All the economic good news, from jobs to inflation, was just a momentary blip. The worst is yet to come.

But this good news doesn't mean the US economy is out of the woods yet. From inflation to consumer spending, there are clear signs that the economy is still in real danger of being pushed into a recession.

Cooler but not cool

Over the past few weeks, signs that sky-high inflation is cooling off have been the shift that's garnered the most attention — and raised the most hopes. July saw improvement across several inflation metrics, including a 0% change in month-over-month prices for the consumer price index, largely due to lower energy prices. Despite the seeming breakthrough, it's premature to ring the all-clear bell.

Even with improvements to those traditional metrics, underlying measures of inflation are still running hot. Take, for instance, the Cleveland Fed's median CPI, which tries to measure "average" inflation by looking at the price change of the median item in the basket of goods tracked by the CPI. The indicator is of particular interest because, as the Cleveland Fed noted in its research on the new measure, "the median CPI provides a better signal of the underlying inflation trend" than the more closely watched inflation metrics. So while the core CPI, the traditional measure that strips out volatile food and energy costs, rose just 3.8% in July, the Cleveland Fed's measure rose 6.5% in July and is up 7.6% on average over the past three months. That's not an acceptable level of inflation for us to declare the problem solved.

Wage growth is another sign that America's battle with high inflation is far from over. The Atlanta Fed's median-wage-growth tracker was 6.3% in July and 6.7% on average over the past three months. Wage growth can fuel broader inflation when it grows much faster than business productivity. Given productivity, the Atlanta Fed's measure needs to be closer to 3.5 to 4%. While Americans' expectations for inflation over the next 12 months have ebbed somewhat, they're still sitting at 6.2%. "This points to an upside risk for inflation, as workers negotiate higher wages that businesses could pass on to consumers by raising prices," San Francisco Fed researchers wrote of expectations.

In short, the reasons to expect inflation to remain firm in the quarters ahead are compelling, even if a handful of high-profile goods are getting large price cuts.

Consumer stumbles

Any discussion of the US economy's strength needs to start with the consumer. American consumers have plenty going for them: a low unemployment rate, built-up savings, and strong household balance sheets. Even as gross domestic product declined in the first half of 2022, consumption held up. Still, the economic outlook is about changes at the margin, and at the margin, consumers' strength is deteriorating. Several points stand out:

• Private domestic demand — the part of GDP attributable to demand from American consumers and businesses minus the effects of international trade, business inventories, and government spending — cooled in the first half of the year. This is a key measure used by economists to forecast employment growth. With strong private demand, consumers are signaling that while labor-market conditions are strong, momentum is slipping. Some increase in the jobless rate seems inevitable, despite July's impressive jobs report. Weekly initial jobless claims are trending up, and layoff announcements are spreading beyond the tech sector, with companies like Walmart and Wayfair announcing cuts. In fact, in a survey of US companies from the accounting firm PwC, about half of the respondents said they were planning for layoffs.
• The slowing in private demand comes even as the aggregate of hours employees put in on the job has surged. That means companies' incomes are growing at a slower pace even as the amount they're having to pay out to workers is increasing rapidly — a sign of lower labor productivity and tighter profit margins. Companies will inevitably try and protect their margins with some combination of slower hiring and cuts to compensation.
• Even with incomes slowing, the amount people were spending in the first half of the year rose. This means the increase in consumers' spending in the first half of the year was driven exclusively by them tapping into their savings. That cannot continue indefinitely. Even if people's incomes get some relief from lower gas prices, there is a reasonable chance that households use that to replenish their cash buffers rather than going out and spending.

I don't like betting against the US consumer, but if the labor market is likely to slow down with an elevated risk of inflation, it is difficult to back the US consumer.

Housing-market woes

Another warning sign for the economy is flashing from the housing market, where activity has ground to a halt. The rise in mortgage interest rates has taken a bite out of housing demand. Pending home sales and signed contracts on existing properties have collapsed, which implies a significant drop in closings over the next few months.

With demand cooling, builders will need to focus on getting rid of the huge backlog of homes they've already sold but haven't completed construction on instead of breaking ground on new homes. Not surprisingly, housing completions (homes being finished) have picked up, while housing starts (homes starting construction) have slowed. This gap will continue to close, and as it does, the number of units under construction will decline.

Fed Chair Jerome Powell has talked of a housing-market reset. It's clear this shakeout is underway, but it's nowhere near finished. According to data from the Conference Board, the number of people planning to buy a home in the next six months sank to its lowest level since February 2013.

Businesses don't want to invest

If consumers and the housing market aren't likely to kick-start a strong economic uptick, nonresidential business fixed investment — companies spending money to upgrade equipment and software — is unlikely to be much of a driver for growth, either. For one thing, expectations of GDP growth have weakened, and as the outlook for growth weakens, investment by companies tends to slow down (and vice versa). We can already see businesses getting more cautious about their spending. Regional surveys of six-month capital-spending intentions are pointing south. And the tech industry, which accounted for the majority of the growth in real nonresidential business fixed investment over the past two years, has been slammed by a steep stock-market sell-off, reeling because of higher interest rates. It's also the industry most responsible for the recent increase in layoffs.

Globally, the signs are even worse. Europe is sliding into recession, while China's zero-COVID policies have kept a lid on growth in that region. Since there's no incentive for businesses to try and invest to meet demand elsewhere, companies are likely to hit the pause button on their spending plans until the outlook looks less cloudy.

Dark clouds

And what of the Fed? Is a pivot to slowing interest-rate hikes — or even cutting rates to support the economy — nigh? I think it is unlikely. For starters, Fed officials have been very vocal in recent weeks about their plans to continue hiking rates. At his highly anticipated speech on Friday during the Fed's annual conference in Jackson Hole, Wyoming, Powell even went so far as to warn of "some pain." And even slowing down the pace of hikes — not yet a forgone conclusion — is not the same thing as cutting interest rates. Importantly, officials have voiced a reluctance to shift their policy on a dime. Prematurely easing inflation-reduction policy with inflation rates still elevated risks pushing up inflation expectations and entrenching a higher inflation rate into the economy.

If you want to know how worried to be about the cooling economy, it's worth looking at the progression of the stock market. Changes in stock prices boil down to three factors: interest rates, actual and expected earnings, and the risk premium. The strong performance of stocks in July and most of August can largely be traced largely to a decline in interest rates, as investors assumed the Fed would ease up. But there's no sign that the Fed is done hiking or that inflation is slowing down, which is why Powell's speech contributed to a huge sell-off on Friday. Add on the fact that the economy will continue to slow, putting downward pressure on companies' profits, and you've got a setup for another stock-market sell-off.

Over the past two months, things have started looking up for the economy. But as Americans return from their summer vacations, they'll be coming back to a real chance of a downturn — or even recession — this fall and winter.

Neil Dutta is Head of Economics at Renaissance Macro Research.