Is a recession on the horizon? Economic data points to some negatives, and the bond market could certainly sway the outlook. Many analysts say Fed policy is supporting economic growth. However, an important factor no one really talks about is trader psychology, which could cause a recession this year.
Consumer spending and tariffs are two risk factors
Sixty-eight percent of the US economy is based on consumer spending. Two-thirds of that is spent on services, such as housing and health care. Almost one-quarter is spent on non-durable goods (clothing and groceries). The rest is spent on durable goods (automobiles and appliances). When consumers tighten their belts, discretionary spending on non-durable and durable goods goes down. For 2019, consumer spending has been just OK. It was soft, but not terrible, in Q1.
Tariffs are definitely weighing on people’s minds. The extent of their economic damage is yet to be determined, but they have already caused a major slowdown in hiring. The longer doubts linger, the more sentiment will shift from bullish to bearish.
Why trader psychology could cause a recession
Recessions are a natural part of the economic cycle. When growth gets too hot, the economy slows down. It’s okay to take a breather. Just like an athlete needs rest after a big game, so too does the economy. Because the media has classified recessions as “bad”, most traders want to get out of the way before a recession begins.
Trader psychology is easily damaged. When the media blasts poor fiscal policy, poor economic conditions and a weak jobs market, recessionary dynamics rise up. The media will grab hold of these and let the world know. Sometimes the economic data is only temporarily poor, but the media do not say that.
When the prospect of a recession is beaten into our heads day in and day out, consumers will back off spending. That fear is often misplaced and poorly timed, and so a recession becomes a self-fulfilling prophecy.
