Soft landings nearly always prove elusive for the Fed
Soft landings are exceedingly rare in the US and the 1990s episode marks the only example of a successful soft landing.
With the US unemployment rate recently rising at a rate that meets the threshold of the Sahm rule – which is a rule-of-thumb that uses unemployment to identify recessions – it has brought home to policy-makers that the long-held aim of achieving a soft landing may have slipped out of reach and high interest rates could finally be tipping the economy over.
Mindful that there is no guarantee that the Sahm rule will continue to hold, the key reason why it has been a useful real-time indicator of modern recessions is that every sharp rise in unemployment in the post-WW2 period has coincided with recession.
If the Sahm rule signal proves correct, it would tally with the old, somewhat brutal, saying by MIT professor Rudi Dornbusch, that, “No postwar recovery has died in bed of old age — the Federal Reserve has murdered every one of them”.
While recessions are common in the US – there have been thirteen of them in the near eight decades since the end of WW2 – Dornbusch was exaggerating in that there have been a few rare instances of soft landings over this time.
Defining a soft landing as a period when high interest rates did not lead to the sharp rise in unemployment/job losses that are characteristic of a recession, there was one in the first half of the 1960s, another in the mid 1980s, and the last one in the mid 1990s.
However, out of these few rare soft landings, only the 1990s episode qualifies as a success, because it was the only instance when the Fed achieved the 2% inflation target that it had unofficially adopted at the time, albeit with a lag.
The other two soft landings were unfortunately policy failures.
In the 1960s soft landing, core inflation was low for most of the time, but after the Fed finished raising rates inflation picked up very sharply in the second half of the 1960s.
In the mid 1980s, core inflation improved with a lag, but its ultimate low was still above the eventual 2% target, marking a brief trough as inflation quickly reaccelerated in the late 1980s.
For the Fed, the distinction between a soft landing and recession shapes how much it subsequently cuts rates, with an understandably aggressive policy response to a recession, but only a mild reduction in rates in the unique instance of the successful soft landing of the 1990s.
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Based in Sydney, Kieran Davies is Chief Macro Strategist at Coolabah Capital Investments, an asset manager with 40 executives and over $8 billion in fixed-income strategies. Kieran is responsible for macroeconomic research and investment strategy, contributing to the investment decisions of the firm. Kieran has long experience as a macroeconomist in both the private and public sectors. He has worked most recently as Chief Markets Economist for National Australia Bank and was previously Chief Economist, Australia and New Zealand, for Barclays Bank and ABN Amro Bank/RBS. Kieran also worked as Principal Adviser on the macroeconomy and budget policy in the Commonwealth Treasury and Director of Forecasting.
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Based in Sydney, Kieran Davies is Chief Macro Strategist at Coolabah Capital Investments, an asset manager with 40 executives and over $8 billion in fixed-income strategies. Kieran is responsible for macroeconomic research and investment strategy,...
Based in Sydney, Kieran Davies is Chief Macro Strategist at Coolabah Capital Investments, an asset manager with 40 executives and over $8 billion in fixed-income strategies. Kieran is responsible for macroeconomic research and investment strategy,...
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