Fannie Mae ESR Group: Modest Economic Contraction Likely


As underlying inflation decelerates and the labor market shows signs of cooling, the central question for economists remains whether the economy is headed for a soft landing or a mild recession.

According to the September 2023 commentary from the Fannie Mae Economic and Strategic Research (ESR) Group, mixed signals from key economic data releases continue to muddle the near-term outlook – and the answer to that question. However, a modest contraction remains the most likely outcome as consumption continues to outpace incomes and previous monetary policy tightening works its way through the system.

Significant divergence between gross domestic product (GDP) and gross domestic income (GDI) over the past three quarters increases the risk that the ESR Group’s 2023 GDP forecast, which was upgraded this month by three-tenths to 2.2% on a Q4/Q4 basis, will come in lower than currently expected. Regardless, the ESR Group notes that robust consumption growth in July was likely due to a series of temporary factors, and credit card transaction data and control group retail sales suggest real consumption growth will pull back in August.

The housing market faces renewed headwinds with mortgage rates settling above 7%, notes the ESR Group. Still, the downside risk to total home sales is limited as more sales are being driven by life events rather than discretionary factors, and the cash share of purchases remains high. New home sales were surprisingly strong in the first half of the year, due partly to homebuilder rate buydowns, which become more expensive when mortgage rates rise. Going forward, the ESR Group expects new home sales to pull back slightly due to the higher mortgage rate environment and recent decline in homebuilder confidence.

“In April 2022 we noted our expectation that the combination of dissipating stimulus impact and tightening monetary policy would result in a mild recession in the second half of 2023; mild in part because we expected the housing supply shortage to keep production from falling significantly,” says Doug Duncan, senior vice president and chief economist, Fannie Mae.

“Housing production has indeed held up. However, the pandemic-related fiscal transfers and built-up household savings have supported consumer spending longer than we had expected, providing unforeseen support to the macroeconomy,” Duncan continues. “Our current prediction for a mild downturn in the first half of 2024 is predicated on the belief that consumers will begin pausing their spending, in part due to the exhaustion of those funds and having to realign to a more sustainable relationship between spending and incomes.

“According to our latest National Housing Survey, households remain confident in their own employment even though they don’t feel great about the overall economy, and the vast majority don’t believe it’s a good time to buy a home. We expect that total housing market activity will remain at a low level into 2024 as the Federal Reserve continues to hold the line on interest rates against inflation.”

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