July 9, 2009
A SETBACK, OR JUST MORE DATA VOLATILITY?
Forecasting is tough, especially about the future, runs the old joke. But the dark art of prognosticating these days is no laughing matter.
Case in point: the burning question at the moment is whether the so-called green shoots of economic recovery turning brown? It's getting harder to answer "no" these days. It's not clear if we're headed for a second slump, but the risk has gone up a bit in recent weeks. The hope that the economy had at least stabilized looked increasingly persuasive over the past several months, a trend that inspired the hope that the recession might soon end.
That's still our view, although the transition from the end of the contraction to robust economic growth threatens to be a long and rocky period, as we've discussed, including here. But the outlook on the economy is in continual flux. As new information arrives, strategic-minded investors adjust their forecast and perhaps their asset allocation. No wonder, then, that expected risk premiums vary through time. Unfortunately, the current view for the economy looks a bit less encouraging these days; or, if you prefer, the future is a bit more problematic relative to what looked likely from June's vantage. In any case, the green shoots have wilted, if only slightly.
But it's too early to expect the worst (again). Indeed, the catalysts that brought us the first round of optimism are still alive and kicking, namely, massive liquidity injections on the fiscal and monetary fronts. What's more, it's clear that these twin doses of stimulus have been critical in stabilizing the economy, which is to say keeping a deep and protracted deflationary virus from spreading. But as we've discussed all along, pulling the economy back from the precipice is one thing. As policy prescriptions go, that was relatively easy. Figuring out how to play the game in the second half, however, promises to be much more nuanced and therefore difficult.
Promoting economic growth, in short, is quite a bit harder than staving off implosion of the financial system. All the more so in the deepest recession since the 1930s. No wonder, then, that as we move into the next phase of this crisis, the signals emanating from the economy won't seamlessly dispense rising doses of good news.
One example comes in today's Wall Street Journal, which advises that the generally encouraging decline in initial jobless claims in recent months may not be as potent this time around. The reason: new fillings for unemployment benefits "typically fall fairly sharply after peaking. Instead, they have hovered above 600,000 for an unprecedented 22 consecutive weeks," writes the Journal's Mark Gongloff. The implication: this data series may not be signaling the recession's end after all, as it has in business cycles over the past 40 years.
But shortly after the Journal article appeared this morning, the Bureau of Labor Statistics offered its weekly update, reporting that seasonally adjusted claims fell by a hefty 52,000 for the week through July 4, dropping to 565,000. That's the lowest since January. Of course, last week's fall may simply be a one-time drop tied to the Independence Day holiday. Stay tuned.
More broadly, the recent readings of economic activity have been sagging. One example comes by way of the Aruoba-Diebold-Scotti Business Conditions Index, published by the Philadelphia Fed. The latest reading of the index, based on data available as of July 2, shows a notable downturn relative to previous weeks.
Meanwhile, the yield on the 10-year Treasury and the price of oil have both fallen in recent weeks, suggesting that the economic outlook has softened.
Or perhaps markets have just gotten ahead of themselves. Since March, the capital and commodity markets have been pricing in economic stability if not recovery. The question, then, is whether these trends signals something more troubling, or merely represents a pause that refreshes?
The transition from the apocalypse to the post-apocalypse world was always sure to be a confusing, perhaps more so than some of us thought. Nonetheless, we're still optimistic that the technical end of the recession is near. Unfortunately, we're a bit less optimistic these days. At the same time, we're more confident that reaching the promised land of recovery will be a tougher trek than it appeared last month. Rest assured, this outlook too will change. Let's hope it changes for the better.
Posted by jp at July 9, 2009 10:19 AM
Hi Jim. We've had a substantial pullback now and the market has held the 875 level. If it breaches that meaningfully then we can begin to wonder if it is anticipating something bad ahead. I think it is on the knife edge here.
Posted by: Anonymous at July 12, 2009 12:15 PM
Indeed. Sheets of green, or green shoots? Freudian slip? Or just plain sloopy (sloppy) writing? Well, let's change it back to the common reference. After all, a bird in the hand is worth two in the brush...make that bush.
Posted by: JP at July 11, 2009 8:26 PM
"Green sheets?" I think you mean "green shoots." :)
Posted by: Joseph Slife at July 10, 2009 8:20 AM