More Signs Recession Isn’t Certain

Q1 GDP results have started trickling out, but other indicators are already looking to April: Namely, S&P Global’s flash purchasing managers’ indexes (PMIs), which hit the wires last Friday. They add further evidence this year’s economic reality is better than projected—the central force behind global stocks’ rally from mid-October’s low, in our view.

April’s flash PMIs for major developed economies showed overall growth in April, though they were mixed on a sector basis. (Exhibit 1) While services all topped 50, indicating expansion, manufacturing was mostly under that mark, indicating contraction. These are just surveys, and they measure growth’s breadth rather than its magnitude, but they are consistent with recent trends.

Exhibit 1: A Look at the Latest PMIs

Source: FactSet and S&P Global, as of 4/25/2023.

Domestic developments weighed on activity in some countries—for example, French manufacturers reported strikes protesting the government’s pension reforms hurt demand. But that split between services and manufacturing is consistent with other indicators, and the positive composite reading matches French statistics agency Insee’s assessment of the situation in its February outlook. Then, when commenting on the potential negative impact in some areas, it wrote, “previous episodes show that while this impact can be significant at the sectoral level (whether in sectors directly affected by the strikes or those that are partly dependent on them), it is usually quite limited at the macroeconomic level, especially as we then see catch-up effects.”^[i] Plus, as the agency noted, increased remote work could further cushion the blow.

Yet the manufacturing landscape wasn’t all gloom. Factories broadly reported improvement in supply-chain constraints and costs (e.g., commodity prices) as they worked through pandemic-driven backlogs. Moreover, services—which comprise the lion’s share of GDP in developed nations—have fared better than manufacturing. Services new orders expanded, signaling growth is likely in the near future since today’s orders are tomorrow’s production.

April data also imply 2023’s economic reality hasn’t been dire as previously forecast. Take the UK and Germany, where many economists think recession inevitable (tied largely to those economies’ exposure to natural gas prices, which soared last year). As we pointed out recently, UK GDP hasn’t been great, but it also hasn’t plummeted, and a downturn isn’t a given. Germany is set to announce Q1 GDP on Friday, and many anticipate a second-straight quarterly contraction—fulfilling one common definition of recession. But if that occurs, a shallow downturn is a far cry from last summer, when some projected a big downturn in Europe’s largest economy beginning in the winter. Even late last year, many thought German activity would crater and the eurozone would fall with it. Though the country’s industrial sector has struggled, services have held up, as PMIs demonstrate. In our view, data globally have been mixed, not cratering—pouring cold water on the notion recession is certain.

Despite evidence the biggest developed economies are holding up better than thought, many analysts see the glass as half empty—e.g., yeah, services PMIs are faring well, but growth is now lopsided. Dour interpretations of positive data are a classic sign the pessimism of disbelief is alive and well. Take a popular reaction to the flash services PMIs: Yeah, economic activity is more resilient than thought, but that may reignite inflationary pressures, forcing central banks to hike interest rates for longer than anticipated.

But at this point, we think rate hikes have seemingly lost their shock factor. Since the Fed first hiked rates by 25 basis points on March 16, 2022, the S&P 500 is down just -3.3%.^[ii] Moreover, since the Fed launched some jumbo hikes from June through November—and continued to hike through March this year—US stocks have risen 14.0%.^[iii] It is a similar story overseas. Since the Bank of England became the first major central bank to lift its benchmark rate in December 2021, UK stocks are up 9.4%.^[iv] Ditto for the Continent: After the ECB joined the rate hike party in mid-July last year, German and French stocks have climbed 27.8% and 31.2%, respectively—in line with broader eurozone markets (27.9%).^[v] Stocks just don’t have pre-set reactions to central banks’ moves.

Now, since PMIs don’t measure growth’s magnitude, output measures (e.g., GDP, industrial production, personal consumption expenditures) could contract even as PMIs imply economic activity. But those messages aren’t in conflict, in our view. Rather, they are a reminder of the importance of understanding what different economic measures show and don’t show. Our review of the latest data suggest economies are muddling along—and when compared to expectations of recession, even tepid growth can exceed expectations, a hallmark characteristic of a new bull market.