Is the US heading into a recession?

"The American economy is slipping into its second post-bubble recession in seven years."

So writes Stephen Roach, Morgan Stanley's official doomster and chairman of Morgan Stanley Asia, in today's New York Times. I don't agree - and neither do some of the other contributors in today's issue:

Six experts assess the current state and forecast the future direction of the American economy.

You Can Almost Hear It Pop, by Stephen S. Roach

The Facts Say No, by Marcelle Chauvet and Kevin Hassett

Bet the House on It, by Laura Tyson

Not if Exports Save Us, by Jason Furman

Nobody Knows, by James Grant

Wait Till Next Year, by Martin Feldstein

University of California Riverside's Marcelle Chauvet and American Enterprise Institute's Kevin Hassett are not too pereturbed. They are the co-authors, with James Hamilton, of the forthcoming Calling the Business Cycle. Their model suggests there is no reason to panic just yet:

According to the model, the probability that the American economy was in a recession in October, the last month for which we have data, was only 16.5 percent. This is high enough to make us nervous about the future, but it is low enough that we can be fairly sure that if a recession is going to be visible in the data, it did not begin until November at the earliest.

Comments

[Lafayette]

Chauvet & Hasset:" According to the model, the probability that the American economy was in a recession"

Given the inaccuracies of just about any significant model of the American economy in recent history, this prognostication has about the same chance of accuracy as the others, meaning not much.

The sub-prime mess WILL lead to a recession IF the economy falters. Here's why: Given that America is a debt-economy (where savings are practically nil), then any lapse in the ability of present debtors (whether their debt be realty or other consumption based) to pay their monthly installments will continue to seize the banking system. This must produce inevitably a knock-on effect to the economy.

There is a very tight link between consumer credit and overall economic performance in the US. Defaulted consumer-debt (that is, beyond residential debt) can seriously tip the economy downwards. There is no "positive equity" that is being released nowadays, since housing prices have placed many owners in a "negative equity" position. This means that they are not selling their properties to unlock "residual value", which usually finds its way into consumer expenditure.

This residual value (unlocked from positive real estate assets) has been an important economic engine sustaining overall demand. And, it is disappearing very, very rapidly.

It takes more than this for a "perfect storm" to produce a recession. But, two successive quarters of negative growth is certainly possible. And, with them, VOILA!, "recession" is inevitably announced. The question remains, will they be negative by substantial amounts? Probably not, given America's remarkable ability to sustain demand.

About the sub-prime mess: This is causing a great deal of pain to its perpetrators (banks and other credit-institutions). But, that is salutary. They caused the mess, and if their Christmas bonus is forfeit -- for the Masters of the Universe -- nobody is going to cry. Except perhaps them. (And, as the saying goes, "The only ones left to make a deposit on a Porsche will be the pigeons". ; ^ )

[Carlos]

Very interesting point of view.

excelent!

best regards,
Carlos (from Brazil).

[Arthur Eckart]

theeconfractalist, you never explained how animal spirits fit in your model. I tend to relate macroeconomics to rocket science. Take a look at the models and mathematics, which explain the outcome, inefficiencies of the system, allocation of limited resources, etc. Greenspan stated recently, "the U.S. economy is close to stall speed." Your relationship of GM to the U.S. economy is outdated. GM is generally an obsolete firm.

[TH]

Since we know a consensus of economists has never correctly predicted a recession, a list of economist predictions is, on the surface, about as helpful as a second belly-button.

Much more interesting would be the individual track records of each economist. How good are they?

[Arthur Eckart]

TH, the consensus is the U.S. economy is slowing, after 4.9% real growth the prior quarter. The question is of magnitude and length, e.g. will it slow enough to be a recession (or two consecutive quarters of contraction). That may be almost impossible to predict.

For example, I couldn't plan or predict my life three months ago with precision. I received an unexpected 9% raise (on top of another smaller recent raise and a larger bonus). Also, there were products I didn't plan or predict buying. One example is sports drinks. Three months ago I was buying a sports drink for $1.25. I then started buying a better sports drink with vitamins and nutrients for $1.50. A newer and even better sports drink (with even more vitamins and nutrients and fewer calories) was being sold at $1 with a $0.50 coupon, which I began buying recently. I've already substituted other drinks (e.g. milk) for the new drink to some extent. So, shifts within a large economy, when multiplied by millions of people, are difficult to predict with precision.

However, the Fed works in the future economy, because of lags in the adjustment process. The Fed began easing the money supply recently when it knew U.S. real GDP growth was about 4%. However, it turns out, the easing cycle began too late. Nonetheless, the Fed has an excellent and generally improving track record of smoothing-out the business cycle, since the Great Depression. It seems, the NeoKeynesians have typically been more negative about the U.S. economy, and therefore more wrong.

[Arthur Eckart]

Also, I may add, U.S. actual output has generally been below potential output throughout the 2000s, while U.S. living standards rose at high rates. It will seem to be a paradox when the U.S. economy reaccelerates later in 2008, enough to close the output gap within a few years, that U.S. living standards will rise at slower rates. Y = C + I + G + NX; domestic output has been lower than it would otherwise be, because of huge negative net exports (e.g. over $800 billion a year).

The U.S. already captured the greatest gains of trade, e.g. through cheaper imports (including dumping), foreigners paying world prices for U.S. goods well above true costs, dollars flowing back into the U.S. through the tourism and export booms, low rates of returns on U.S. Treasury bonds, premiums paid by foreigners for U.S. assets, foreigners exchanging more dollars for their currencies through the depreciated dollar, etc. Both the U.S. current and capital accounts will shrink over the next few years.

The view of the real world from the U.S. looks great. The rich areas are booming and expanding, while millions of Third World immigrants are moving into the poor areas, to raise their living standards. U.S. per capita income will reaccelerate at higher rates. Buying a house or buying a more expensive house increased debt substantially. Moreover, bargains for other goods and assets induced demand, which increased debt. However, U.S. income over the next 10 years will be more than $160 trillion, while U.S. household debt will shrink as a proportion of income.

[Lafayette]

AE: "Both the U.S. current and capital accounts will shrink over the next few years."

Your furry-tailed, bright-eyes positivism never ceases to amaze, AE.

Tis a shame it's just so much wishful-thinking. The US is in long-term decline confronted by a characteristic unwillingness to change economic policy sufficiently to stop the rot (of a debt-motored economy and income inequality).

Manufactured hubris, such as yours, is at the heart of the problem, not the solution. See in ten years to compare notes?

NB: Tourism and exports are NOT the magic bullet you think. They represent minuscule portions of American GDP. Get real.

[Arthur Eckart]

Lafayette, I meant the U.S. current account deficit and capital account surplus will shrink. Unfortunately, I couldn't correct the omission (of deficit and surplus). Fortunately it was the only error. The U.S. tourism and export booms contribute to domestic GDP on the margin. U.S. exports are almost the same size as China's GDP (in 2007 dollars, and if the 50 U.S. states were countries, similar to the E.U., it may be larger), while U.S. export growth is expanding faster than China's GDP. I wouldn't call abundant capital, upward mobility, and strong real income growth "rot." I've stated before, it's possible global imbalances will correct suddenly rather than slowly, which will support your pessimist view.

[Arthur Eckart]

Also, I may add, the U.S. Household Debt Service Ratio (which is household debt service payments as a percentage of disposable personal income) has been between 10% and 15%, since 1980. It rose from roughly 11% in 1980 to 14% in 2007 (see links below). So, the rise in household debt service payments has been only slightly steeper than the rise in disposible personal income over the past 25 years or so (higher incomes, lower interest rates, lower prices, etc. together raised living standards).

Moreover, I may add, U.S. firms are financially stronger, excluding firms that bought mortgage-backed securities (e.g. after 18 consecutive quarters of double-digit earnings growth in the 2000s) and the U.S. budget deficit shrank to $160 billion last year (or roughly 1% of GDP).

http://www.federalreserve.gov/releases/housedebt/default.htm

http://www.fdic.gov/bank/analytical/cfr/2007/aug/household_consumption.html

[Arthur Eckart]

Additional data include: The U.S. homeownership rate rose from 64% in the early '90s to 69% in 2006.

According to the most recent Federal Reserve Survey of Consumer Finances, the median net wealth of a renter household is $4,800, while the median net wealth of a homeowner household is $171,700. U.S.per capita income is currently $43,200 (median household income is $48,200 with 2.5 people per household on average) and the typical family's credit card balance is now almost 5 percent of their annual income. Of the households that do owe money on credit cards, the median balance was $2,200 -- meaning half owe more, half less. The majority of U.S. households have no credit card debt. About a quarter have no credit cards, and an additional 30 percent of households pay off their balances every month.

On average, today's consumer has a total of 13 credit obligations on record at a credit bureau. These include credit cards (such as department store charge cards, gas cards or bank cards) and installment loans (auto loans, mortgage loans, student loans, etc.). Not included are savings and checking accounts (typically not reported to a credit bureau).

http://www.creditcards.com/statistics/credit-card-industry-facts-and-personal-debt-statistics.php

http://www.realtor.org/PublicAffairsWeb.nsf/Pages/TPHomeownership?OpenDocument

[bacabaca]

nice posting....!

[Arthur Eckart]

Thanks, in reply to Lafayette's comment "of a debt-motored economy and income inequality," the data above suggest if the U.S. is a debt-motored economy, it's also an income-goods-assets motored economy. Moreover, using only income inequality to measure living standards is incomplete. The Gini Coefficient punishes the U.S. for having "too many" high income workers (e.g. 20% of U.S. households earn over $100,000 a year), while consumer surplus (partially reflected in $800 billion a year U.S. trade deficits) is not included in the Gini Coefficient. Consequently, using the Gini Coefficient to say the world's only superpower is equal to a Third World country is ridiculous.

Furthermore, I may add, U.S. consumers keep buying, because bargains (e.g. discounts) keep getting better. I suspect, without the deep discounts, U.S. consumption would fall. However, given most of the discounted goods are produced in foreign countries, a decline in U.S. consumption may coincide with the collapse of one or more export-led economies. U.S. consumption patterns would shift to a combination of buying more domestic output, paying-down debt, and building-up saving.

[Arthur Eckart]

It may not be much of a recession with the unemployment rate below 5%. Yes, there are "too many" houses (i.e. assets). However, capital, e.g. from 18 consecutive quarters of double-digit U.S. earnings growth and massive foreign capital inflows, had to go somewhere. What a problem, too many assets.

It seems, there are also "too many" goods (given $800 billion a year trade deficits), since U.S. consumers refuse to buy many goods, unless they're almost free or selling below cost. Obviously, the data show they don't have that much debt, while incomes continue to rise (perhaps, there's diminishing marginal utility for many goods). What problems, too many assets and too many goods. How will the U.S. recover?

Last-Minute Buyers Give Retailers Relief
December 24, 2007

Mark Pitney, 62, of Raleigh, who snapped up a red-and-white Christmas sweater discounted 60 percent at a local J.C. Penney's on Monday, said "without a doubt, there are a lot more markdowns this year."

Meanwhile, Susan Pirri, of Cranston, R.I., while shopping at the Providence Place Mall, stumbled on a pre-Christmas sale at clothing chain New York & Company that was offering 50 percent to 70 percent discounts. At that price, she couldn't help but purchase a belt, scarf and gloves for herself.

"I wasn't going to purchase things for myself," she said. "But at that price, it's hard to walk away."

"I'm trying to get some deals, seeing what they got out. The sales are better later on. And the stores aren't so packed right now," said Tina Fields, who was at the Circle Centre Mall in Indianapolis early on Monday morning. Her best bargain was a shirt from Aeropostale Inc. she bought for $5. Others like Alex Allen of Boston had postponed shopping because of lack of time.

"I've been working a lot," said Allen, who took advantage of the 7 a.m. opening at a local Target Corp. store to get toys for his three grandchildren before the largest crowds came later in the day.

The spree defied fears that a deepening housing slump, escalating credit crisis and higher gas and food prices would turn shoppers into Grinches.

http://biz.yahoo.com/ap/071224/holiday_last_minute_shopping.html

[b-b-bryan]

If you have to wait two quarters to anaylyze economic data to understand whether or not you are in a recession, by common sense you are not. The data are often revised so there is also a chance that you might measure the economy to be in recession only to later have an "instant recall" to determine that it really was not in recession... I have a problem looking at average citizens on matters of net worth, mortgage, credit card debt, etc., when it is the citizens in the tail of the distributon that are having all the problems. More interesting to look at the absolute numbers (number of persons) at two points in time - say 1995 before all the mortgage financial engineering wizardry allowed under Greenspan's watch and today.

[Arthur Eckart]

bb, you stated "citizens in the tail of the distributon that are having all the problems." There are two tails. Also, intertemporal models show Americans tend to earn more later in life, while building-up net wealth. Of course, there are disparities. For example, one household may have a higher inflation rate than another, because of consumption differences. Regardless of which tail is "having all the problems," greater education in financial and personal responsibility may help. Related info:

Americans born in 1946 are in relatively good financial shape. From MetLife's Mature Market Institute just-released study of boomers turning 62. They have relatively good income, $71,400, which is a tad more than the average household income in America. They have a decent net worth; $257,800 excluding the value of their homes.

http://www.metlife.com/WPSAssets/15708378001198694051V1FBoomersReadytoLaunchHighlights.pdf

[Lafayette]

I want to commend you all for a lively exchange ... and having proved, once again, that "were all the economists in the world set head to foot in a line, they still couldn't reach a conclusion".

You are ALL guessing. Which means, my guess is as good as yours.

Unfortunately, guesswork is an insufficient basis upon which to make investment decisions. Which means?

Everyone one will play "wait and see".

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The unemployment rate is so high because so many younger Americans entering the work place are un-educated highschool drop outs with out proper skills. These deadbeats are going to take us all down, if it's any single group of peoples fault.Then there's the under trained older generation that is just simply out of touch with current technology, but they'll all be out of the picture in the next 10 years, so you can't soley blame it on them.

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