Recession Concerns

The US economy is the largest single economy in the world, producing just shy of $30 trillion of goods and services last year.

There are four major components of GDP.

The largest is Personal Consumption, aka Consumer Spending, which was $19.8 trillion in 2024.  This accounts for 64% of total US GDP.

The next largest, Private Investment, is primarily capital spending by entities other than the government for building factories, inventory purchases, intellectual property investment and new home building.  Last year Private Investment spending was $5.3 trillion.

Similar in size to Private Investment, Government Consumption and Investment contributed $5.0 trillion to GDP in 2024. This spending includes defense capital investment ($1.1 trillion in 2024), non-defense ($797 billion in 2024), and State and Local spending ($3.1 trillion in 2024).  Confusingly, transfer payments such as Social Security are not included in Government Spending for GDP.  Most government salaries are also not included in this figure. Those payments are counted in Consumer Spending, when the Social Security recipient or government worker spends that money.

If consumers don’t spend the money that they earn, or if they don’t spend the money they receive from government payments such as Social Security, and instead the money is held in a bank account or invested, then it is not included in the GDP calculation.  Only money spent within the year gets counted, whether it is spending by a consumer, corporation, or the government. 

Spending money that you don’t have, via debt spending, does count toward GDP.  This includes debt spending such as credit card purchases by consumers, spending from business loans by companies, and deficit spending by the government.

The final component is Imports and Exports and it is reported as a net figure.  The value of Imports into the US last year was $4.083 trillion.  The value of Exports from the US last year was $3.18 trillion.  The net difference of $903 billion is represented as a negative drag on the economy.  In 2024, that figure was -3%.

The recent decline in GDP for the first quarter of 2025 is largely due to the boost to imports that came ahead of expected tariffs.  The Import/Export segment will likely have the biggest changes going forward if the current administration’s policies come to pass.

The Impact of Tariffs and Government Spending Cuts

The uncertainty caused by the fluctuating tariff policies appears to be leading to caution for both consumers and the private sector. 

Consumer Confidence measures have been declining.  This may lead to nothing or it may lead to less consumer spending. Consumers are also concerned about losing their jobs, and that concern may or may not negatively impact consumer spending.

It remains to be seen if consumer worries will be a self-fulfilling prophecy of spending decline.  In the past, consumer spending declines when unemployment rates increase.  The job market will be a key data point to watch for insight into the consumer.

On the private industry (non-government) side, corporate spending plans are reportedly being affected, but these reductions could be offset in the near term by companies stockpiling inventory in anticipation of tariffs.

Capital Spending Plans

For more insight into actual corporate spending, we will be following public-company earnings announcements for real data.  Profit forecasts for 2025 for the S&P 500 companies have dropped from 14% earnings growth expected in December to 8.5% growth expected as of April 25th.  But they are currently still positive and not in recession territory.

Regarding Government, the latest information is that tariff revenue has increased substantially.

For a historical perspective, the expected tariff revenue will be at a level not seen since the early 1900s.  The following chart shows tariffs as a percentage of the value of imports for the past 150 years.

As mentioned earlier in this report, the US imported $4.1 trillion of goods and services last year.  If import levels didn’t change, the tariff revenue would be a large windfall.  But the offset to this is global trade slowing down.  During the last trade war in 2018-2019, that is exactly what happened.  Global trade declined and so did manufacturing jobs.

We are already seeing a decline in shipments to the US from China.

Impact on the Markets

The conflicting reports of higher and lower spending across so many segments in the economy – public and private — has resulted in the high levels of uncertainty.  The coming months will provide greater clarity on the impact of the administration’s policy changes.

We use a wide range of forecasts to better understand possible outcomes for the financial markets.  When modeling the recession scenario, we look to history for the possible impact on corporate earnings because stock prices are highly correlated with earnings over time.

There have been eleven recessions in the past seventy-six years and a relatively small pullback in the economy can coincide with a large decline in profits. 

For S&P500 earnings growth forecasts for 2025 to swing from 8.5% increase to a decline would be large but not unprecedented, as illustrated in the above chart.  The average Wall Street economist is not currently predicting a recession, but they are often the last to do so.

We have been advising clients since December that profit expectations and valuations were historically high.  We have been positioned more defensively since then and intend to stay that way until we have greater clarity on companies’ true profit potential in this environment.

Please let us know if you have any questions or would like to discuss in greater detail.