Economist: We’re seeing ‘initial signs of a significant slowdown’ in global activity

EY-Parthenon Chief Economist Greg Daco joins Yahoo Finance Live to discuss growth across emerging markets, a profound recession, an aggressive Fed, and the outlook for rate hikes.

Video Transcript

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BRAD SMITH: Let's shift our broader market conversation. After some data from the Producer Price Index, and with inflation showing no relief, our next guest says that a recession may be coming. For more, let's welcome in the chief economist at EY-Parthenon, Greg Daco. Greg, great to have you here with us this morning.

GREG DACO: Pleasure.

BRAD SMITH: First and foremost, if we were to see that recession that perhaps many of the economists, if they are right, that it might be slight versus the more longer or protracted one. Where do you fall within that camp?

GREG DACO: Well, I think we're certainly seeing the initial signs of a significant slowdown in terms of global activity. We are seeing an environment in which European growth is slowing quite dramatically, in which growth across emerging markets is also slowing, and in which the US economy is also starting to see initial signs of a slowdown. We're not hearing from the executives we speak to a desire to retrench in terms of CapEx, in terms of hiring plans here in the US, but I am increasingly concerned that the global waves of uncertainty and the financial market stress that we're seeing globally will eventually affect the US and lead us into a more profound recession.

BRIAN SOZZI: A more profound recession, Greg, what does that look like in terms of GDP?

BRAD SMITH: Well, we are in an environment where our baseline forecast is for a mild contraction in GDP growth next year, that would come on the back of growth around 1.5% this year. So that would be a mild recession. I think that if we look at household finances and corporate finances today, they are still rather healthy, so that would portend to a more mild type of recession. But if the global waves of uncertainty, if the massive slowdown that we're expecting in Europe, in emerging markets is exacerbating this slowdown in the US, then you could be in for a global recession in which we could see a more pronounced contraction in GDP, maybe on the order of 1% in the US.

JULIE HYMAN: Greg, it's hard to know what to think right now, right, because we are hearing a lot of prominent voices in markets and economics who are getting more pessimistic, right? This mild recession was sort of the base case for a while now, and now I feel like it's tilting more negative than that and that there are risks coming on the periphery that then could cause more contagion. How are you weighing all of this right now? How do you figure out how concerned to be?

GREG DACO: Well, you're certainly right to highlight that we are navigating a world of uncertainty, and extremely difficult for business leaders to navigate this world of uncertainty where inflation remains a key constraint, where the labor market is extremely tight, where the cost of capital is surging, and where there's massive uncertainty as to the geopolitical landscape. So it's a highly uncertain macroeconomic environment where it's very important to look not just at one base case but really at scenarios around that base case.

And I think you're right, risks are tilted to the downside. The baseline scenario is currently a mild recession. The upside is a soft landing of the global economy and of the US economy by the Fed. The downside scenario could have some severe ramifications. If you have an excessive and disorderly tightening of financial conditions that can have knock-on effects on to certain streams of the financial sector as we're seeing in the UK with pension funds.

So there are a lot of unknowns out there, and I think that makes it very difficult to forecast with accuracy. So there is some discomfort in the fact that the baseline view is a recession. But we have to be acknowledge-- we have to acknowledge the downside risks to global economic activity.

BRAD SMITH: Greg, at what point do you believe some of the Fed's activity will finally start to fully show up in the data and yield some of the results or at least the parameters that they're looking for in order to either pause or pivot?

GREG DACO: Well, I think they're going to be very attentive to what happens on the global financial conditions front. I was at the NABE annual conference over the first part of this week and Vice Chair Brainard highlighted again this concern about what's happening globally in terms of global financial conditions, in terms of overall economic activity globally. And she highlighted the fact that we are in an environment where most central banks are tightening aggressively.

And the fact that each of these central banks is tightening that aggressively has a greater effect than the sum of the individual tightening processes would normally have. And that is something that the Fed is going to be paying very close attention to as we move into 2023 because again, the Fed leading the way, has implications in terms of the dollar strengthening quite rapidly, exporting inflation into emerging markets, increasing the burden of debt for a lot of these emerging markets. And that's a concerning backdrop when it comes to the global economic environment. We know the US is not immune to these global waves of uncertainty.

BRIAN SOZZI: No it is not. Greg Daco, EY-Parthenon chief economist, always good to see you. We'll talk to you soon.