Can Recession Fears Slow Spending and Contribute to a Real Economic Downturn?

Consumer sentiment dropped 8.7 percent from last month and hit the lowest level in almost three years, signaling the public is concerned about the strength of the economy.

The sentiment figure, released by the University of Michigan on Friday, indicated a sizable decline from the preliminary reading. The 89.8 rating, down from last month's 98.4, was the largest monthly decline since December 2012.

With consumer sentiment comprising nearly two-thirds of U.S. economic activity, downturns in consumer spending can trigger a recession. A number of indicators point to a healthy economy, even as economists have been raising alarms over disconcerting data. Paired together, the consumer sentiment figure and economists' fears raise an important question: can consumer concern, driven by economists' warnings, damage the economy and create a self-fulfilling prophecy?

Driven in part by fears about the continuing trade war between the U.S. and China, economists and journalists have recently increased warnings about the possibility of recession. Headlines have boasted contradictory projections from lofty economic figures, who both predict and dismiss the imminence of a recession. The concerns of a recession appear to have risen among the public; Google trend searches exploded mid-August, rising almost 500 percent, and remain high.

America's economic health appears mixed in spite of the looming concern, creating a confusing economic environment in a recovery that has perplexed analysts. Job growth is strong and unemployment is low. But, particularly given consumer spending's outsized role driving activity, economic health relates to confidence. And fears about a recession can affect confidence, likely dampening consumer sentiment and weakening business investment, economists told Newsweek.

"If everyone else is screaming recession, you start to worry it might actually cause one," Justin Wolfers, a professor of economics at the University of Michigan, told Newsweek. "The idea that bad news, the bad headlines, could generate pessimistic decisions, which then generates a bad economy, is very sensible and actually pretty standard in the way most economists think about the macroeconomy."

Economists are watching consumer data closely, and sentiment is still high when compared with historical levels. But when fears of a recession are mounting, consumers can start tightening their purse strings in preparation for an economic downturn. Large purchases, like homes, are less likely to occur.

Trump's trade war with China, which the University of Michigan's Richard Curtin said had decreased consumer spending, also elevates uncertainty for businesses, thereby affecting investment.

Many economists and journalists have recently focused on a select number of economic factors that could pose or indicate a risk to the U.S. economy. The uncertainty caused by the trade war has received ample attention. The bond yield curve, which inverted before every recession in the last 50 years, has attracted a slew of headlines, as did the Dow Jones' year-worst 800-point drop earlier this month. While these indicators have rightfully raised concerns, they don't indicate that a recession is imminent or indicate when it's coming.

"This recent peak in recession mania seems overblown given the fundamentals," Wolfers said.

At the same time, the preliminary Purchasers' Manufacturing Index data from IHS Markit, which was released last week, indicated that, in August, the manufacturing sector contracted for the first time since 2009.

Service sector growth also decreased to the slowest pace in three years in July, a downward trend which James Stack, the president of InvesTech Research, called "a warning shot across the bow of the economy." Stack questioned whether the yield curve was picking up weakness that had not yet registered on other indicators.

He noted that elevated concerns of a recession, fueled by economists' warnings and linked reporting, could have at least a transitory impact on confidence. But Stack told Newsweek he doubted that fears of downturn would cause one.

"Will it trigger a recession? My answer would be 'not unless a recession was inherently inevitable.'"

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Traders work on the floor of the New York Stock Exchange on August 14 in New York City. Spencer Platt/Getty Images
Can Recession Fears Slow Spending and Contribute to a Real Economic Downturn? | U.S.