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Why a Soft Landing Could Prove Elusive


"Hopes are high that a 'soft landing' can be achieved but can we avoid the pitfalls? Expert maneuvering of the economy will be imperative." William Levy, Senior Director and Founder IGRE


Soft landings are rare because they are tricky to pull off.PHOTO: MICHAEL NAGLE/BLOOMBERG NEWS

Odds of the Fed reducing inflation without a recession have improved, but hazards loom

On the eve of recessions in 1990, 2001 and 2007, many Wall Street economists proclaimed the U.S. was on the cusp of achieving a soft landing, in which interest-rate increases corralled inflation without causing a recession.

Similarly, this summer’s combination of easing inflation and a cooling labor market has fueled optimism among economists and Federal Reserve officials that this elusive goal might be in reach.

But soft landings are rare for a reason: They are tricky to pull off. “You need a lot of luck,” said Antúlio Bomfim, a former adviser to Fed Chair Jerome Powell who is now at Northern Trust Asset Management.

Fed officials are set to hold rates steady this week after raising them to a 22-year high because they don’t want to blow a shot at achieving a soft landing.

The goal faces four threats: the Fed holds rates too high for too long, economic growth accelerates, energy prices rise or a financial crisis erupts.

“The Fed could temporarily achieve a soft landing, but I’m skeptical that it could stick the landing for very long,” said Peter Berezin, chief global strategist at BCA Research in Montreal.

Once the economy is operating with little or no slack, anything that boosts demand could stoke inflation. Meanwhile, anything that lowers demand could send the unemployment rate rising, a process that is hard to stop once it starts, said Berezin. He expects a recession in the second half of next year.

The 1969 moon landing propelled the “soft landing” expression into the economic lingo in the early 1970s. Nixon administration officials sought to conquer high inflation without triggering a severe downturn.

Since World War II, economists say, the U.S. has achieved only one durable soft landing, in 1995. “We steered the economy very expertly, but in addition, we were lucky. Nothing bad happened,” said Alan Blinder, an economist who was Fed vice chair from 1994-96.

Here is what could go wrong this time.

The Fed stays too tight

First, if the Fed holds rates too high for too long, it would risk an unnecessarily severe downturn. The 1995 soft landing occurred after Fed officials pivoted quickly to cutting rates. After doubling their benchmark federal-funds rate to 6% over the 12 months through February of that year, they realized they might have acted too aggressively. Growth faltered and global forces appeared to be tamping down price pressures. They reduced rates three times starting in July.

Back then, inflation was around 2% and Fed officials were lifting rates to prevent it from rising. Today, with inflation above 3%, they are trying to force it down. Officials have indicated they will hold rates at high levels for longer than they might have before the recent inflation spell to ensure price pressures don’t resurge.

After Fed officials stop lifting rates, Berezin said, “my worry is that they’ll stay on ‘pause’ longer than they need to because it will be embarrassing to start cutting rates so soon after” raising them and because they might fear repeating their mistake of underestimating inflation risks two years ago.

In addition, avoiding a recession if inflation is tamed will eventually require keeping interest rates close to their so-called neutral level that neither spurs nor slows growth. Because this rate can’t be observed, it is hard to identify.

By Nick Timiraos - Originally posted in The Wall Street Journal

Sept. 18, 2023 5:30 am ET

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