If you wonder why we have not had a recession lately, or if we will have one sometime this year, economist Jim Paulsen has an interesting answer.

Before retiring in 2022, Paulsen wrote a deeply resourced economic newsletter for four decades, first from Cedar Rapids, then Des Moines, and, finally, Minneapolis.

I met Jim early in his career in 1988 when at the age of 29 he was named an “Up and Coming Iowan” by the Des Moines Register. Since then, I’ve written many times about his unorthodox views, which are based on historical precedent and often prove prescient.

When Paulsen retired, his many followers lost a valuable resource. I’m excited that he has again picked up his computer keyboard and PowerPoint to give us average Joes valuable insights into what’s happening in the economy.

The title of his new “Paulsen Perspectives” newsletter is: “The Predictive POWER of Disinflation.”

He begins by mulling over the twin economic conundrums of why we have not had a recession and why the stock market continues to rise.

Under conventional wisdom, neither condition is what we would expect following the Federal Reserve’s “historically aggressive” campaign to boost the federal funds rate from near zero to 5.5% in less than two years.

During the same period, mortgage rates shot up, from 2.5% to more than 7.5%, and the yield on 10-year Treasury bonds went from 2% to more than 5%, as the Fed effectively reduced the money supply.

The goal of all that tightening was to fight the inflation that was launched by unprecedented federal spending during and immediately after the 2020 COVID-19 pandemic.

The annual inflation rate jumped from less than 2% before the pandemic to an average of 4.7% in 2021 and 8% in 2022, before falling back to 4.1% in 2023.

Monthly changes were even more dramatic. The Consumer Price Index rate of increase grew from 1.4% in January 2021 to 7% by December. It continued climbing in 2022, peaking at 9.1% in June, before falling to 6.5% at year end. The steady decline continued in 2023, falling from 6.4% in January to 3.4% in December and 3.1% in January 2024.

That steady, sharp decline, which Paulsen calls “disinflation,” is new to virtually everyone alive today, although there have been less intense periods of falling inflation in our modern era. 

To get a better view of how the economy responded to earlier disinflationary periods, Paulsen grouped a series of economic activities – gross domestic product growth, employment growth, stock market activity, consumer confidence and such – and compared how they responded to 12-month periods of rising and falling inflation. 

Specifically, he looked at what happened during the 12 months that followed 12 months of inflation or disinflation.

Clear patterns emerged.

The 12 months following a year’s worth of disinflation produced average GDP growth of 3.8%, while average GDP growth for the 12 months that followed a year’s worth of inflation was 2.6%. That sounds like a small difference, but it’s huge when you apply it to multitrillion-dollar economies.

There were similar impacts on other measurements:

Employment growth was 2.0% when inflation fell, compared with 0.3% in the months immediately after an inflationary period.

Consumer confidence increased 8% following disinflation but fell 17.6% following a year of inflation.

S&P 500 earnings increased 23.8% following disinflation but only 4.1% after 12 months of inflation. 

The economy today, Paulsen suggests, is in a sweet spot. 

Based on his definition of disinflation – monthly declines in the Consumer Price Index on a year-over-year basis – “the U.S. has been enjoying ‘disinflation’ since December 2022 and will remain in this trend for several more months.”

“Disinflation won’t be here forever,” Paulsen wrote, “but it is now,” so we might as well sit back and “embrace the ongoing economic recovery.”

To read Paulsen’s newsletter and sign up for future issues go to: PaulsenPerspectives.substack.com.