Skip to content

Key takeaways

  • The US economy is at the crux of this cycle, the most difficult period of headwinds. We expect the lagged effects of Federal Reserve (Fed) tightening to slow economic growth during the first half of next year and we continue to maintain our base case of a recession as we move through this period.
  • While the ClearBridge Recession Risk Dashboard has remained in red or recessionary territory for the past 16 months, a buoyant labor market, ample fiscal support and monetary policy starting from a deeply accommodative level have all bolstered the economy in 2023.
  • Signs of weakness in the labor market and consumer fatigue are early warning signs that activity could slow in the new year. We believe consumption, which drives two-thirds of gross domestic product (GDP), could face gathering headwinds in 2024, weakening a key support for economic growth.

Trajectory of labor market, inflation key areas to watch

The US economy has persevered through the strongest monetary tightening cycle since the early 1980s, with 100 basis points (bps) of additional rate hikes in 2023, following 425 bps in 2022. However, we think the next three quarters (inclusive of the current one) will be the crux of this cycle, the hardest part of a climb where all the most difficult moves are concentrated. We expect the lagged effects of Fed tightening to weigh on the economy in the first half of next year and we continue to maintain our base case of a recession until we get through this period.

We were well within the consensus view last year in calling for what became “the most anticipated recession ever.” Yet 12 months later, we are still awaiting a meaningful downturn in economic activity. Our North Star, the ClearBridge Recession Risk Dashboard, has now been flashing a red or recessionary signal for 16 months. At present, there are nine red and three yellow indicators, which provide the foundation for our base-case views even as consensus has shifted into the soft-landing camp (Exhibit 1). Importantly, a long duration between the initial red signal and a recession taking hold is not unheard of, as the economy does not always take a straight line down.

There are many potential reasons why the economy held up better than expected this year, including a robust labor market that has supported consumption and ambitious fiscal spending programs still making their way through the economy’s bloodstream. We expect these positive impulses to dampen in 2024, setting the economy on more fragile footing as the calendar turns over. Another risk the economy will be facing in the new year is the delayed effect of monetary tightening, which famously acts with long and variable lags. Given high inflation and ultra-low rates, monetary policy likely did not reach restrictive territory until the end of 2022, meaning the full effects of higher rates should continue to weigh on the economy in the first half of 2024, given common wisdom of lags to monetary policy ranging up to 18 months.

Exhibit 1: ClearBridge Recession Risk Dashboard

Source: ClearBridge Investments.

While a recession was the consensus view last year, with the benefit of hindsight, it was likely premature to expect one. History shows that, since the late 1950s, it has taken an average of 23 months from the initial rate hike of a persistent hiking cycle to the beginning of an economic downturn. While it may feel like the Fed has been hiking for an eternity, the first hike of this cycle came only around 20 months ago, meaning we are still short of the historical average.

Exhibit 2: Long and Variable Lags

Source: FactSet, Fed. *A Persistent Hike Cycle is the period when the majority of Fed rate hikes occur in a tightening cycle. The date of the initial rate hike in the tightening cycle may not align with the start of the Persistent Hike Cycle.

Some impacts of monetary tightening are already weighing on the economy. In fact, the labor market is showing cracks, with our job sentiment indicator—which measures whether jobs are hard to find—rolling over, a trend that has historically been followed by a recession. While the consumer has been rock solid since the pandemic, we are seeing signs of balance sheet fatigue in terms of rising delinquencies across credit cards, auto loans and even mortgages, along with more selective spending patterns. And it’s important to note that consumption has historically remained strong right up to—or even past—the start of a recession.

We suggested last year that the Fed’s success in bringing down inflation would determine the chances of a soft landing. The Fed has made substantial progress and the annualized six-month rate of core Personal Consumption Expenditure (PCE) now stands at 2.6%, approaching the Fed’s 2% target. However, it’s rare in developed markets for inflation to be effectively tamed on the first try without a second wave of price increases. The United States has endured three major inflation episodes over the last roughly 100 years and all three included multiple waves of inflation; globally the prevalence of multiple waves stands at 87%, according to a recent study from Strategas Research Partners. We believe this is front of mind for the Fed, which will likely err on the side of caution, with the higher-for-longer policy we are currently experiencing one example of this.

On the positive side, while it is still too early to declare victory, inflation is on pace to come much closer to target next year, taking further hikes off the table and raising the question of cuts to bring the stance of monetary policy closer to neutral. If the Fed can get more confident on inflation, ultimately that should open the door for modest rate cuts in 2024 that could help spur an improved outlook later in the year or into 2025.



Copyright ©2025. Franklin Templeton. All rights reserved.

This document is intended to be of general interest only. This document should not be construed as individual investment advice or offer or solicitation to buy, sell or hold any shares of fund. The information provided for any individual security mentioned is not a sufficient basis upon which to make an investment decision. Investments involves risks. Value of investments may go up as well as down and past performance is not an indicator or a guarantee of future performance. The investment returns are calculated on NAV to NAV basis, taking into account of reinvestments and capital gain or loss. The investment returns are denominated in stated currency, which may be a foreign currency other than USD and HKD (“other foreign currency”). US/HK dollar-based investors are therefore exposed to fluctuations in the US/HK dollar / other foreign currency exchange rate. Please refer to the offering documents for further details, including the risk factors.

The data, comments, opinions, estimates and other information contained herein may be subject to change without notice. There is no guarantee that an investment product will meet its objective and any forecasts expressed will be realized. Performance may also be affected by currency fluctuations. Reduced liquidity may have a negative impact on the price of the assets. Currency fluctuations may affect the value of overseas investments. Where an investment product invests in emerging markets, the risks can be greater than in developed markets. Where an investment product invests in derivative instruments, this entails specific risks that may increase the risk profile of the investment product. Where an investment product invests in a specific sector or geographical area, the returns may be more volatile than a more diversified investment product. Franklin Templeton accepts no liability whatsoever for any direct or indirect consequential loss arising from use of this document or any comment, opinion or estimate herein. This document may not be reproduced, distributed or published without prior written permission from Franklin Templeton.

Any share class with “(Hedged)” in its name will attempt to hedge the currency risk between the base currency of the Fund and the currency of the share class, although there can be no guarantee that it will be successful in doing so. In some cases, investors may be subject to additional risks.

Please contact your financial advisor if you are in doubt of any information contained herein.

For UCITS funds only: In addition, a summary of investor rights is available from here. The fund(s)/ sub-fund(s) are notified for marketing in various regions under the UCITS Directive. The fund(s)/ sub-fund(s) can terminate such notifications for any share class and/or sub-fund at any time by using the process contained in Article 93a of the UCITS Directive.

For AIFMD funds only: In addition, a summary of investor rights is available from here. The fund(s)/ sub-fund(s) are notified for marketing in various regions under the AIFMD Directive. The fund(s)/ sub-fund(s) can terminate such notifications for any share class and/or sub-fund at any time by using the process contained in Article 32a of the AIFMD Directive.

For the avoidance of doubt, if you make a decision to invest, you will be buying units/shares in the fund(s)/ sub-fund(s) and will not be investing directly in the underlying assets of the fund(s)/ sub-fund(s).

This document is issued by Franklin Templeton Investments (Asia) Limited and has not been reviewed by the Securities and Futures Commission of Hong Kong.

Unless stated otherwise, all information is as of the date stated above. Source: Franklin Templeton.

CFA® and Chartered Financial Analyst® are trademarks owned by CFA Institute.