Are We in a Recession?

Former President Bill Clinton recently said that the U.S. economy is already in a recession. I view that as more of a political statement rather than an economic one, but let’s explore the question, “Is the U.S. economy currently in a recession?”

The frustrating answer is: we don’t know. To be more scientific, we can say that there’s currently no solid evidence that the U.S. economy is either in a recession or about to go into a recession. Obviously, that can quickly change.

In the most-recent CWS Market Review, I wrote that Wall Street has been paring back its forecasts for Q2 GDP: “Goldman lowered their GDP growth forecast from 1.8% to 1.6%. Morgan Stanley lowered theirs from 2% to 1.8%. JPM dropped theirs to 2% from 2.5%, and BofA Merrill went from 2.4% to 1.9%.” The catalyst was the poor retail sales report.

Let me make a few points. By recession, we mean that the real GDP is actually receding. As in, it’s getting smaller. Oftentimes, people will say that a bad but growing economy is in a recession. Yet we want to stick to the technical definition.

The commonly accepted standard for dating recession comes from the National Bureau of Economic Research (NBER). The media often says that an official recession is two or more consecutive quarters of negative real GDP growth. That’s not correct. This is what NBER looks at when deciding if the economy is expanding or receding:

The Committee does not have a fixed definition of economic activity. It examines and compares the behavior of various measures of broad activity: real GDP measured on the product and income sides, economy-wide employment, and real income. The Committee also may consider indicators that do not cover the entire economy, such as real sales and the Federal Reserve’s index of industrial production (IP). The Committee’s use of these indicators in conjunction with the broad measures recognizes the issue of double-counting of sectors included in both those indicators and the broad measures. Still, a well-defined peak or trough in real sales or IP might help to determine the overall peak or trough dates, particularly if the economy-wide indicators are in conflict or do not have well-defined peaks or troughs.

So the keys are real GDP, employment and income, and we also want to look at sales and industrial production. The problem with looking at the entire economy is that the GDP data series is quarterly. In a perfect world, it would be monthly and highly accurate. Since it’s not, we have to rely on the other indicators listed by NBER.

Recessions and expansions tend to be symmetrical, meaning a sharp recession often leads to a sharp recovery. Shallow recessions lead to shallow recoveries. This time around is different—a sharp recession has led to a very mediocre recovery.

Keeping with NBER’s methodology, let’s first look at real GDP.

During the recession, real GDP fell for four quarters in a row, and for five out of six. We then had one mildly positive quarter followed by three goods ones. Since then, however, we’ve had very tepid growth. The last seven quarters have averaged less than 2% growth which isn’t enough to push down the unemployment rate. Growth for Q1 came in at just 1.9%.

Interestingly we can see the clearest evidence for a trend by looking at real GDP over the trailing six quarters.

Now let’s look at another NBER factor: economy-wide employment. These are the seasonally adjusted non-farm payroll numbers.

What stands out is the marked contrast between GDP and employment. GDP has already surpassed its peak from before the recession. But we’ve made back less than half the jobs lost during the recession. Moreover, the rate of job gains is slowing. Last month, the economy created just 69,000 jobs. Nearly nine million were lost during the recession. Employment is clearly the weakest part of the economy.

Here’s real personal income. We can see signs of a recovery but the trend dramatically slowed down starting at the beginning of 2011. There’s been a slight uptick recently, but it’s nowhere near the growth rate we saw in 2010.

If I wanted to see signs of the economy slowing down, I’d expect to see a sharp drop in industrial production. Notice how IP slowed down before the 2001 recession began. Except for a few bumps, IP has climbed pretty steadily since 2009.

The May IP report showed an unexpected decline of 0.1%. This is probably the clearest sign that the economy may soon be in trouble. But we’ll need to see more data to confirm a trend.

Finally, here’s a look at real sales which is probably the strongest variable. There doesn’t seem to be any visible drop-off yet.

Posted by on June 18th, 2012 at 11:16 am


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