There’s been nearly 4m jobs created in the first 9 months of this year even though the economy has not grown over this period.

The good news is that things like a healthy labour market and healthy banking system might help the US to avoid a recession. The bad news is that both can frustrate the Fed’s attempts to lower inflation and deliver lower policy rates. What we are seeing on the labour side is that there’s been nearly 4m jobs created in the first 9 months of this year even though the economy has not grown over this period.

On the banking side, we’ve seen lending rise by nearly 9% so far this year again despite the fact that there’s been no growth in the economy. Of course, there’s been no real economic growth this year, but there has been lots of nominal growth because inflation has been high and Mr. Steve Barrow, Head of Standard Bank G10 Strategy expects, initially at least, that bank lending will follow nominal growth more closely as firms and consumers maintain a steadier pattern of real borrowing.

But even if we take into account the rise in inflation, lending has increased sharply, albeit from depressed levels during the pandemic. What’s more, lending has rebounded despite the surge in interest rates, particularly mortgages and despite the fact that bank surveys show that banks have tightened lending standards. Much here seems due to the health of the banks themselves.

What normally happens during periods of no growth – or recessions – is that lending falls sharply even if interest rates are coming down, as we saw during the pandemic or the global financial crisis. Of course, the lack of real economic growth so far this year has not officially been labelled as a recession, but we might still anticipate the same sort of contraction in lending as we see during an “official” recession.

Banks do anticipate that weaker loan growth will occur in the future but, until it shows up, robust lending could prove another factor, like the labour market, that prevents the Fed from achieving its inflation goal. This being said, there is an alternative interpretation which is that robust lending is actually indicative of weakness in the economy because many of those that are borrowing are doing so out of distress and not because of confidence in the future.

The Fed’s recently released financial stability report understandably highlights the risk of household and corporate debt distress. This might not just pull lending growth back in future as banks stop extending credit, but it could also presage severe financial strains in the economy as defaults start to cascade.

But while these risks clearly exist, we don’t get a sense from the data that the threats are especially high and nor does the Fed seem to be saying that the economy could be sitting on some sort of debt-burden precipice here. Consumers, for one, have accumulated savings from the pandemic period borne of reduced activity during lockdowns and payments received from the government.

Firms, for their part, have shown a marked proclivity to hold relatively large cash reserves, perhaps in part to see them through downturns when their access to credit could be impaired. Whatever it is, it looks as if, just like the labour market, there is a good deal of inherent robustness in bank lending that the Fed will have to plough through with higher policy rates before it gets the macroeconomic reactions it wants.

Of course, the Fed would like to be able to bring inflation back to target without collapsing bank lending but this could be hard to do. In a speech last Friday, James Bullard from the St Louis Fed argued that members had spoken a lot in the last meeting about the right terminal policy rate. He suggested that it could be in the range of 5-7% based on Taylor rule principles (which simply provides an ‘appropriate’ rate based on the deviation of inflation from target, and growth from potential).

“We still think the terminal rate will be at the low end of this range but there’s always a danger that headwinds like labour market tightness and robust bank lending mean that it is higher”, said Mr. Steve Barrow.