The Consensus Got Everything Wrong This Year
A broken clock may never be right.
A stopped clock always reads exactly the same time. It is right exactly twice each day, when the actual time matches the time shown on the clock-face. A broken clock that keeps time inaccurately, running too fast or too slow, need never be right. The time of day and the time on the face may never meet. Same with a clock that is simply set wrong.
At this time last year, Wall Street was gloomy about the coming year. The economy was widely expected to sink into a recession due to lagged effects of Fed interest rates. Higher rates and prices were going to lead to a loss of consumer spending power, hurting profits and bringing down stocks. The consensus view was for stagflation, with growth running below the long-term trend and inflation running above.
China’s recovery was expected to come roaring back. Emerging markets were seen as the place to be for investors.
Bank of America’s fund managers survey, which is an extraordinarily good read of the conventional wisdom of Wall Street, indicated in November of last year that 77 percent of managers saw a recession coming in the next 12 months. Bloomberg Economics said its model showed a 100 percent chance of a recession in 2023.
Twenty-seven percent of managers said that bonds would be the best-performing assets of 2023, a rebound largely based on a bull case for government bonds after two years of losses.
The projections of Federal Reserve officials released after the December meeting showed a median expectation of just 0.5 percent growth in gross domestic product in 2023, a decline from their projection in September of 1.2 percent growth. The unemployment rate was seen as rising to 4.6 percent.
In other words, Wall Street, the Federal Reserve’s policymakers, and corporate America’s business economists got just about everything wrong they forecast.
The interest rate hikes of 2022 did not significantly depress growth in 2022. Far from falling into a recession, the economy accelerated for the first three quarters of the year. By most estimates, the U.S. economy is likely to record three to four percent growth for 2023. The S&P 500 is up 19 percent year to date. Government bond returns are down 3.9 percent year to date. Emerging market returns are at multi-decade lows. China’s growth was moribund until the government stepped in to boost growth in the third quarter.
A Consensus for a “Soft Landing” in 2024
The evolving consensus on Wall Street is for a “soft landing” next year in which the economy avoids a recession, unemployment rises but not too much, and the Fed cuts rates. The federal deficit is expected to continue to run high but to fall from recent levels. Inflation is seen as falling back toward the Fed’s two percent target, with bumps along the way.
The Bank of America fund manager survey shows that 67 percent of managers see a “soft landing” coming next year. A striking 82 percent see inflation falling from current levels, and 80 percent see lower rates from the Fed. Sixty-one percent were looking for lower bond yields, the most in the history of the poll.
The Fed’s projections have become more bullish. The September 2023 Summary of Economic Projections showed a median growth expectation of 1.5 percent next year, up from 1.1 percent in the prior projections. The unemployment rate is seen as rising to just 4.1 percent by the end of next year, down from an expectation of 4.5 percent. The inflation expectation remains unchanged at 2.5 percent, meaning the Fed expects to get the same disinflationary pressure with higher growth and lower unemployment.
One of the talking points around Wall Street is that this might be the year that “consensus finally gets it right.” Of course, that kind of confidence may be a contrarian indicator.
If the 2022 inflation and rates shock did not produce the expected recession this year, it seems possible that the effect of the Fed’s decision to make July’s hike the final interest rate increase of this cycle could also fail to achieve the expected effect. A contrarian could see the economy falling into a recession next year, perhaps because the Fed winds up having to raise rates because inflation proves stickier than forecast. Just six percent of fund managers see higher short-term rates next year, making this an extremely out-of-census view.
Of course, if forecasting the economy were as simple as predicting the exact opposite of the consensus, everyone would do it.