(Bloomberg) -- The Federal Reserve is turning Neil Dutta less confident on the US economy.

“I’ve turned cautious on the economic outlook (a place I don’t normally find myself),” Dutta, an economy-watcher widely followed in financial markets, wrote in a note Wednesday.

A month back, Dutta didn’t see a recession in the cards. But that was before the latest signals from Fed policy makers. They now increasingly see a recession as necessary to tame decades-high inflation, Dutta, the head of US economic research at Renaissance Macro Research LLC, concluded.

Fed Chair Jerome Powell and Cleveland Fed President Loretta Mester earlier Wednesday in separate remarks stressed the importance of keeping inflation expectations in check -- putting greater weight on that than minding the risk of tightening policy too much.

The Fed is effectively judging that “a policy mistake that results in recession is preferable to the alternative mistake, allowing inflation expectations to drift up,” Dutta wrote.

Growth Forecast

“Notice that this risk approach is the EXACT opposite of what we saw in the years following the financial crisis -- doing more, sooner, to push inflation up,” Dutta said.

He also highlighted that financial conditions have tightened substantially. Unlike past hiking cycles, when equities generally go up -- albeit with a few bumps in the road -- market conditions are tightening across stocks, the dollar and corporate credit, Dutta said.

There’s a “decent chance” the Fed lowers its estimate for 2022 economic growth, he also said. Earlier this month, the median projection among Fed policy makers was for a 1.7% gain in gross domestic product, on a fourth-quarter, year-on-year basis.

For that to be realized, growth needs to run at a seasonally adjusted annualized rate of 4.1% in the second half of the year, Dutta calculated. 

“Anything is plausible, but I would not make it my baseline forecast,” Dutta said. “In short, there is a decent chance the Fed is revising down GDP growth for 2022 AND going 50 basis points in September after going 75 basis points in July.”

Since Dutta’s call last month on avoiding a recession, inflation has accelerated to a fresh four-decade high. Along with consumer expectations for prices drifting higher, that prompted the Fed to raise its policy rate by 75 basis points this month, the most since 1994.

Dutta also flagged that a slump in worker productivity will likely end up spurring employers to cut back on labor.

“Absent a quick turnaround in the economy this will mean they slow hiring, cut hours, lay people off or some combination of all three,” he said.

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