“In 6 to 12 Months, We’re Going To Have A Big Problem” | Eric Basmajian & Joseph Wang

Episode Summary

Executive Summary: Joseph Wang and Eric Basmajian argued the U.S. economy is moving from a financial-market-led slowdown toward a likely recession as Fed tightening works through housing, durable goods, and eventually employment. They agreed inflation is becoming narrower and more oil-dependent, while the Fed appears committed to keeping rates high even if unemployment rises, making a soft landing increasingly unlikely.

Main Topics: From financial-market pain to real-economy slowdown (Priority: 5/5): The discussion opened with whether asset-price losses are only the first phase of Fed tightening. Both speakers argued the effects are still working through the real economy and that slower growth and higher unemployment likely lie ahead. Growth deceleration and recession sequence (Priority: 5/5): Basmajian framed the economy as slowing since spring 2021 from an extreme growth surge. He argued the cycle now follows a familiar chain: weaker real income and consumption, then inventories, production cuts, and finally job losses. Fed dual mandate and the loss of the soft landing (Priority: 5/5): Wang emphasized that Powell now treats inflation control as unconditional, effectively subordinating employment. Basmajian said the odds of a soft landing are near zero given historical precedent, leverage, and the magnitude of tightening. Housing and durable goods as the cyclical engine (Priority: 5/5): Both speakers stressed that housing is a leading indicator for the broader economy. Rising mortgage rates, slowing residential investment, and unwinding durable-goods demand were seen as key transmission channels for recession. Inflation drivers shifting toward oil and geopolitics (Priority: 4/5): They argued the inflation story has narrowed sharply. Most prior drivers—liquidity, commodities, durable goods, the weak dollar—have reversed, leaving oil and some food prices as the main upside risk, especially due to Russia/Ukraine. Liquidity, reserves, and asset prices (Priority: 4/5): The conversation distinguished between bank reserves/QE and private credit creation. Reserves were viewed mainly as influencing asset prices and the wealth effect, with QT reversing that support and likely widening spreads and weakening risk assets. Demographics and structural disinflation vs. localized inflation (Priority: 3/5): They debated whether aging populations are inflationary or deflationary. Wang highlighted labor shortages and higher service consumption, while Basmajian argued demographics are ultimately deflationary through lower investment and excess capacity.

Key Arguments: The Fed is signaling that inflation control overrides employment concerns, so it may keep tightening even if unemployment rises. The economy is not yet in recession by current data, but real income and real consumption already look recessionary while employment is still masking the downturn. Past tightening cycles usually end badly; a soft landing is historically rare and current debt levels make one even less likely. Housing is the economic cycle’s lead sector, so higher mortgage rates and weaker residential investment should spill into manufacturing, durable goods, and jobs. Inflation has become much narrower than in 2021: liquidity, broad commodities, durable goods, and the weak dollar have all flipped from inflationary to disinflationary. Oil is the main remaining inflation risk because it is late-cycle, geopolitical, and can stay elevated even as growth weakens. QT and falling reserves matter mainly through market liquidity and the wealth effect, not by directly forcing banks to stop lending. Commercial bank lending is a lagging indicator, so continued lending strength does not negate the recession risk already building in leading sectors. If a recession arrives, inflation should fall quickly, especially if oil prices and inflation expectations break lower. The timing of the recession is uncertain in real time because data revisions can be large, but Basmajian argued the recession could already be a 2022 story if jobs turn negative soon.

Data Points: Real growth path: Cooling since spring 2021; now back near 1% to 2% - Basmajian described the economy as having slowed from an unusually high peak to a more normal range. Prior real growth peak: 8% to 10% real growth - He contrasted current growth with the extraordinary pandemic-era surge. Real retail sales growth: 0% over the last six months - Used as evidence that real consumption is near contraction. Real income: Negative - Basmajian said real income looks recessionary. Employment growth: 4% to 4.5% annualized - Employment was still supporting overall growth and delaying recession classification. Tightening cycle soft landing rate: About 10% of cycles - Basmajian estimated the historical odds of a soft landing are very low. Debt to GDP: 370% - Used to argue the current economy is much more levered than in past cycles. Interest rate increase: 300 basis points - Referenced as the scale of tightening that has already hit the economy. 1999 recession rate move: ~200 basis points - Historical comparison for the interest-rate shock needed to trigger recession. 2006 recession rate move: 150 to 170 basis points - Historical comparison with higher debt than 1999. 2018 recession trigger move: 120 basis points - He said a relatively small increase was enough to flip conditions recessionary in a highly indebted economy. 1980-1982 tightening: 300 basis points - Compared with today, but at much lower debt-to-GDP. Monetary base growth in 2021: 30% annualized - Basmajian cited this as part of the earlier liquidity/inflation impulse. Monetary base now: -10% annualized - Used to argue monetary policy is no longer aiding inflation. Bank reserves now: -28% annualized - Shown as evidence of tightening liquidity conditions. Durable goods inflation: ~21% peak, down to ~6% - Illustrated the reversal from broad goods inflation to deceleration. Industrial commodities trend: -12% annualized for copper - Basmajian said copper had shifted from extreme inflation to decline. Industrial commodity growth earlier: ~100% annualized - Described the earlier surge in industrial commodities in 2021. Five-year, five-year inflation expectations: 1.9% before the Russia/Ukraine shock - Used to show that inflation expectations were lower before geopolitics re-accelerated commodities. Terminal Fed funds rate expectation: 3.5% then 4.0% then lower - The market’s expected peak rate was described as having moved higher and then lower, with peak timing shifting forward and backward. Peak Fed funds timing: Shifted from September to June to March to December - Basmajian described how market pricing moved the expected peak rate repeatedly. Oil price shock comparison: $120 to $60 in 2008 - Used as a historical example of how recession can rapidly crush inflation.

Pivotal Quotes: "the Fed's inflation mandate is unconditional" — Joseph Wang: Wang explained why the Fed may continue hiking even if unemployment rises. "the chances of a soft landing are rapidly approaching zero" — Eric Basmajian: Basmajian’s core assessment of the tightening cycle and recession risk. "the second leg of this slowdown, is going to be the one that's going to be recessionary" — Eric Basmajian: He described the sequence from income and consumption weakness to job losses.

Implications: Listeners should expect continued pressure on risk assets, weaker housing and manufacturing, and a rising probability of recession. If growth rolls over and oil cools, inflation should fall sharply; if oil spikes again, the Fed could be trapped between inflation and financial stress.