American businesses are preparing for the likelihood of a recession next year

After a year of strong growth, American middle market businesses are facing the prospect of a recession in 2023 as the Federal Reserve’s efforts to tame inflation continue, said Joe Brusuelas, chief economist for RSM US LLP, and Neil Bradley, executive vice president and chief policy officer for the U.S. Chamber of Commerce.

Brusuelas pegged the chance of a recession at 65%, to arrive in the second half of next year, he said on Nov. 29 during a wide-ranging discussion of the economy in a recent quarterly webcast sponsored by RSM US and the Chamber.

It’s no mystery what’s behind the slowdown: The Federal Reserve has mounted an aggressive campaign of interest rate increases to cool demand and tame persistent inflation.

Brusuelas said he envisions the Fed raising its policy rate by a half-percentage point at its next meeting in two weeks, then by a quarter percentage point at both its January and March meetings. That would leave the rate in a range of 5% to 5.25%. At that point, Brusuelas said he expects the Fed to pause and gauge the impact of the rate increases on the economy.

If the economy follows its current trajectory, a recession is likely to be short and shallow, and to last maybe two quarters, Brusuelas said. The downturn will be eased by factors like a chronic shortage of labor that will keep the unemployment rate low and, perhaps, a renewed round of defense spending that will act as a stimulus.

“This won’t look like your father’s recession,” Brusuelas said.

Many areas of the economy are still strong, with the notable exception of housing. Bradley said it is important to distinguish between some of the recent dire news—think of high-profile layoff announcements at large technology firms—and how middle market businesses are faring.

“In the real economy, things are pretty strong,” Bradley said. “There is a disconnect between the headlines and the real economy.”

One reason for the recent strength, Bradley said, was that businesses were working through the pent-up demand left over from the pandemic. Brusuelas added that higher-income households are sitting on $1.3 trillion in excess savings built up during the pandemic, though they are now starting to spend that down. 

Still, Brusuelas and Bradley cited risks to the economy that could make a recession deeper, or bring it on earlier. Those include:

• Rail strike: Railroad workers and companies remain at odds over a contract. With the economy heavily dependent on rail freight, any labor stoppage would come at a high cost, starting at $2 billion a day in economic activity, Bradley said.
• Immigration: A shortage of labor has left many businesses scrambling to find workers, which only hurts economic growth, and easing restrictions on immigration could help mitigate that. A serious conversation on this topic at the national level is long overdue, Bradley said.
• Price cap on Russian oil: Western economies are trying to reach an agreement that would place a price cap on Russian oil exports, a move that, depending on Russia’s response, could run the risk of worsening an already difficult energy landscape.  

Both Bradley and Brusuelas stressed the importance of businesses making investments in productivity, particularly as they struggle to find workers.

“We need investments in energy and infrastructure, and in productivity,” Bradley said.

Whether those investments are made by the businesses themselves, or by the government in infrastructure, the economy will suffer without such financing.

As Brusuelas put it: “We need roads. we need bridges, we need ports, we need broadband.”

Bradley added that it was important for Congress to provide incentives in tax and accounting policy so that businesses are encouraged to invest in research and development and increase their capital expenditures.

While the political environment will be difficult with the coming divided Congress, Bradley struck an optimistic note.

“If anything gets enacted, there will be bipartisan agreement,” he said. “That’s good for business.”