The American economy is heading for trouble, and it may go into recession next year. If that happens, it would be bad news for the rest of us, including the UK. That old adage still applies: when the US sneezes, Europe catches a cold.
At first sight, that might seem an overly pessimistic outlook. US shares are still close to their all-time highs, with the S&P 500 index up 16 per cent this year. Unemployment, at 4.4 per cent, is the highest since 2021, but is only creeping upwards. And while consumer confidence fell sharply last month, that was probably associated with the government shutdown, which is now over.
But there are several powerful reasons to expect things to slow down sharply in the coming months. One is that the stock market boom has been driven by its technology giants, with the top 10 companies accounting for more than one-third of the total capitalisation, up from 18 per cent 10 years ago. Another is that US house prices have weakened. They are not facing an overall collapse, though in some regions, notably Florida, they are very soft. But the big rises of recent years have come to an end and prices overall are expected to run behind pay increases. The greatest concern, however, is what artificial intelligence will do to the job market.
In the long run it is clear that AI will give a huge boost to the overall efficiency of the world economy, and since the US is in the forefront of its development, it should in theory at least be the principal beneficiary. But in the short run it is killing jobs.
An analysis by a US firm, Challenger, Gray & Christmas, showed that AI was cited in US company reports and presentations in enabling a headcount reduction of nearly 50,000 jobs this year. Some 31,000 of those were cut in October alone. In an economy the size of the US that may not seem a lot, and it may suit employers to blame AI when they are trimming their workforce for other reasons. But since AI is cited as a reason for job losses in about one-fifth of instances, we are clearly in the early stages of something huge.
What should we look at to see whether the US will indeed plunge into recession next year, and what would that mean for us here the UK? There is a problem. Because of the US Government shutdown we don’t have up-to-date official figures from the Bureau of Labor Statistics. We did, though, just get some estimates of what is happening in the private sector in the APD National Employment Report. It is not a good story, for this showed that 32,000 jobs had been lost in November. You should always be cautious about any one set of economic indicators, but if this trend is confirmed in the coming weeks then it looks likely that the US will indeed head into recession. A sharp rise in unemployment is one of the best indicators that this is happening.
What then? There will be interest rate cuts from the Federal Reserve. The Bank of America predicted on Monday that the Federal Reserve would cut rates at its next meeting this month and that there would be two further reductions next year in June and July. That is pretty much what the rest of the market expects, but whether slightly cheaper money would be enough to stop a recession is another matter. If the main driver of recession is job losses from AI, probably not.
We are affected here in three ways. First, the chances are that recession would pop the equity bubble in America and would inevitably affect share prices in London too. Not a catastrophe, for our markets are much more reasonably valued than the US ones. But it would cast a cloud.
Second, any economic slowdown in the US affects our economy directly because it is our largest single export market, though smaller than the EU as a whole.
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Third, the forces that are cutting jobs there are the same as those affecting employment here. It’s already happening. A study in October by King’s College London showed that it was cutting hiring, particularly for entry-level positions. This is bad news for new graduates.
Dr Klein Teeselink, who headed the story, said that the particularly significant impact on job losses on entry-level positions would have implications for skill development. He added: “Without junior roles serving as training grounds, firms may struggle to develop senior talent internally while new entrants face shrinking opportunities to gain experience.”
What we are seeing is a seismic shift in the nature of employment. It started in America and it is happening on Donald Trump’s watch. A recession there will be just one element of that shift. Long-term we all benefit, or at least most of us will. But if I am right in warning of a US recession, next year could be difficult for us here too.
Need to know
For people interested in economics, there is a ready-reckoner that gives an early indication as to whether an economy is in recession or not. It is called the Sahm Rule and it was developed by economist Claudia Sahm, then a section head at the board of governors of the Federal Reserve System.
Basically it shows that if the rate of unemployment suddenly increases, that suggests that the economy is already in recession. Her special insight was that it was the speed of the increase, rather than its level, that mattered.
As the Federal Reserve Bank of St Louis, one of the constituent banks of the Federal System explains: “[The] Sahm Recession Indicator signals the start of a recession when the three-month moving average of the national unemployment rate (U3) rises by 0.50 percentage points or more relative to the minimum of the three-month averages from the previous 12 months.”
That sounds rather nerdy, but it makes common sense that the speed of the increase is the thing that matters. It’s when companies see demand for their stuff falling they know they have to lay off staff.
At the moment the Sahm Rule does not signal recession. But we are also somewhat in the dark at the moment: we won’t have any official unemployment figures for October because of the government shutdown, and publication of the November ones has been delayed until 16 December. My guess is that we won’t really know what is happening until January or February.
As for the AI element, this is one of those situations where there is too much anecdotal information and not enough reliable data. But there is so much of the former that it is clear that AI is already changing hiring patterns, and we just have to watch closely and make cautious judgements rather than rushing to conclusions.
What is worth saying is that when there is any sort of revolutionary change it is always easier to see the negatives than the positives. The negatives are job losses; the positives cheaper and better services. There will, I am afraid, be more stories of the former in the coming months.
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