Is It Possible To Tell If A Recession Is Underway?

by: Steven Hansen

Summary

Economic growth is very weak - so anything is possible.

Two of the four indicators used to mark recessions are in recession territory.

Are we looking at the correct metrics?

Pundits are all over the map on the future direction of the economy. Many are simply optimists (or pessimists) regurgitating baseless and emotional views. But even those with a good understanding of current macroeconomic data have differing views.

Generally, macroeconomic pundits are wary of the current situation in the USA as economic growth is so near the zero line that any misreading of the tea leaves can draw very wrong conclusions.

As an example, the NBER (which is tasked with identifying recessions) uses the big four identifiers:

A recession is a significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in real GDP, real income, employment, industrial production, and wholesale-retail sales. A recession begins just after the economy reaches a peak of activity and ends as the economy reaches its trough. Between trough and peak, the economy is in an expansion. Expansion is the normal state of the economy; most recessions are brief and they have been rare in recent decades.

….. The committee places particular emphasis on two monthly measures of activity across the entire economy: (1) personal income less transfer payments, in real terms and (2) employment. In addition, we refer to two indicators with coverage primarily of manufacturing and goods: (3) industrial production and (4) the volume of sales of the manufacturing and wholesale-retail sectors adjusted for price changes.

Below is a graph looking at the month-over-month change (note that multipliers have been used to make changes more obvious).

Month-over-Month Growth Personal Income less transfer payments (blue line), Employment (red line), Industrial Production (green line), Business Sales (orange line)

In the above graph, if a line falls below 0 (black line), that sector is contracting from the previous month. At this point, although much of the data is soft, three of the four metrics show growth for the past two months, an improvement over the four preceding months. Again, this is a rear view mirror, is subject to revision, and is not predictive of where the economy is going. Another way to look at the same data sets is in the graph below which uses indexed real values from the trough of the Great Recession.

Indexed Growth Personal Income less transfer payments (red line), Employment (green line), Industrial Production (blue line), Business Sales (orange line)

Click to enlarge

Notice the contraction of business sales and manufacturing. Employment and personal income are still improving within normal ranges for times of economic expansion. But consider whether a recession can hit with employment (it did in 1973) and income growth (see graph below) still expanding.

Click to enlarge

I am questioning whether traditional indicators and other indices are valid in the New Normal.

My concern continues to be that everybody is missing the primary dynamics of the New Normal. It is possible that an economic dynamic previously seen as coincident or leading in economic cycles may have gone the way of the appendix. From WebMD:

Normally, the appendix sits in the lower right abdomen. The function of the appendix is unknown. One theory is that the appendix acts as a storehouse for good bacteria, "rebooting" the digestive system after diarrheal illnesses. Other experts believe the appendix is just a useless remnant from our evolutionary past.

Just comparing a real science (medical) with economics (opinion driven) brings a smile to my face.

My usual weekly wrap is in my instablog.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.