US Recession Signals
The U.S. has been flashing red regarding recession for some time despite the naysayers.
First, let me define recession because you usually hear that it’s two consecutive quarters of a decline in real GDP. Not exactly. The National Bureau of Economic Research (NBER), the official arbiter of recessions says:
The NBER does not define a recession in terms of two consecutive quarters of decline in real GDP. Rather, 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. For more information, see the latest announcement on how the NBER’s Business Cycle Dating Committee chooses turning points in the Economy and its latest memo, dated 07/17/03.
–NBER
So, you’ve got to look at:
to figure out where we are. To do that, I use a model from Joseph Ellis, a highly respected former partner and retail analyst at Goldman Sachs. In his book “Ahead of the Curve,” He says:
“It is intuitively clear to even the most casual business observer that uptrends and downtrends in consumer spending on goods and services drive more volatile cycles in the production of those goods and services. During an uptrend in consumer spending (i.e., after a period of flat demand) – when consumers are buying, say 5% more shirts at our Acme Shirts stores than a year earlier – we at Acme must for a while buy 8% or 10% more than we did a year ago to increase our inventories enough to support the new, higher level of demand.”
–Ahead of the Curve
Through this quote and his model from the book, Ellis is saying that a recession comes about from cause and effect that work in this order:
- Consumers buy less.
- Retailers, suppliers and manufacturers are not prepared for this slowdown.
- Inventories pile up.
- Makers of goods and services slow down production and business to meet falling demand AND to correct for the build-up in inventories.
- This reduces the capital spending
- The overall effect on GDP (which derives from actual production, not spending) is an exaggerated fall due to a cutback in both production and capital spending
Let’s look at the data.
GDP
In a blog entry last week, I critiqued the most recent GDP report. My conclusion was:
The economy is likely to have contracted in Q1 2008 and the recession likely began as early as Dec. 2007 or Jan. 2008 when the economy began to lose jobs.
–My Blog, 05 May 2008
Personal Income
The most recent Personal Income figures are from March 2008. Disposable Personal income in March 2008 was 4.1% higher in nominal terms than in March 2007, but only 0.9% higher in real terms when taking inflation into account. A year earlier in March 2007, the figures were 6.3% and 3.8% respectively. So, our disposable incomes are not going up as quickly, while inflation is increasing — a double whammy.
Clearly, we reached a peak in personal income somewhere between March and August 2007.
Employment
In April 2008, there were 7.6 million people in the U.S. who were officially counted as unemployed. The unemployment rate actually decreased to 5.0% from 5.1% the previous month because so many workers dropped out of the labor force. However, if you add in the 4.8 million people who are not counted in the labor force but do want a job, then you have 12.4 million people out of work for a 7.8% unemployment rate. These numbers are likely to be revised higher. See my blog entry from May 5th entitled “Last week’s employment numbers,” for more details on why.
As the official rate and the shadow rate hit lows of 4.4% and 7.2% respectively in March 2007, the employment trends have long since peaked.
It should be noted that weekly jobless claims identify the same trends as well. that average weekly jobless claims have increased nearly +60,000 in the past year to 365,750 from 306,000. A year ago in May 2007, they were down by over -20,000 from the year previously.
Industrial Production
The latest report to show recessionary tendencies is Industrial Production. The wall Street Journal says:
U.S. industrial production plunged in April, suffering a broad decline in output ranging from cars to furniture and business equipment.
Industrial production decreased 0.7%, following a revised 0.2% climb in March, the Federal Reserve said Thursday. Originally, production in March was seen up 0.3%.
Capacity utilization receded sharply to 79.7% in April, a sign of easing inflationary pressure. March capacity use was 80.4%, revised down from an originally reported 80.5%. The 1972-2007 average is 81.0%.
-Wall Street Journal
Retail Sales
April 2008 retail sales came out this week. The Blogger from “Calculated Risk” reported:
Although the Census Bureau reported that nominal retail sales increased 1.8% year-over-year (retail and food services increased 2.0%), real retail sales declined 1.3% (on a YoY basis).
This is a recessionary level for real retail sales.
Real retail sales was last positive in Nov 2007. The change peaked in October 2006.
Conclusions
All of the major components that are tracked to indicate recession have long since peaked. Consumer spending increases actually peaked way back in August 2005 (using a rolling 12-month average real change). This led to production cutbacks. Industrial production also peaked in August 2005, with the rolling average yearly increase in production reaching 3.5%. As a result, this fed through to incomes. Disposable personal income growth peaked last year. Consumers then cut back with real retail sales going negative in December of last year. This fed through to GDP and jobs early this year.
First, GDP has likely already turned negative on a month-to-month basis (the official figures measure quarter-to-quarter). Second, real disposable personal income growth has not gone negative since the recession of 1973-1974. But, it is edging in that direction at only +0.9% over the last year. Third, we are losing jobs as employment peaked last year. Fourth, production growth peaked in 2005. Actual production peaked in January and has gone negative since then. Real retail sales went negative in December. The conclusion is that all the major signs of recession are there. It probably began in Dec. 2007 or Jan. 2008. The question is how long and how deep.
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