Goldman Sachs Says Chance of Recession Now 25%

Goldman Sachs has just upped its estimated probability of a U.S. recession in the next 12 months from 15% to 25% in a Sunday report for clients.

Still, the economy looks “overall good” and the risk of a recession is “limited,” the report said. The Federal Reserve also has room to cut rates in response if necessary.

It’s another sign of growing concern about the economy’s direction and whether the Fed has held off rate cuts for too long. Equity markets took a fall and by a half hour before the final bell, as the S&P 500 was down 3% the Dow Industrials was off by 2.6%, and the Nasdaq Composite dropped around 3.4%. Yields on the 10-year Treasury were 3.78% at the end of Monday.

Thoughts of a soft landing for the economy — continued growth, strong jobs market, and no recession — are starting to recede. And while experts say it’s still possible, the growing potential of a recession after all is making investors worried.

July job numbers released last Friday were the latest concern weighing on investors. Consensus expectations were 185,000 new nonfarm jobs and continued unemployment of 4.1%. Instead, there were 117,000 jobs. The unemployment rate shot up to 4.3%. Jobs for May and June were revised downward by 29,000.

But the Goldman report said the unemployment rate increase “exaggerates the downside risk” as more than 70% of the July increase was due to temporary layoffs and that a sharp labor drop-off is unlikely as the economy still shows strong growth.

It’s also worth noting that there are global macroeconomic factors in play with the carry trade — borrowing funds in a low-interest market to invest in a higher-return one — getting hit hard when the Bank of Japan raised interest rates from 0.10% to 0.25% on July 31 and said it would cut its bond-buying in half. The hike was small but still the country’s largest since 2007. Many investors have likely been selling off assets to cover trading positions.

According to a Bloomberg report, Goldman’s forecast was more negative than at other banks. JPMorgan Chase expects a 50-basis point rate cut in September and November, followed by quarter-point reductions in the future. In mid-July, Citi Research analysts predicted that the Fed would make a total of 200 basis points cuts over eight FOMC meetings starting in September.

A recession would likely result in the Fed cutting rates to stimulate activity. While cuts are a traditional response, the period from the Global Financial Crisis to the pre-pandemic suggests that reduced interest rates don’t necessarily prop up an economy. The benefits they might offer to CRE could be offset by the negative impacts of a weak economy.