Could the big inflation slowdown trigger a surge in layoffs and recession this year?

On its face, the idea may sound laughable. Easing -- though still high -- inflation has been a relief to consumers. And it has spurred Federal Reserve officials to signal they’re probably done hiking interest rates and tentatively expect to cut them three times in 2024. That has propelled the stock market to new highs.

But some economists reckon the drop-off in price increases, combined with softening consumer demand, will narrow corporate profit margins. And that could prompt more companies to lay off workers and spark a mild downturn.

“As inflation declines, so does pricing power,” says Kathy Bostjancic, chief economist of Nationwide, referring to a company's ability to hike prices without losing a significant number of customers. Reduced pricing power, she says, crimps profit margins, a holy grail on Wall Street.

Companies grappling with an earnings squeeze will likely shave expenses, Bostjancic says. “The only way to (significantly) cut costs is to reduce employment,” she says.

Bostjancic notes that falling profit margins were accompanied by a rising unemployment rate in all of the past four recessions, according to figures from Nationwide and Bloomberg.

Joseph LaVorgna, chief economist of SMBC Nikko Securities, says compressed margins would be "a big negative for both the jobs market" and stocks.

Although their view that dwindling margins will help set off a modest economic slump isn't shared by most forecasters, corporate earnings have sent some worrisome signals the past year.

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