COVID and policy changes could radically affect growth, inflation, and the midterm elections.
Despite the rapid spread of the Omicron variant, the U.S. economy ended 2021 in strong shape. Holiday spending rose by 8.5 per cent compared with last year, according to a recent survey. In the four-week period that ended on December 25th, initial unemployment insurance averaged less than two hundred thousand a week, and reached the lowest level in more than a half century. Based on impressive numbers like these, the Federal Reserve Bank of Atlanta estimates G.D.P. growth of 7.6 per cent in the final quarter of the year, up from 2.3 per cent in the third quarter, when the Delta variant held back spending. The Conference Board, a business research group, reckons that over the whole of 2021 G.D.P. rose by 5.6 per cent, which would be the highest rate since 1984. What about rising inflation? These G.D.P. figures and projections are all adjusted for inflation: they account for rising prices. If such indicators prove correct, 2021 was the year of the fastest economic growth since Ronald Reagan declared that it was “morning again in America.”
Most professional economic prognosticators think that 2022 will be another strong year of recovery from the virus-induced slump of 2020. The Conference Board is predicting growth of 3.5 per cent; Goldman Sachs is predicting 3.8 per cent; Bank of America says four per cent. If the economy does expand by somewhere between 3.5 and four per cent, that would represent a slowdown from 2021, but it would also be a very strong economy. In the decade before the pandemic, the annual rate of growth never reached three per cent.
There is also positive news about the global supply-chain problems that have contributed greatly to surging inflation. Concerns about holiday shoppers facing empty shelves turned out to be largely misplaced. In Europe, factories reported that supply logjams eased for the second month in a row. “While shortages remained significant, the end of the year brought with it some signs that cost pressures have eased,” Siân Jones, a senior economist at the data firm IHS Markit, told the Wall Street Journal. Based on these trends, it is far from unthinkable that, by the second half of this year, with the midterm elections approaching, inflation could decline in an environment of solid G.D.P. growth and low unemployment.
Of course, all economic forecasts should be treated skeptically. The optimistic predictions for G.D.P. growth are based on extrapolations from recent experience—in this case, high levels of spending, strong hiring, and lots of pent-up demand—and then making adjustments. In normal times, this is an eminently reasonable way to go about things. The potential problem here should be obvious: these aren’t normal times. To borrow a phrase from the late Donald Rumsfeld, there are “known unknowns” that could radically impact this year’s economic outcome and November’s midterm elections.
The first known unknown is the virus. Most economic forecasters are assuming that the Omicron wave, like the Delta wave, will recede before too long, leaving behind little lasting damage to the economy. “Omicron could slow economic reopening, but we expect only a modest drag on service spending because domestic virus-control policy and economic activity have become significantly less sensitive to virus spread,” the economic team at Goldman Sachs said, in unveiling its 2022 predictions. That assessment could well turn out to be accurate—let’s hope it is—but it’s too soon to say. Over the weekend, the seven-day average of new COVID cases set a record of more than four hundred thousand. Since Christmas Eve, bad weather and Omicron have caused the cancellation of more than fifteen thousand commercial flights. In the last week of December, the number of people eating at restaurants was about thirty per cent below the same period last year, according to data from OpenTable.
Even if the U.S. economy does get through the Omicron wave relatively unscathed, with few or no lockdowns, the new variant could affect production in the Chinese economy, which supplies many components and finished goods to the U.S. China just recorded the largest number of weekly cases since suppressing the initial wave of the pandemic. The spread of Omicron represents the biggest challenge yet to Beijing’s “zero COVID” policy. A decision to lock down large parts of China’s economy could exacerbate problems in the supply chain. In a globalized economy, no country—even one as big and powerful as the U.S.—exists in isolation.
The second big known unknown is economic policy in Washington. It’s still unclear whether Democrats in Congress will be able to cobble together a new spending package from the original components of Joe Biden’s stalled Build Back Better plan. If they can’t, the failure will have a negative impact on growth in 2022, but it probably won’t be huge. The Conference Board estimates that passage of the proposal reviewed by the Congressional Budget Office would have raised G.D.P. by about 0.4 per cent in 2022.
The actions of the Federal Reserve—and the reaction to them on Wall Street—could well be a bigger factor in determining how the economy fares. In predicting growth that is still strong in 2022, economists are implicitly assuming that Jerome Powell and his colleagues will successfully engineer a “soft landing” for the economy by easing the monetary stimulus they introduced at the start of the pandemic and making modest interest-rate hikes. This may be a defensible assumption, but it is by no means a trivial one. If inflation doesn’t fall as rapidly as hoped, the Fed may raise rates more aggressively—which could lead to a big correction in the frothy markets, or even a crash. Since the Second World War, most recessions have been brought on by the Fed’s attempts to lower inflation.
Nobody said that guiding the economy through a global pandemic would be easy. Almost two years in, the policymakers at both ends of Constitution Avenue have done a much better job than they are given credit for by the public. Absent the emergency measures they introduced in 2020 and 2021, the economic situation would be far, far worse than it is. Despite Omicron, there is now ground for optimism. But COVID isn’t done yet.
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