A Look Back: How We've Managed to Avoid a Recession so Far [Market Insight]

Steve Dixon, CFA® CSRIC®
Sep 18, 2023 11:36:47 AM

Market Insight - September 2023

Late last year I wrote that nearly all signs were pointing to an economic recession in 2023. Noted in my blog were examples of previously reliable indicators predicting a near unavoidable recession looming. Yet, we’re well into the latter half of the year and current projections are for the economy to grow by nearly 2% this year. In fact, the current Atlanta Fed GDPNow estimate for 3rd quarter economic growth stands at a rapid annual rate of 5.6%1. While that estimate is likely to moderate as more data comes in, the prospects for a 2023 recession seem to be quite slim.

The point of last year’s blog was to note that there can often be a disconnect between the health of the economy and the direction of the capital markets. Despite our expectation that a recession was likely in 2023 and the general consensus that economic prospects were dim2, it didn’t lead us to make significant changes to our investment decisions in the hopes of sidestepping a downturn in the market. Since the time that blog was published, the stock market is up over 18%3 and has provided another example of how difficult it is to predict the near-term direction of capital markets.

Why We've Avoided a Recession So Far

At present, the risk of economic recession hasn’t gone away, but it has been delayed. While attempting to summarize why the economy hasn’t already slipped into recession is difficult given its immense complexity, we believe that there are two primary reasons for our avoidance thus far of a decline in economic activity this year.

Immense Stimulus

During the pandemic, which hit in early 2020, U.S. economic stimulus was immense. The Federal Reserve flooded the capital markets with cash by buying nearly $5 trillion worth of securities4. Congress increased spending, resulting in an annual deficit of $3.1 trillion in 2020 and $2.8 trillion in 20215. All that support helped to drive the net worth of U.S. households up from $111 trillion in March 2020 to a peak of $153 trillion two-years later6. In other words, the U.S. government spent aggressively to support its citizens through the pandemic, which ultimately led to a significant increase in the cumulative wealth of Americans.

Most of that stimulus peaked in 2022 when it became apparent that the worst of the pandemic’s impact on the economy was past us and that the considerable stimulus along with an acute disruption in the global supply chain had ushered in the highest levels of inflation in the U.S. since 19817. It’s very difficult to determine if the positive economic impact of that stimulus has fully worked its way through the economy, but this may very well be one of the more significant reasons why the economy continues to seemingly defy expectations.

Low Unemployment Rates

Roughly speaking, consumers generate about two-thirds of all economic activity in the U.S. So, it stands to reason that if consumers are in good shape financially, the economy is likely to also be in good shape. There are many ways to attempt to gauge the health of the U.S. consumer, but perhaps most important of all is whether they are collecting a regular paycheck or not. That brings us to what we believe is the second primary reason that we haven’t slipped into recession yet. The unemployment rate in the U.S. stands at just 3.8%, which is back to pre-pandemic levels and about as low as it’s been since the 1950’s8. The unemployment rate certainly isn’t the only measure of the health of the employment situation that matters. However, it is a good indication that the average consumer isn’t likely to be tightening their belt due to the lack of a regular paycheck right now.

While the employment picture remains strong and lingering stimulus continues to fuel economic activity, we find a recession this year to be unlikely without some exogenous shock to the economy. We are starting to see some softening in the labor market, but we don’t believe a downward trend has formed. Additionally, the bite of higher interest rates is beginning to crimp consumer demand, but not to an extent that is needed for a significant drop in economic growth. The U.S. budget deficit is projected to shrink to $1.5 trillion in 20239. That’s still an exceptional amount of debt-financed government spending, but it’s trending down from nearly double that amount last year. The break on repayments and interest enjoyed by about 44 million Americans that have student loans ends this month as well and will begin to eat into the spending power of consumers.

The Federal Reserve has been clear that it is attempting to pump the brakes on the economy to reduce the rate of inflation to a more agreeable level without causing a sharp drop in economic growth. So far it seems to be achieving that goal, but perhaps like taking medicine for an ailment, sometimes the effects take time to kick in leaving you wondering if you took enough for it to be effective. The Federal Reserve has dosed the economy with higher interest rates in quick succession. Time will tell whether it overshot, undershot, or got it just right.

When to make changes to your investment strategy

Recessions are a normal part of the economic cycle, and we’re sure to experience them again. We believe that getting too focused on the timing, severity, and duration of recessions is counterproductive because of how difficult it is to do and because those factors don’t necessarily correspond to capital market behavior. The reaction of the capital markets to changes in the economic landscape is unpredictable. As the late, great investor Steve Leuthold would say, “forecasts are for show, disciplines are for dough”. We are ardent believers that being disciplined in any market environment is critical to an investor’s long-term success. It’s not that you set your investment strategy and then bury your head in the sand. Strategies can change when longer-term trends are believed to be changing. But the changes should always consider your long-term investment goals and your ability and willingness to accept volatility in the value of your investments. We don’t believe that strategy changes should be made based on expectations for the timing of changes in market cycles. For some the temptation to do so has been high over the past year, but we remain convinced that a disciplined approach will yield more consistently better results over time.

Table 1
Market Indices (As Of 8/31/23) Year-to-Date One Year
Dow Jones Industrial Average +6.4% +12.6%
NASDAQ Composite +34.9% +19.9%
S&P 500 Index +18.7% +15.9%
Bloomberg US Aggregate Bond Index +1.4% -1.2%
Small Cap Stock (Russell 2000 Index) +9.0% +4.7%
Non-US Stock (MSCI EAFE Index) +10.9% +17.9%

Thank you for your continued partnership with Birchwood. Doing what’s in your best interests is at the core of every decision we make. We are all passionate about providing you with the knowledge, insight, and wisdom to help you achieve your financial goals and live your best life. If you have questions or concerns, please don’t hesitate to reach out at any time.

Gratefully yours,

Steve Dixon, CFA® CSRIC®
Investment Manager

Dana Brewer, CFP®, Bridget Handke, CFP®, Damian Winther, CFP® CSRIC®, Rachel Infante, CFP® CSRIC®, Kimmie Moehring, CFP®


1 Source: Federal Reserve Bank of Atlanta. “GDPNow”. www.atlantafed.org/cqer/research/gdpnow. Accessed 31 Aug. 2023.

2 Source: University of Michigan, University of Michigan: Consumer Sentiment [UMCSENT], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/UMCSENT, August 31, 2023.

3 Source: Morningstar. December 19, 2022 to August 31, 2023 total return for the S&P 500 Index was +18.1%. Market indexes are unmanaged, and investors cannot invest directly in indexes. However, this index is an accurate reflection of the performance of the broad U.S. stock market. All returns reflect past performance and should not be considered indicative of future results.

4 Source: Board of Governors of the Federal Reserve System (US), Assets: Total Assets: Total Assets (Less Eliminations from Consolidation): Wednesday Level [WALCL], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/WALCL, August 22, 2023.

5 Source: Fiscal Data. “Federal Deficit Trends Over Time, FY 2001-2022”. https://fiscaldata.treasury.gov/americas-finance-guide/national-deficit/. Accessed August 22, 2023.

6 Source: Federalreserve.gov, "The Fed - Chart: Balance Sheet Of Households And Nonprofit Organizations, 1952 - 2023 ". https://www.federalreserve.gov/releases/z1/dataviz/z1/balance_sheet/chart/#units:usd. Accessed August 22, 2023.

7 Source: U.S. Bureau of Labor Statistics, Consumer Price Index for All Urban Consumers: All Items in U.S. City Average [CPIAUCSL], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/CPIAUCSL, August 22, 2023.

8 Source: U.S. Bureau of Labor Statistics, Unemployment Rate [UNRATE], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/UNRATE, September 12, 2023.

9 Source: Congressional Budget Office, “An Update to the Budget Outlook: 2023 to 2033”, retrieved from https://www.cbo.gov/publication/59096, September 12, 2023.

Table 1 Source: Morningstar. Market indexes are unmanaged, and investors cannot invest directly in indexes. However, these indexes are accurate reflections of the performance of the individual asset classes shown. All returns reflect past performance and should not be considered indicative of future results.

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