Generations of lore holds that Republicans are good for financial markets, but the Dow Jones industrial average nose-dived last month after the GOP won control of both houses of Congress for the first time in decades. Analysts began to suggest for the first time that the market was beginning to look ahead to the next recession, and some said it could begin by the end of 1995.
Is it time to wonder about the next recession? Can the Fed manage the ever-elusive "soft landing" when the current growth cycle runs out of steam? And what will Republican control of Congress mean to the economy?
Alfred G. Smith III
Chief Economist, NationsBank
We had been assuming that the end of 1995 would be the time when we might find out whether the Fed would manage a soft landing. By that time, we should be able to see what impact the interest rate increases have had, and we would know how much further the Fed is going to go; so, that might have been the time when we could get an idea how things would work out. But now, with the Republicans in control of Congress, all bets are off.
It's a bit like the gulf war. In 1989, it looked like the Fed had the best conditions possible and had the mix just right and was just about to pull it off, but then Iraq invaded Kuwait and all bets were off.
This time it's a different kind of wild card, but once again, just when it seemed that at last the Fed was about to get what it wanted, suddenly it's no longer possible to discuss what the economy is going to do until you see the outcome of political events.
If the Republicans lower taxes anywhere near as much as they say, then the question will be whether they will also reduce expenditures sufficiently, and whether they will get a Democratic president to go along with expenditure cuts. Right now, the way people are talking sounds as if there might be sufficient cuts. But if there are not, then growth and inflation will accelerate, the Fed will eventually be forced to raise interest rates higher than they want, and a recession will follow sooner or later.
Michael A. Funk
Deputy Director of Regional Economic Studies, University of Baltimore
Maryland has not yet regained the employment levels it had before the recession, though most of the country passed that benchmark a year or more ago. Today, most of the country is matching or exceeding 22-year average job growth, but Maryland still is nowhere near getting back to the 1.98-percent average it had seen since 1972.
If the Fed meets its objective, which would mean getting national growth from around 3.5 percent a year, where it is now, down to about 2.5 percent, Maryland could be in for some problems. We have been forecasting very soft growth for Maryland in 1995, and that forecast was made before the Fed made its latest increase in interest rates, which was higher than most people anticipated. We were expecting only 1.37-percent growth for Maryland next year, and even that forecast was based on some very optimistic assumptions about interest rates.
On the other hand, if the new Congress were to cut taxes, that could strengthen national growth, and Maryland's with it. Unless, of course, the tax cuts were done without spending cuts, which would be inflationary and could prompt the Fed to raise rates still higher, which would be very serious for Maryland.
David Donabedian
Chief Economist, Mercantile Bankshares Corp.
Investors talk about "three steps and a stumble," the idea that any time the Fed raises the discount rate three times in a row there will be a stock market crash or a recession within six to 18 months after the third increase. Like any cliche, there's a grain of truth to, "three steps and a stumble," but I don't think there's any magic in the number three.
I wouldn't use the R-word for the coming six-month or 18-month time frame, and over the next six months we might even see
accelerating growth. But until the election, I had been figuring on a substantial slowdown in growth about a year from now. Now, we have to wait and see how fiscal policy comes out.
If the Republicans can do a major tax cut, and manage to balance it with sufficient spending cuts, that would be very positive and we might see growth extend well beyond the usual time frame, in which case the Fed also might still have a chance to pull off a soft landing later on.
But if a tax cut were adopted with too little in spending cuts, then you have to watch out. The Fed might have to resort to some much higher interest rates, high enough that they might well eventually squeeze the country into recession.