Economist says the U.S. ‘is slowing faster than most expect’—and now there’s proof

Queens’ College president Mohamed El-Erian has been warning for months that the U.S. economy could be heading toward a recession—and the latest economic data may have proved his point.

According to the Institute for Supply Management (ISM), the U.S. Services PMI plunged from 53.8% in May to 48.8% in June. Anything below 50 suggests the sector is contracting.

The surprise drop was the biggest in four years, raising red flags about the health of the economy. That’s because services account for more than 77% of U.S. GDP.

Combined with a weakening manufacturing sector, the services report suggests that “GDP growth will remain weak in the third quarter,” said Olivia Cross, North America economist at Capital Economics.

According to El-Erian, “This latest data release is consistent with growing evidence of what I have noted in recent weeks [...] the U.S. economy is slowing faster than most expect, including the Federal Reserve.”

El-Erian has criticized the Fed for not being proactive enough to prevent what appears to be a looming recession. Instead, the central bank is hyper-focused on fighting inflation.

If a recession does occur, it’ll be a self-inflicted wound that the current Fed may never recover from, said Duke University professor Campbell Harvey.

The Fed has acknowledged that the economy is losing steam but has refused to do anything about it so far.

Is the Fed running out of reasons to keep rates elevated?

Unemployment is rising, core inflation is moderating, and economic growth is weakening, yet the Fed remains cautious not to lower interest rates too soon.

According to the Fed’s latest dot plot forecast, officials expect to cut rates only once in 2024. Wall Street begs to differ and is penciling in at least two rate cuts this year.

Despite talking tough on inflation, some Fed officials are struggling to justify keeping interest rates at these levels.

The minutes of the June 11-12 FOMC meeting revealed that “a number of participants remarked that monetary policy should be ready to respond to economic weakness.”

Although it's not exactly clear what "economic weakness" means to the Fed, policymakers may be forced to act sooner rather than later.

On May 30, the Bureau of Economic Analysis slashed its estimate of first-quarter growth from 1.6% to 1.3%. The second quarter is expected to be similar, with the Atlanta Fed’s GDP tracker calling for growth of just 1.5%.

By comparison, the U.S. economy expanded 3.4% in the fourth quarter of 2023.

“The downward revision to economic growth as well as smaller downward revisions to inflation make the Fed a little more likely to start reducing interest rates by September,” said Comerica Bank’s chief economist, Bill Adams.

“With the economy operating in low gear, a margin of slack capacity is opening up, and consumers are feeling less flush.”