Stagflation fear gives way to recession fear
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Illustration: Sarah Grillo/Axios
Just nine days ago, we wrote about the signs pointing to an imminent stagflation. It's time to revise that outlook; now, a plain ol' recession looks more likely.
The big picture: The shifts in global markets since President Trump's tariff announcement last Wednesday carry the unmistakable signs of a looming downdraft in economic activity that would bring inflation, interest rates, and job market conditions with it.
- In effect, there has been a push-and-pull over whether the inflationary impact of higher import taxes will prove more powerful than the disinflationary impact on economic activity.
- When Trump announced tariffs far larger than Wall Street was expecting — and followed up with rhetoric suggesting few off-ramps that might lead to their reversal anytime soon — the smart money tilted toward that recessionary/disinflationary outlook.
State of play: Despite higher import taxes that economists widely believe will push consumer prices up in the near term, bond markets are pricing in medium-term inflation that is lower than anticipated a week ago.
- The five-year inflation breakeven — the spread between the yield on regular versus inflation-protected Treasury securities — was down to 2.34% on Friday, from 2.61% a week earlier.
- Commodity prices have plunged, with West Texas Intermediate crude oil down 15% over the last week, to under $61 a barrel. Copper is down 18% in the last two weeks.
- Bond yields have fallen over the last week, as investors have gained confidence that the Federal Reserve will soon be in interest rate-cutting mode — essentially, a bet that the downward drag of less economic activity will spur the Fed into action, overriding near-term inflation worries.
Between the lines: The normal order of things is for price pressures to fall when economic activity halts or turns negative.
- Demand for commodities falls as people drive and fly less, and building and other investment activity dries up. A weak job market means even those who hang onto their jobs are in less of a position to demand raises, and may pull back on spending as a precaution.
- The open question is how those deflationary forces will intersect with tariffs, including a cumulative 54% on Chinese imports, 46% on Vietnam, and 20% on the European Union.
- It's easy to imagine a scenario in which commodity prices stay low and wage pressures are non-existent, but many consumer goods become more expensive.
Of note: Administration officials emphasize the benefits of some of the recent market moves.
- "Everyone wants to look at the stock market going down. You know what else went down? Oil prices went down almost 15% in two days, which impacts working Americans much more than the stock market does," Treasury Secretary Scott Bessent told "Meet the Press" on Sunday.
- "Interest rates hit their low for the year. So I'm expecting the mortgage applications to pick up."
