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3 ways the US could avoid sinking into a recession as inflation slows, according to one of the first economists to call the 2008 housing crash

Economist Dean Baker

Kevin G. Hall/Tribune News Service via Getty Images

  • Economists have said a recession looks increasingly likely next year as consumer prices have continued to rise in recent months. 
  • But the decreasing costs of gas and other goods means we may be able to avoid one, according to famed economist Dean Baker.
  • Lower inflation means the Fed wouldn’t have to hike rates, which means a lower recession risk. 

Inflation has been hitting Americans where it hurts, namely at the gas pump and the grocery store. 

And it hasn’t been inspiring confidence in the economy. One recent survey shows that most Americans think the country is currently in a recession, even though it’s not. However, many economists are predicting that the US will be in one next year. 

Data published in early June showed prices soaring at a year-over-year pace of 8.6% in May, reflecting the fastest inflation since 1981. The print played a major role in the Federal Reserve conducting its largest rate hike in nearly three decades. 

The more aggressive rate hike and hints that the central bank could approve another such increase in July ratcheted up concerns that, in order to bring inflation to heel, the Fed would have to slam the brakes on the economy.

Wall Street quickly responded. Goldman Sachs economists raised the odds of a recession occurring in the next 12 months to 30% from 15%. Analysts at Morgan Stanley boosted the probability of such a downturn to 35%, and Bloomberg Economics pegged the odds at 38%. 

There’s reason, however, to be optimistic, according to economist Dean Baker, co-founder of the left-leaning Center for Economic and Policy Research. Inflation is slowing, he told Insider, and that could keep the US from entering a recession next year.

“This should mean good news for both consumers seeing lower prices and also for the Fed in its efforts to contain inflation,” he said. “If the reports of price cuts are reflected in inflation data for June and July, it will not be necessary for the Fed to continue on a path of aggressive rate hikes, which means the risks of a recession would be radically reduced.”

“In principle, this could mean that we are back on a path of healthy growth, with moderate inflation, and low unemployment, by the end of 2022.” he said. 

Baker earned widespread acclaim earlier in his career as one of the first economists to sound the alarm on the housing bubble and ensuing crash in 2007 and 2008. He was given the Revere Award for his efforts, alongside Steven Keen and Nouriel Roubini.

Detailed below are Baker’s three reasons inflation is abating and the odds of a recession have decreased. 

(1) The cost of rent is tapering off in many cities

Rents were soaring in lockstep with home prices through much of the pandemic, but the latest data suggests the rally is cooling.

The median rent for a one-bedroom unit rose just 0.5% through June, according to Zumper’s US rent index, reflecting much weaker growth compared to the 1% to 2% monthly increases typically seen over the past two years. 

Two-bedroom rents, meanwhile, slid 2.9% last month. The decline could suggest some Americans who’d been waiting for a better time to buy a house are making the leap now that prices are easing, Zumper’s analysts said.

Rent growth over the next several months will likely look more like a gradual slide than a sudden crash, they added. Still, the June data offers an encouraging sign that one of the most important inflation sources  is returning to a more sustainable trend.

(2) Retailers are lowering their prices due to excess inventory 

After months of insufficient supply and unwavering demand at some of the country’s biggest retail chains, the script has flipped.

Walmart told investors in June that the company had stockpiled excess inventory, and that it could take “maybe a couple of quarters” to trim down its supply. 

Macy’s warned that markdowns on bolstered inventory could weigh on profits in the near future as the department store also tries to rebalance supply and demand. 

Target issued a similar call to shareholders last month, noting its margins could weaken as it discounts unwanted goods.

With supply chains showing signs of improvement and Americans’ spending easing, other stores could soon shift from price hikes to discounts.

(3) The prices of oil and other commodities are finally going down 

Gas prices in the US are falling as sharply as they once surged, according to the Energy Information Administration. The average price for a gallon of regular-grade fuel fell to $4.77 in the week that ended July 4, marking a third straight weekly decline and putting the nationwide average nearly 5% below the mid-June peak of $5.01 per gallon.

And daily price data is even more promising, with the nationwide average dipping to $4.75 on Thursday, according to AAA. That’s down from a record high of $5.02, recorded on June 14. Fuel-price tracker GasBuddy also recorded a nearly 3-cent decline in the average price per gallon on July 6, matching the second-largest one-day drop in the last decade.

Gas represents one of the biggest drivers of inflation in 2022, and the latest trend hints the US could be past the worst of the price rally. Should the decline continue, the next inflation reports could show prices falling through the summer. That would give the Fed crucial flexibility for raising interest rates and dramatically decrease the odds of a self-imposed economic downturn.

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