With help from Calder McHugh

DIVERGENT PATHS — It’s almost hard to believe, given conventional wisdom from just a few weeks back. But the relatively rosy scenario for the economy next year — sinking inflation and no recession — is no longer a fanciful dream akin to pigs taking flight.

It’s still not the most likely outcome, for sure. That, unfortunately, remains at least a short recession triggered by all the Federal Reserve interest rate hikes aimed at slowing the economy and stomping out the worst price spikes in four decades.

But as you wrap up your year and look to slip off the grid for a few blissful days, we at Nightly wanted to offer you real talk on two ways the economy could tilt in 2023.

Of course, there are endless variations on these two paths. And geopolitical flare-ups in Europe, Asia and the Middle East could scramble everything. But one path is generally a sunny one, and the other is dark and foreboding.

Let’s start with the sunny. Overall inflation is clearly — if slowly — falling in the wake of multiple sharp rate hikes, less disruption in energy prices and continued healing in supply chains. The job market remains super tight with real wage gains — that is wage increases adjusted for inflation — finally staying positive, supporting consumer demand even as Covid-era savings dwindle for lower-income workers.

Some of the structural changes and investments supported by the Biden White House and passed during full Democratic control of Washington should offer some support in terms of infrastructure spending and new development of domestic green-technology, among other things.

“We end the year and go into the new year optimistic about both how much progress we have made with respect to the economic recovery itself and how much progress we’ve made on the policy side,” White House National Economic Council Director Brian Deese told POLITICO reporters this week. “We have measures that are really just starting to have the economic impact they will eventually have.”

Fed Chair Jerome Powell continues to warn that no one knows if the hikes will cause recession or how bad a recession might be. But the Fed chief and his colleagues remain on course to likely trim down the size of the next hike in February to a quarter point, and then stop completely sometime next year. How high rates will go and how long they will stay there remain totally unknown. But there is now a non-zero chance that Powell and his colleagues pull off the fabled and rarely executed “soft-landing” in which the Fed snuffs out inflation without crushing consumer and business spending and driving unemployment far higher. Such an outcome would create a much more favorable political outlook for Biden and Democrats heading into the 2024 campaign.

Now let’s gaze down that dark, scary path. The main case against a soft landing is that wage hikes, while positive for workers — especially when they outpace inflation — also mean overall higher inflation, as labor costs are passed along as higher prices. Powell and the Fed are already frustrated by their inability thus far to ease pressure in the labor market and slow the pace of wage gains.

Powell nearly begged at his recent press conference for Congress to change policy and allow more immigration because there are simply not enough willing American workers right now. That’s very unlikely to happen given the split Congress and the noxious, culture war nature of migration policy.

There are no other fixes to the labor market — like much broader child care availability and immediately effective training programs — likely to arrive in time to be of any help.

And if wages keep spiking higher next year, the Fed will keep hiking even if it means forcing a serious recession that would drive unemployment to 6 percent or more.

This is where it could get seriously ugly given the lack of stimulus likely to come out of a split Congress should recession arrive, the disappearance of Covid savings among low income workers and the fact that the entire state-based unemployment benefit system is a wildly underfunded, horribly designed and totally broken heap of rancid garbage. For now, just take heart that the gate appears to be at least somewhat open to the happier, sunnier path.

Welcome to POLITICO Nightly. Contact tonight’s author at [email protected] or on Twitter at @morningmoneyben.

We’re compiling a list of the year’s biggest stories for a year-end issue. Tell us what you think were the most important or interesting news stories of 2022 — and why. Let us know if we can include your name and hometown. Submit a response to [email protected] for a chance to be featured in the newsletter later this week.

We’ll be off from Dec. 26 to Jan. 2 for the holidays. Nightly will resume its regular programming on Jan. 3.

BREAKING BARRIERS — Democrats in a vacant Richmond-based congressional district nominated Virginia state Sen. Jennifer McClellan for the seat, putting her on a path to become the state’s first Black woman in Congress, writes Madison Fernandez.

McClellan was one of four Democrats on the ballot Tuesday in Virginia’s 4th District primary. The seat was previously held by the late Democratic Rep. Don McEachin, who died on Nov. 28, just weeks after winning reelection.

McClellan received 85 percent of the vote in the quick-turnaround firehouse primary, compared to 14 percent for state Sen. Joe Morrissey.

A firehouse primary, also known as an unassembled caucus, is a party-run vote where people can vote in-person as they would on a typical Election Day. More than 27,000 voters in the district turned out on Tuesday — a number that party officials say is the largest firehouse primary turnout in state Democratic Party history.

The district is heavily blue, so McClellan is likely to win the special election on Feb. 21, when she’ll face off against Republican Leon Benjamin. This is Benjamin’s third time running for the seat; McEachin beat him with more than 60 percent support in both 2020 and 2022.

— Buttigieg monitoring airlines as U.S. braces for a frigid holiday: Transportation Secretary Pete Buttigieg said he is watching how airlines perform amid a winter storm that will sock most of the country and create blizzard conditions in some states — a storm that was already snarling travel this morning in advance of its path. Buttigieg praised the airline industry for what he suggested was a seamless Thanksgiving travel week — a steep departure from the summer chaos that saw thousands of flights delayed or canceled and people stranded in airports across the country. But he warned that the outlook for the impending holiday travel season won’t be as rosy.

— Trump tax controversy fuels passage of presidential audits bill: Legislation that would require the IRS to audit presidents’ tax returns and make reports of the audits public passed the House largely along partisan lines today, echoing the divide over a bombshell report this week on former President Donald Trump’s tax returns. Five Republicans voted for the legislation, even though GOP leaders said it was a sham designed to politically damage Trump, who has launched another bid for the White House. Democrats on the House Ways and Means Committee released a report Tuesday that showed Trump paid little or no federal income tax while he was in office and that the IRS delayed auditing his returns despite its policy of auditing all presidents.

— Ex-Google boss helps fund dozens of jobs in Biden’s administration: Eric Schmidt, the former CEO of Google who has long sought influence over White House science policy, is helping to fund the salaries of more than two dozen officials in the Biden administration under the auspices of an outside group, the Federation of American Scientists. The revelation of Schmidt’s role in funding the jobs, the extent of which has not been previously reported, adds to a picture of the tech mogul’s growing influence in the White House science office and in the administration – at a time when the federal government is looking closely at future technologies and potential regulations of artificial intelligence.

— Republicans praise Zelenskyy but balk at future aid: President Volodymyr Zelenskyy of Ukraine arrived on Capitol Hill on Wednesday ready to tout bipartisan support among lawmakers who have helped fund his country’s efforts to fend off Russia’s invasion. And his message was well received, eliciting multiple standing ovations from both sides of the aisle as he addressed Congress. Despite the largely warm reception, several Republican lawmakers, including those set to assume top leadership positions, weren’t yet ready to commit to keeping the funding going in the next session. Asked whether the House would continue to support Ukraine next year, House Minority Whip Steve Scalise (R-La.) said: “we expressed an interest in making sure the money is going to be scrutinized. That’s something that we still will keep pushing for.”

SHOTGUN WEDDING — Russia’s brutal invasion of Ukraine has ripped apart Moscow’s ties with the EU and the U.S. on everything from energy to trade to travel — but there’s one partnership they can’t escape, writes Victor Jack.

Tucked away in a quiet sun-soaked corner of southern France, the International Thermonuclear Experimental Reactor (ITER) — an effort to harness the power of nuclear fusion to unleash vast amounts of clean energy — continues to purr along with the participation of Russian scientists and Russian technology.

Earlier this month, scientists at ITER hailed a major breakthrough announced by the National Ignition Facility at Lawrence Livermore National Laboratory in California, which said it had overcome a major barrier — producing more energy from a fusion experiment than was put in.

The 35-nation ITER — born out of U.S. President Ronald Reagan’s and Soviet leader Mikhail Gorbachev’s 1985 meeting after decades of Cold War tension — has no way of removing a member gone rogue; there’s no path to kicking Russia out of the experiment without torpedoing the entire scheme.

The €44 billion project aims to test nuclear fusion — a process occurring in the center of stars — as a viable source of carbon-free energy that’s minimally radioactive. By injecting hot plasma that reaches 150 million degrees Celsius into a device and confining it with magnetic fields, hydrogen nuclei fuse into a helium nucleus and additional neutrons, releasing huge amounts of energy.

‘THE ROAD OF DEATH’– The government of Moscow has denied targeting civilians in its assault on Ukraine but an eight-month investigation published today concluded that the perpetrators of one of the worst atrocities in Ukraine were Russian paratroopers, The New York Times reports.

The evidence identifies 36 Ukrainian victims killed by Russian forces on Yablunska Street, now referred to by residents as the “road of death,” as part of a deliberate and systematic effort to secure a route to the capital of Ukraine, Kyiv.

The reporters spent months in the war-ravaged city of Bucha following the exit of Russian forces and interviewed residents, collected troves of security camera footage and records from government sources to produce damning evidence about possible war crimes committed by the Russian army’s 234th Air Assault Regiment, led by Lt. Col. Artyom Gorodilov.

Matthew Gillett, a senior lecturer at the University of Essex who worked in international criminal courts said the video evidence produced by the Times is “a sea change, especially compared to past investigations such as in the former Yugoslavia.”

PINK SLIP FOR CHRISTMAS — It’s basically a holiday tradition at this point: droves of workers getting laid off right around the end of the year. For tax purposes, fiscal year budgets typically end at the end of the calendar year, meaning that if businesses aren’t hitting targets or spending too much, layoffs often follow. Dig into the history of this unfortunate practice, how it came to be and find out what state in the union disallows such behavior (it’s a surprising one) from Timothy Noah in The New Republic.

THE SANTOS SOAP OPERA — It was only three days ago that a bombshell report from The New York Times cast doubt on much of Rep.-Elect George Santos’ (R-N.Y.) personal biography, from where (and whether) he attended college, to where he’s worked to where he’s lived and how much money he has.

Since then, the story has only gotten weirder, writes Nightly’s Calder McHugh.

First, from Santos, there was the seeming attempt to throw around his political weight. Right before the Times story dropped, the incoming freshman sent out a suspiciously-timed, now-deleted tweet reiterating his support for Rep. Kevin McCarthy (R-Calif.) to be the next Speaker of the House. One possible interpretation: if you throw me overboard, you’ll risk losing a crucial vote in your tough battle to become Speaker.

Then came an awkward statement from Santos’ lawyer, hammering Democrats and the media for “attempting to smear his good name,” but notably not denying a single assertion in the story. All that did was convince a city that is always attuned to political spin that every word of the Times’ report was probably true. And to put a cherry on top, the statement misattributed a quote to Churchill (it’s actually a paraphrase of something Victor Hugo once said).

Things have only gotten worse for Santos from there. The Forward reported Wednesday that genealogy records show that Santos may not have been telling the truth about having Jewish grandparents who fled Europe during World War II; records state that Santos’ grandparents in question were born in Brazil before WWII, in 1918 and 1927. Then, The Daily Beast got in on the action with a report that Santos, who is openly gay, divorced a woman in 2019. In both cases, the reporting contradicts details of Santos’ background that he shared while campaigning.

The best reality show on Long Island and in Washington is still going. “I have my story to tell,” Santos announced in a tweet today. “And it will be told next week. I want to assure everyone that I will address your questions and that I remain committed to deliver the results I campaigned on; Public safety, Inflation, Education & more.”

Mark your calendars for some appointment viewing.