Discerning Economic Trends Proves Tougher Since Pandemic

Forecasting economic trends in the post-pandemic era has posed unprecedented challenges.

Since 2020, numerous shocks have pushed the economy in opposing directions. These shocks were then mixed and overlayed with policy responses, with their own delayed effects. As a result, the economy no longer conforms to a standard business-cycle framework, and many of the old empirical regularities no longer apply.

The original shock came from the COVID-19 pandemic and restricted mobility, which brought a short but very sharp recession in the second quarter of 2020. This initial shock was met with aggressive fiscal and monetary stimulus programs, which helped contain the economic fallout. However, paired with the pandemic-induced supply-chain disruptions, the stimuli also led to the highest inflation in over 40 years. To counteract it, the Federal Reserve (Fed) raised interest rates to the highest levels in decades. As supply chain disruptions receded and high interest rates dampened demand, inflation returned closer to the target rate of 2% and recently allowed the Fed to begin dialing back the policy restrictiveness. Although monetary policy is slowly normalizing, fiscal normalization still lies ahead, as budget deficits remain large and public debt continues growing.

The labor market was similarly subject to unprecedented shocks. At the beginning of the pandemic, over 16 million people lost their jobs and the unemployment rate skyrocketed to 14.8%. However, changes in spending patterns soon created a large demand for workers in industries such as hospitality, healthcare, and information services, and soon led to a shortage of workers and the unemployment rate decreasing to its lowest level in decades. A large wave of immigration further added to the picture as immigrants entered the labor force, resulting in unprecedented expansion in employment levels. Although the situation on the labor market is slowly normalizing, as the dust settles after labor relocations and the wave of immigration abates, the size of the earlier shocks means that diagnosing the “normal” on the labor market has become exceedingly difficult.

This unprecedented collection of shocks, policy interventions and their aftermath means that many of the historical economic predictors didn’t hold true. The rapid monetary tightening of over 500 basis points that began in March 2022 did not result in a deep recession, and inflation has declined to around 2% without a large increase in the unemployment rate. The usual recession indicators also failed. The yield curve inverted in July 2022, as short-term market interest rates climbed above the long-term ones, previously a near-certain signal of a coming recession. The yield curve then uninverted in September 2024 with little impact, even though historically it would coincide with the beginning of a recession. Similarly, the Sahm rule, based on an increase in the unemployment rate, was triggered in July 2024 with little impact, even though it had correctly signaled every recession in the past 60 years.

The uncertain economic environment is exacerbated by the not-so-new problem of data revisions. The Bureau of Labor Statistics and Bureau of Economic Analysis (BEA) regularly update their data to account for new sources and better methodology to allow the data to better reflect the state of the economy. Although the revisions are inevitable, they are sometimes large enough to change the overall picture of the economy. This was the case with the latest revisions released by the BEA on Sept. 26. It better accounted for households’ interest and business income and revealed a picture of much healthier consumers much less likely to limit spending. While the magnitude of revisions is not significantly larger than before the pandemic, they further blur the already unclear picture.

The series of shocks of the last four years have humbled economists and made them rethink many of the previous theories and empirical regularities. The conflicting data constantly requires deep analysis and a careful application of relevant parts of economic theory and experience. While challenging, the AMG team has been hard at work to discern the emerging trends and help our clients navigate this convoluted post-pandemic environment.