U.S. Recession Probability Is Only 1/5 Of 1%

by: Mark J. Perry

The chart below shows University of Oregon economics professor Jeremy Piger's "Recession Probability Index" from January 1968 to December 2012, based on the 4 monthly variables used by the NBER to determine U.S. recessions: 1) non-farm payroll employment, 2) the index of industrial production, 3) real personal income excluding transfer payments, and 4) real manufacturing and trade sales.

According to Professor Piger, "Historically, three consecutive months of recession probabilities exceeding 0.8 has been a good indicator that an expansion phase has ended and a new recession phase has begun, while three consecutive months of recession probabilities below 0.2 has been a good indicator that a recession phase has ended and a new expansion phase has begun." For more details on the methodology used to calculate the recession probabilities, see Professor Piger's research article (co-authored with Marcelle Chauvet) here. Notice that Piger's recession probability index accurately captured the periods of the last seven US recessions, even though the probabilities during the 1990-1991 and 2001 recessions didn't rise to the 0.8 threshold mentioned by Professor Piger above. Every recession, though, was characterized by rising probabilities during the initial months of the recession, with recession probabilities exceeding double-digits in the early months of the recession, and then rising above 40% or higher at the peak of the last seven recessions - and that certainly doesn't describe the current situation.

Based on Friday's update, the Recession Probability Index was 0.20% in December (probability of only 1/5 of 1% or 1 in 500 chance), following a downward revision in November from 0.20% to 0.00%. For more than three years starting in August of 2009, the Recession Probability Index has been below 1% for the last 41 months, with the exception of August 2012 (1.2%). Based on this historically accurate measure of the probability of a US recession, the "plowhorse" American economy, while still in a sub-par recovery, is not even close to being in the early stages of an economic contraction or double-dip recession (as of December 2012).