.
While a yield curve inversion sets the stage for a recession, employment indicators, such as the Sahm rule and others, provide concrete evidence of an impending economic downturn. These indicators collectively underscore the gravity of the current economic situation.
Yes, there have been instances of stock market rallies exceeding 20% following yield curve inversions, as seen in 1989-90 and 2006-07. However, these rallies were ultimately reversed when subsequent downturns occurred.
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