Unemployment in the U.S. has risen over the past year. However, it has increased at a moderate pace, fueling expectation of a so-called soft landing for the U.S. economy.
That may be changing. If unemployment rises over the coming months by a relatively small margin, then indicators such as the Sahm rule have the potential to predict a near-term recession. That would mirror the verdict of the inverted yield curve which has suggested a U.S. recession is more likely than not for the past 2 years.
The Sahm Rule
The Sahm rule forecasts recessions based on a 0.5% rise in a smoothed version of unemployment rate over the course of a year, as developed by economist Claudia Sahm.
So far the U.S. unemployment rate has been gradually edging up since early 2023. However, not to the degree that would predict a recession at this point. February saw an increase in the unemployment to 3.9%. If we see a relatively small, but sustained, increase in unemployment from here to 4% to 4.1%, that may be sufficient to trigger a recession warning under the Sahm rule.
However, that would have to occur soon, because the Sahm rule is looking for material rise in unemployment within a year, and so far the rise in unemployment has been slow and steady enough that the Sahm rule has not be triggered.
Unemployment data is also relatively noisy month-to-month and it’s possible that for March, unemployment retreats from its current 3.9% level. That would make a imminent recession less likely. The next major update to the Employment Situation Summary for the month of March will come on April 5.
State Level Unemployment Data
In the aggregate, for the U.S. the Sahm rule has not forecast a recession, but looking at state-level unemployment data, several states have seen relatively stark rises in unemployment from January 2023 to January 2024.
For example, both New Jersey and California have both seen material upticks in unemployment over the period, and 25 states have seen rising in unemployment over the past year.
In contrast just 6 states have seen unemployment fall, including Massachusetts and Pennsylvania, with the remainder seeing unemployment broadly flat. Hence there are few real bright spots in state-level unemployment data currently, increasing unemployment is relatively broad-based with few states seeing improvement.
Industry Level Trends
At the level of industries within the U.S. economy things do look a little brighter. That’s because several sectors of the economy are seeing declining unemployment this includes education, healthcare, most areas of manufacturing (except transportation equipment) and retail. However the leisure industry, most services (including business and professional services) and construction are all seeing unemployment move up.
The U.S. Yield Curve
Looking beyond unemployment data, the U.S. yield curve has been inverted since 2022. This often heralded as a recession indicator as longer term yields on government debt are lower than shorter term rates. This inversion is somewhat unusual and typically occurs when the Federal Reserve is raising interest rates.
An inverted yield curve has been a historically robust recession indicator on a 12 month view, though it has been wrong so far this cycle. The research of the Federal Reserve Bank of New York, currently puts the probability of a U.S. recession before February 2025 at 58%, that’s about as high as a forward-looking recession probability has been on this model since the 1980s.
What Next?
The U.S. Federal Reserve has held interest rates at relatively high levels for some time since the last rate increase in July 2023. That may continue this month with the Fed’s March meeting expected to keep rates at relatively restrictive levels.
The inverted yield curve suggests a recession could be coming. Unemployment has risen over the past year, but not yet to the level where a recession is forecast. If the yield curve and the Sahm rule predict a recession in combination, then given their relatively robust forecasting records, the chances of the U.S. achieving a soft landing may diminish.
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