Economist Claudia Sahm cautioned that the Federal Reserve’s reluctance to cut interest rates could potentially push the economy into a recession.
What Happened: Sahm, the economist behind the “Sahm Rule,” which predicts recessions based on unemployment rates, is concerned about the current trajectory of the U.S. economy. The rule suggests that when the unemployment rate’s three-month average is half a percentage point higher than its 12-month low, a recession is imminent, reported CNBC.
As the unemployment rate has been increasing, the Sahm Rule has been gaining attention on Wall Street, sparking discussions about the Fed’s potential interest rate cuts. Sahm, who serves as the chief economist at New Century Advisors, believes that the Fed’s inaction poses a significant risk of triggering a recession.
“My baseline is not recession. But it’s a real risk, and I do not understand why the Fed is pushing that risk. I’m not sure what they’re waiting for,” Sahm said.
She also pointed out that the Sahm Rule currently stands at 0.37, following the May employment report from the Bureau of Labor Statistics. This is the highest the reading has been since the early days of the COVID-19 pandemic.
Despite the rising unemployment rate, the Fed has shown little concern about the labor market. The Fed’s rate-setting Federal Open Market Committee described the jobs market as “strong” following its recent meeting and significantly reduced their forecasts for rate cuts this year.
Sahm stated that Fed Chair Jerome Powell and his colleagues "are playing with fire" and should be closely monitoring the rate of change in the labor market as a potential warning sign of trouble ahead. She added that waiting for a "deterioration" in job gains, as Powell mentioned last week, is risky.
"The recession indicator is based on changes for a reason. We've gone into recession with all different levels of unemployment," Sahm said. "These dynamics feed on themselves. If people lose their jobs, they stop spending, [and] more people lose jobs."
Why It Matters: Sahm’s warning comes at a time when other prominent voices in the financial industry are also advocating for prompt Fed rate cuts. Mohamed El-Erian, the chief economic adviser at Allianz, recently stressed the need for the Fed to act swiftly in reducing interest rates to prevent potential economic instability.
Meanwhile, Neel Kashkari, the President of the Minneapolis Federal Reserve, predicted that a single interest rate cut could take place by the end of 2024. He emphasized the need for more evidence to ensure that inflation is on a downward trajectory toward the 2% target.
However, the Fed has been cautious about initiating rate cuts. Despite softer-than-expected May inflation data, the Fed kept interest rates within the 5.25-5.50% range for the seventh consecutive meeting. This decision highlights the contrasting perspectives of prominent economic voices regarding future inflation and monetary policy.
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This story was generated using Benzinga Neuro and edited by Kaustubh Bagalkote
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