top of page

The Anatomy of a Recession 📈

The markets are more confused than ever with continued tightening by central banks on one hand, and mixed macroeconomic signals on the other. The fate of a global economic downturn is determined by two ends - demand and supply.

And understanding the interplay of demand and supply helps break down what’s happening now, and what will happen next!

  1. Phase 1: The initial problem was demand-led - too much monetary policy easing led to rapid expansion and hence inflation

  2. Phase 2: Then the problem was exacerbated by war - supply got crunched, sending prices even higher and fuelling inflation to levels not seen in decades

  3. Phase 3: To tame inflation, central banks globally started increasing rates, and this has been reflecting in lower GDP and forecasts of a recession

What next? And, more importantly, will the rally continue?

Demand - Rates, GDP and Employment

1. The US 🇺🇸 The Fed has increased rates by 75 bps twice now. But there are mixed signals emerging out of macro data in the US. Signs of a looming recession emerge as:

  • US GDP contracted for the second time; a 0.9% contraction in the latest quarter, a strong indication of a recession

  • Manufacturing slowed down in July as factory activity declined to its lowest since June 2020

But then there’s a super tight labour market:

  • There are still 1.8 open jobs per worker

  • An unemployment rate of 3.5% is at a multi-decade low

  • Pay benefits grew by 1.3%, keeping up with inflation

While tech is firing, other sectors are still hiring, and that’s continuing to push wage inflation higher. Mixed trends are likely to continue putting pressure on the Fed on further tightening.

2. England 🏴󠁧󠁢󠁥󠁮󠁧󠁿 The Bank of England raised rates yet again; this time by 50 bps, its sixth consecutive hike, and the biggest one since 1997. Clearly, the central bank is pressing the brakes hard. What was gloomy though was the predictions made along with the rate hike.

  • Headline inflation to peak at 13.3% in October 2022

  • Recession in the fourth quarter of 2022

  • Recession to last 5 quarters

3. India 🇮🇳 The RBI increased by 50 bps. The quantum of hike was largely anticipated, and the markets didn’t quite react to the hike at all. But commentary continues to be positive, starkly contradicting the West. Optimistic comments were around

  • Continued growth and a narrowing current account deficit

  • In addition to remarks of India being a haven of macroeconomic and financial stability

  • And that inflation in India may have peaked, much like most cool people you knew in high school

Supply - Conflicts, Chips and Oil

1. Conflicts 💥

  • Russia’s invasion of Ukraine is far from over

  • China started military drills and fired a tonne of missiles around Taiwan in response to Nancy Pelosi, Speaker of the United States House of Representatives visiting Taiwan. The US military too increased their patrolling in the Indo-Pacific region as a safety measure. China also slapped import bans on several Taiwanese products

2. Chips 🥔 There has been a global chip shortage for over a year now. Chips - semiconductors that go into anything electronic.

  • Interestingly, Taiwan is the largest supplier of chips in the world. Taiwan’s TSMC make 90% of the world’s advanced chips

  • Now you see why the US-Taiwan-China development has gripped the world? To wade off pressures of disproportionately higher (and growing) demand, China aims to build several tens of semiconductor factories, and the US passed a landmark bill to boost production

3. Oil 🛢️ It’s back to pre-war levels finally! The largest contributor to inflation has finally run out of rage, thanks to

  • Lower demand - high prices being a cure for high prices, and

  • Expectations of a global economic downturn

In this backdrop, the OPEC agreed to further increase production, but the 100,000 barrels per day increase is too modest to make a difference in taking care of the global shortage, or in fending inflation.

Phase 4

Here’s what’s likely:

  1. While demand is being reduced by increasing rates, supply-side pressures continue. If the supply situation doesn't ease, central bank tightening may continue

  2. The US and Europe are likely to slip into a recession (assuming they already aren’t). A few months into recession, the demand reduction can be large enough to offset supply pressures, and tame inflation

  3. For India, there are risks around monetary policy tightening and currency depreciation, which may add fiscal and monetary pressures in the near-term

  4. However, pressures seem to be near-term, and the probability of India dipping into a recession far-fetched

The markets may take a hit because of adverse global conditions and near-term pressures, but we would view these as buying opportunities for the long run.

31 views0 comments


bottom of page