It appears that the US economy is heading for a sharp slowdown and probably an outright slump by year-end, while inflation moves back up.
Michael Roberts is an Economist in the City of London and a prolific blogger.
Cross-posted from Michael Roberts’ blog
“There will be blood” was the response of economists at JP Morgan, America’s biggest bank, on ‘Liberation Day’ (2 April), when Donald Trump announced his ‘reciprocal’ tariffs on all US imports. JP Morgan raised the probability of a global recession being triggered by the tariff war to 60%, although it was less sure about a US slump.
Forecasts of a sharp downturn in US and global growth have mushroomed. The latest is that of the IMF in its April World Economic Outlook. The IMF forecasts that global growth will be 0.8%pts lower than previously forecast for 2025, down to 2.8% this year, due to the tariff hikes by the US and uncertainty about what will happen next. But the IMF does not forecast a global recession. It said the chances that the world’s biggest economy would fall into recession have risen from 25% to about 40%, but still less than 50%.
The IMF economists reckon a global recession will be avoided on its current estimates of the impact of the tariff war because “global trade was quite resilient until now, partly because businesses were able to re-route trade flows when needed.” But the IMF now expects that global trade growth will dip more than output, to 1.7% in 2025. As for the US, the IMF’s economists point out that the US economy was already ‘softening’ before The Donald’s tariff moves, and so it expects US real GDP growth to drop to 1.8% this year. At the same time, it expects the US headline inflation rate to go back up to more than 3% by the end of the year. China’s growth rate target was 5% for this year; but the IMF reckons that it will be lucky to achieve 4%.
As usual, in its latest report, UNCTAD, the UN’s trade agency, is much more pessimistic. UNCTAD forecasts that global growth will slow to just 2.3% this year, which is below the UNCTAD ‘benchmark’ for a world recession, which is put at 2.5%. UNCTAD correctly emphasis that while “the slowdown will affect all nations”, it’s going to hit hardest most “developing countries and especially the most vulnerable economies”. Just 10 of the nearly 200 U.S. trade partners account for almost 90% of its trade deficit. Yet the least developed countries and small island developing states – responsible for just 1.6% and 0.4% of the US deficit, respectively – are being affected the most. Many low-income economies now face a “perfect storm” of worsening external conditions, unsustainable debt levels and slowing domestic growth.
When it comes to the US, it’s not only JP Morgan that is forecasting a recession by the end of 2025. Morgan Stanley economists now forecast that the US economy will contract 0.3% this year and unemployment will jump to 5.3%, a 1% pt rise. Also, money markets have tripled the odds they placed on recession. As of 19 April, Polymarket shows a 57% chance of recession in the coming year, and Kalshi comes in at 59% – about four times the level in a normal year (15%).
Then there are the GDP forecasters using a range of economic indicators to forecast US growth in each quarter. The most widely followed is Atlanta Fed’s GDP Now forecast. The GDPNow model estimate for real GDP growth in Q1 2025 is -2.4% and after adjusting for exceptional gold trades, -0.4%. So the Atlanta Fed reckons the US economy was stagnant at best from Jan-March. This compares with the consensus forecast of economists at 0.4%.
These are forecasts, but what about actual economic indicators? First, consider the so-called purchasing managers indexes (PMIs). These are surveys of company sentiment on likely orders, prices, costs and sales for several countries. If the survey finds that more than 50% of those asked have experienced some improvement, then expansion is indicated; anything below indicates contraction. The April PMIs for Japan, Europe, the UK and the US, show that manufacturing everywhere remains depressed and Trump’s tariff hikes are still to come. Worse, the services sectors in the major economies are now also declining. Only the US showed some expansion, but even there that is slowing.
Second, the regional branches of the US Federal Reserve do a monthly survey in their areas of economic sentiment and manufacturing sector progress. The latest ones show significant signs of slowdown and outright recession. The New York Fed manufacturing survey for April showed business outlook at -7.4 (down 44 points over the past three months), the weakest since 2001 and the second lowest in the survey’s history. “Firms expect conditions to worsen in the months ahead, a level of pessimism that has only occurred a handful of times in the history of the survey.” The Philadelphia Fed survey reported that “new orders fell sharply, from 8.7 in March to -34.2 in April, its lowest reading since April 2020.”
Source: Phil Fed
However, these are all ‘sentiment’ indicators. As yet, the real indicators for the economy are not showing a recession (although hard data for the economy always lags). Unemployment is still low, inflation is still well under 3% a year, consumer spending has not dived and corporate profits are still rising. After an initial fall from Trump’s tariff announcements, the stock market has stabilised and made a modest recovery – and, after all, stock prices are still way higher than they were at the end of the pandemic slump. This has led some to say that the forecasters are crying wolf.
The Wall Street Journal challenged the recession forecasters. “GDP, after growing 2.5% over 2024, is likely to be flat in the first quarter or even contract. But that seems to reflect unusual import behavior and the effect of weather on consumption.” But the WSJ had to admit that Trump’s tariffs have yet to bite. And American manufacturers are already pulling back on their capital spending plans because of tariffs. A survey by the Equipment Leasing Finance Foundation (ELFF), an organization that represents lenders that help manufacturers obtain new capital equipment for factories, found that in April more than 61% said they expect spending to fall. Ford is halting sales of some American-made cars to China. GM is laying off American factory workers too. Cleveland Cliffs, the steel company, is laying off 1200 workers.
As for investment in productive sectors of the economy (‘Main Street’), US companies, apart from those investing heavily in AI capacity, are not acting. Durable goods orders for non-defense capital goods (i.e. that are not for arms manufactures) have risen only 1.6% since 2022.
Source: FRED
Even in the AI sector, recent regional surveys from the Federal Reserve, show businesses expecting to cut back on IT and capital expenditure on software, having already cut spending in prior months.
For me, the best guide to whether there will be a slump is what is happening to corporate profits. US companies are reporting on their earnings results over the next couple of weeks. But if we look at the official figures for corporate profits up to Q4 of 2024, then all seems reasonably fine. US corporate profits have risen markedly since the onset of the COVID-19 pandemic, reaching near $4 trillion at the end of 2024. Profits from domestic nonfinancial industries, which averaged 8.1% of national income over the 2010-19 period, rose to 11.2% by the last quarter of 2024. Relative to national income that is a 2.3% pts rise compared to the pandemic. Globally too, corporate profits are still rising, if at a relatively weak pace.
Source: national data, author
As long as corporate profits keep rising, then a recession is unlikely. However, much of the US rise has been achieved mainly through a fall in interest rates lowering the cost of debt. And corporations have not invested most of these increased profits into new equipment and plant. Instead, 76% of the growth in corporate profits has gone into dividends rewarding shareholders. Only 15% was invested (the rest went in tax).
This failure to invest productively is striking and structural. It is driven by long-term changes in the profitability of the productive sectors of the US economy. The gap between the ‘whole economy’ rate of profit and the rate of profit in the productive sectors of the US economy has been widening since the early 1980s. While the overall rate has been pretty static since 1997, profitability in the productive sectors, after rising modestly in the 1990s, has fallen back sharply since. So US companies are switching much of their profits into buying back their shares to drive up prices; or into increased dividends to shareholders.
Source: BEA, author
However, the low interest rate environment for companies in the 2010s has come to an end. Real interest rates (ie. after inflation is deducted) are at their highest level since just before the global financial crash in 2008. That suggests to me that if Trump’s tariff war starts hitting corporate revenues in the US and elsewhere and at the same time inflation rises and interest rates follow, then the squeeze on profits will tighten.
Source: FRED
Given that global debt is at record levels, particularly corporate debt, then any rise in interest rates could also provoke a financial meltdown.
Source: IMF
That could be accelerated by the Trump administration. Treasury Secretary Scott Bessent is calling for the easing of regulations on banks that supposedly ensure that they have enough capital to meet any loans turning bad and bankruptices. Apparently, the experience of the recent regional banking collapse of 2023 has been quietly ignored. At the same time, Trump wants the Federal Reserve to cut interest rates immediately even if inflation picks up – he realises that a dive in profits alongside high interest costs would be hugely damaging to his big business backers. Trump has even hinted on trying to remove Fed Chair Powell if he does not act. This has shocked the banking sector which appreciates an ‘independent central bank’ that does their bidding. They don’t want an unpredictable president determining interest rates.
But that’s the game of the Trumpists. They aim to upturn the traditional institutions of the state and finance in order to deliver gains for their faction in the ruling class ie the oligarchs of Main Street. The rest of the world must bend to their will and that includes Wall Street and the international agencies. Treasury Secretary Scott Bessent made that clear in a recent speech to Institute of International Finance, just before the semi-annual IMF-World Bank meeting. Bessent launched a scathing attack on the IMF accusing it of ‘turning a blind eye to China’s export-led economic dominance and neglecting its core responsibilities in favour of climate and social policy work’. Bessent basically said that the IMF had gone ‘woke’ by emphasising climate change, gender equality and social issues. “These are not the IMF’s mission,” he declared; they were “crowding out” proper work on “financial stability and trade surveillance.“
The sharpest criticism was reserved for the IMF’s treatment of China “We will not abide the IMF failing to critique the countries that most need it—principally, surplus countries,” he said. “The IMF needs to call out countries like China that have pursued globally distortive policies and opaque currency practices for many decades.” On the other hand, Bessent only had nice words to say about the huge loan that the IMF has just agreed to give Milei’s Argentina. “Argentina is a fitting example. I was in Argentina earlier this month to demonstrate the United States’ support for the IMF’s efforts to help the country reset financially. Argentina deserves the IMF’s support because the country is making real progress toward meeting financial benchmarks.”
Bessent’s attacks were soon acknowledged by IMF chief Georgieva. In her usual fawning manner, she basically accepted Bessent’s critique and blamed trade surplus countries like China for the tariff war (which by the way are most of the major economies!).
Indeed, in her latest personal policy agenda released at the IMF meeting, Georgieva dropped all references to climate change mitigation or social policies. Instead, she “will stay focused on promoting macroeconomic and financial stability”. So much for past talk about ‘inclusive’ policies on dealing with inequality and the environment.
There is much talk that Trump’s tariff policies are partly designed to weaken the dollar in world currency markets so that US exports are more competitive, just as Nixon’s ending of the gold standard in 1971 and the Plaza Accord pact in 1984 aimed to do. And there is a further argument is that this is beginning of the end of dollar dominance and the ‘extraordinary privilege’ that US capital enjoys by owning the world’s largest trading and reserve currency.
Well, the first thing to note is that, while the US dollar may have weakened in the last few months as investors search for an alternative to hold or transact with, the dollar is still very strong historically. Federal Reserve data show that the real value of the dollar still stands nearly two standard deviations above its average since the start of the floating exchange rate era in 1973.
Dollar depreciation from here does not mean that the dollar is losing its status as the world’s dominant currency, just as Nixon’s move and the Plaza accord eventually proved. The dollar is still too large in world markets for other currencies to replace it. The dollar has fallen somewhat because private foreign holders (investment funds, corporates, banks etc), which now hold larger holdings than the central banks, have stopped buying. For years, official holders of the dollar (central banks round the world) have gradually stopped building their dollar reserves. But they have made no big moves to reduce them following Trump’s tantrums.
What a weaker dollar will do is drive up US inflation by adding to the impact of the tariff increases on US imports. So it appears that the US economy is heading for a sharp slowdown and probably an outright slump by year-end, while inflation moves back up. There will be blood.
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