As the Federal Reserve grapples with the delicate balancing act of taming inflation while preserving economic growth, a prominent economist is sounding the alarm bells. According to Claudia Sahm, the creator of the widely respected "Sahm Rule" recession indicator, the central bank's reluctance to cut interest rates could have dire consequences, potentially tipping the economy into a contraction that policymakers are desperately trying to avoid.
Sponsor |
Aerial Footage of Jeff Bezos's Next Trillion Dollar BetLocated 30 miles from Baltimore — Jeff Bezos has been quietly investing in one tiny company that's ground zero of a tech revolution that's going to change everything.Bank of America said the technology would be, "Bigger than fire and bigger than all the revolutions that humanity has seen." And for investors who get in now profits could be massive — click here for full story. |
The Sahm Rule, a time-tested metric that has accurately predicted recessions dating back to 1948, is sending an ominous signal. When the unemployment rate's three-month average rises by half a percentage point above its 12-month low, the rule indicates that a recession is imminent. And with the latest employment data showing the jobless rate ticking up to 4%, the Sahm Rule value now stands at a concerning 0.37 – perilously close to the 0.5 trigger point.
Sahm, the chief economist at New Century Advisors, minces no words in her criticism of the Fed's stance. "The Fed is playing with fire by not cutting rates now," she warns, arguing that the central bank's inaction risks exacerbating the very problem it's trying to solve.
At the heart of Sahm's argument is the notion that gradual, preemptive rate cuts could help steer the economy away from the precipice of recession. By contrast, a wait-and-see approach could force the Fed to take more drastic measures later, potentially causing unnecessary economic pain.
"The worst possible outcome at this point is for the Fed to cause an unnecessary recession," Sahm cautions. "I'm not sure what they're waiting for."
The Fed's reluctance to act is particularly perplexing given the mixed signals emanating from the economy. While inflation has shown signs of moderation, with the central bank's preferred gauge clocking in at 2.7% in April, the labor market is flashing warning signs that Sahm believes should not be ignored.
"Inflation has come down a lot. It's not where you want it to be, but it is pointed in the right direction. Unemployment is pointed in the wrong direction," she notes. "Balancing these two out, you get closer and closer to the danger zone on the labor market and further away from it on the inflation side. It's pretty obvious what the Fed should do."
Yet, the Fed's actions thus far have been anything but obvious. Following their meeting last week, policymakers sharply lowered their projections for rate cuts this year, now forecasting just a single reduction instead of the three previously anticipated. This stance caught markets off guard, with futures contracts still pricing in two rate cuts in 2024.
Sahm's criticism is not merely academic; she warns of potentially severe consequences if the Fed fails to heed the Sahm Rule's warning signs. "The bad outcomes here could be pretty bad," she cautions, painting a grim picture of a self-reinforcing cycle where job losses lead to reduced consumer spending, which in turn triggers more layoffs.
In Sahm's view, the Fed's unwillingness to act preemptively is puzzling from a risk management perspective. "I have a hard time understanding the Fed's unwillingness to cut and their just ceaseless tough talk on inflation," she laments.
As the debate over the Fed's next move rages on, Sahm's words serve as a sobering reminder of the high stakes at play. By "playing with fire," as she puts it, the central bank risks igniting the very inferno it seeks to extinguish – a outcome that could have profound consequences for the broader economy and the millions of Americans whose livelihoods hang in the balance.
