Don't Rule Out a Recession Just Yet
Wednesday March 28, 6:00 pm Eastern Time
SmartMoney.com - The Economy
By Rebecca Thomas
<<WALL STREET PUNDITS have been dead wrong about the stock market for the past year. Should we trust their generally optimistic forecasts on the economy?
No way, according to a March report from the Economic Cycle Research Institute, or ECRI, a economic consultancy in New York.
Although a majority of Wall Street economists think that economic growth will soon stabilize, ECRI researchers say the pain will only intensify. On Monday, the firm issued its first recession call in more than a decade. ``The U.S. economy has been in danger of falling into a recession since last summer, but until now a recession was not a foregone conclusion,'' reads ECRI's March report. ``Unfortunately, we have now run out of time.''
An array of indexes designed by ECRI to anticipate turning points in the worlds' business cycles is now collectively predicting a U.S. recession, defined as two consecutive quarters of negative economic growth. Indeed, every one of the firm's 100-plus indexes — save a leading index of the service sector — is signaling that a contraction is imminent. When can we expect it to materialize? ``Our best guess is really soon,'' says Lakshman Achuthan, managing director of ECRI. In fact, later revisions to current economic data could very well indicate that a recession has already begun, he says.
It's tempting to dispute ECRI's findings in light of Tuesday's reported rise in consumer confidence, as gauged by the New York-based Conference Board. But Morgan Stanley Dean Witter chief U.S. economist Richard Berner, one of Wall Street's few outright bears on the economy, warns against taking consumer sentiment as gospel. ECRI's proprietary indicators track hoards of financial and economic data across every major industry sector. Consumer sentiment surveys, by contrast, merely indicate how people say they're feeling, not how they're acting. ``Confidence numbers have very little information content,'' he says. ``The way in which [ECRI's indexes] are constructed is more reliable.''
And those indexes have a pretty good track record. ECRI founder Geoffrey Moore made his last recession call 11 years ago, when the economy was sitting on a similarly precarious edge. Back then, the prediction was just as controversial, if not more so. Moore made his forecast on Feb. 6, 1990. A month later, The Wall Street Journal downplayed the call, reporting that a panel of experts had deemed the economy ``relatively healthy.'' And in August of that year, Federal Reserve Chairman Alan Greenspan said the economy hadn't yet begun contracting. Oh, but it had: Economic data would later show that the recession began in July 1990.
What's signaling recession this time around? Alarm bells first went off at ECRI last September, when the spike in energy prices threatened to derail an already slowing economy. Although the Federal Reserve was still worried about the potential for inflation, ECRI's leading index of prices — the Future Inflation Gauge, commonly known as FIG — had peaked way back in April, suggesting to ECRI economists that recession, not inflation, was the bigger risk. Frigid winter weather and a disruptive election conspired soon thereafter to agitate economic activity even further. ECRI's leading indicators of economic activity grew alarmingly weak.
But it wasn't until February that the indexes passed the point of no return, ECRI says, with leading manufacturing and construction indicators falling markedly. Meantime, declines in consumer confidence and building permits, though somewhat offset by favorable movements in the money supply, bond yields, services inflation and productivity growth, pulled down ECRI's Long Leading Index, a collection of indicators designed to anticipate turns in the economic cycle a year in advance. And disruption in the stock market, a shortening in the manufacturing workweek and a rise in initial jobless claims dragged down its Short Leading Index, which groups data that tend to lead cyclical turning points by six months.
Most ominous, though, was the tumble of ECRI's leading index of employment growth. The index — which includes such components as average hours worked, overtime hours, initial jobless claims and the rate of layoffs — tumbled to a 19-year low in February, suggesting to ECRI that the jobless rate will rise significantly in the months ahead. That, says Achuthan, was the recession clincher, because job losses tend to undermine consumer confidence — and thus spending — more than just about anything else. ``We haven't really had a deteriorating job environment impact the [consumer confidence] survey yet,'' says Achuthan. But when it does, ``confidence is going to deteriorate noticeably.''
That's bad news for the last bastion of U.S. economic strength, the services sector. If confidence plunges again and consumers hunker down, as ECRI expects, that spending-dependent sector will quickly lose strength. (ECRI's Leading Services Index remains ambiguous, with its recent weakness consistent with either recession or a softer landing.) ``The only thing holding us up is services,'' says Achuthan. ``They're the straw that breaks the camel's back.''
Up until now, consumer spending has remained resilient in the face of rapidly deteriorating sentiment. But even economists who aren't predicting recession doubt this puzzling trend can continue much longer. Spending on long-lasting durable goods — which consumers can often delay replacing to weather turbulent times — has already slowed, and declines in such purchases have historically preceded slowdowns in overall consumption, explains Lehman Brothers economist Joseph Abate. Services could very well be next.
If there's anything that could undo ECRI's recession forecast, it's the possibility that stock prices will rebound, shoring up consumer confidence despite higher unemployment. But it's hard to imagine a quick and dramatic recovery in stock prices, especially after Wednesday's rout.
There is, however, a dim light flickering at the end of this dark tunnel. ECRI's inflation gauge keeps heading down, leaving the Fed with plenty of leeway to continue cutting interest rates as necessary. ``Whether or not the Fed acted too late, they're obviously moving,'' says Achuthan. ``The economy's going to go back up.''
But first, it may have to go down.>> |
