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The bull case: Resilient US consumers are buffer against recession

➤ Continued global uncertainty presents risks that deserve monitoring.

➤ The U.S. can enter a period of slower growth without automatically entering a recession.

➤ U.S. growth is projected to trough at roughly 1.5% in 2020, by Oxford Economics' measure.

As trade wars drag on, consumer confidence is shaky and some international economies are showing signs of contraction, U.S. recession fears are on the rise after nearly 10 years of growth. In August, nearly three-quarters of business economists predicted a U.S. recession in 2020 or 2021. S&P Global Market Intelligence talked to Gregory Daco, chief U.S. economist at the forecasting and analysis firm Oxford Economics — which predicts continued if moderated U.S. growth through 2022 — about the risks to growth and the case for the U.S. and global economies to hold off recession. An accompanying interview with Brunello Rosa of analysis company Rosa & Roubini Associates offers a case for a recession or at least a severe slowdown in the U.S. and can be found here.

The following is an edited transcript of the Daco conversation.

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Gregory Daco, chief U.S. economist, Oxford Economics.

Source: Gregory Daco

S&P Global Market Intelligence: You do not have a global recession in your baseline for 2020 and 2021. Why is that?

Gregory Daco: We don't necessarily believe that the right ingredients are present for an actual global recession. We still have positive momentum in the U.S., in particular, supported by a strong labor market and consumers continuing to spend. That's really been and continues to be the backbone to the U.S. economy, but also the global economy. The trade drag that we're seeing and the uncertainty pertaining to the slow global environment, as well, are no doubt a negative and a risk that bears monitoring, but at this stage, we don't see those factors pushing the global economy into recession.

I think there are two important factors to keep in mind. No. 1 is that, while trade tensions do hurt the economy, they typically weigh on the business investment side of the economy and the export side of the economy. You can have a slowdown, even pronounced slowdown, in business investment activity and manufacturing. No. 2 is that monetary policy is easing at a global level. We're seeing central banks around the world proceeding with either rate cuts or additional loosening measures to try to stimulate their own economies and at the same time loosen the conditions for the global economy.

How concerned are you about softening in business sentiment and some manufacturing readings as they relate to a potential recession in the U.S.?

We're still seeing readings in the services sector, which represents close to 90% of the economy, that are showing relatively solid expansion. Yes, the manufacturing sector has come down to essentially a stall. That does not represent a majority of the economy. There are a number of shades of gray between any type of growth environment and any type of contraction environment. It's not just a binary type of environment where you are or are not in recession. There are multiple environments in which the economy can evolve, and one of those, which we think is the most likely case, is one in which the economy grows at a more slow pace but not necessarily contracts in terms of output.

To what degree are you concerned about business investment hesitance further contributing to a slowdown or a potential recession?

Despite the fact that we're not seeing a recession in the outlook, we're nonetheless very watchful of potential risks to the economy. One of those key risks is, of course, the rise in trade tensions and the simultaneous rise in trade uncertainty. The combination of the two factors has put business investment on a very slow path in terms of growth, and we're expecting those headwinds to remain in place at the same time as global growth remains weak. If we look ahead into 2020, we expect to see business investment really come to a crawl in terms of growth, with growth likely under 2%, which would be a historically low growth rate.

What are your projections for U.S. economic growth in 2019, 2020 and 2021?

2019: 2.2% to 2.3%. 2020: 1.5%. 2021: 1.8%.

What about the U.S. economy makes it possible to withstand that slowing business investment?

When we look at the economy today and we factor the elements such as described in terms of central bank easing, in terms of labor market fundamentals, in terms of private-sector confidence, we do not see the burgeoning of a recession. We do see slowing of the economy, with growth potentially approaching 1.5% next year in the U.S., but not a recession. If trade tensions were to worsen, if confidence were to falter and if financial conditions were to tighten, then you would start to see the elements for the early signs of a recession.

How concerned are you that businesses may be forced to trim payrolls to find cost savings if trade tensions continue to escalate?

If you start to see labor market conditions deteriorate and businesses start to cut back on hiring and perhaps on overall payrolls, then that would certainly be a catalyst to much weaker spending, and in turn a potential drop in output. But that's not what we're seeing right now. We're still seeing very low initial claims for unemployment. We have an unemployment rate that's close to 3.5%, and we have conditions in terms of job growth, which although they are cooling remain fairly strong.

How confident you are in the strength and the confidence of the U.S. consumer, given the role consumers have played in supporting U.S. growth?

If labor market conditions start to deteriorate — and by that I mean employment and income — and if confidence starts to falter, then consumers will spend less. In the current state of things, there's less of a concern in terms of leverage. There is a significant buffer in terms of the savings rate. But if you start to see slower labor market conditions, then that will hinder consumer spending, and that would be a catalyst for a broader recession.

On the monetary policy end of things, how has the Federal Reserve helped stabilize the U.S. economy by issuing rate cuts?

Beyond the direct effects of lowering interest rates for the economy, what has been much more important in terms of the Fed has been its signaling, should things turn for the worse. If you look back at the fourth quarter of last year, we had a significant tightening of financial conditions. The Fed proceeded in January to announce a much more dovish stance in terms of monetary policy, and that in itself led to a reversal of the tightening of financial conditions. If you look at the latest rate cuts and the assumption that the Fed will provide further rate cuts down the road, we see those as maintaining financial conditions as fairly loose.

Does the Fed signaling that it's willing to help stave off or minimize a potential downturn by cutting raising rates play into your view of a recession not necessarily being on the horizon in 2020 or 2021?

Yes, the short-term loosening will prevent the economy from slowing too fast. That's certainly one of the factors that would limit the risk of the next recession.