A New Year Brings New Recession Forecasts

The economic outlook is always uncertain, but one thing that doesn’t change is the constant stream of recession forecasts. Predicting a slump, in fact, has been a staple ever since the last downturn ended. Did the experience of being consistently wrong over the last seven years temper the obsession to see macro trouble at every turn? Apparently not. The business of assuming that a recession is lurking around the next corner for 2017 is in high gear.

The folks at Maudlin Economics last week, for example, warned that “there is concern over the chance of a cyclical recession in the US in 2017.”

Meanwhile, two economists at Ohio State University are anticipating the economy will soon slip over to the dark side. “My outlook for 2017 and beyond is that the US economy will likely see another recession,” Jay Zagorsky wrote on Monday. A colleague at Ohio State, Ian Sheldon, also sees trouble brewing via Donald Trump’s election, explaining that “he’s going to put the economy into recession.”

The election of a Republican generally—any Republican–is enough to inspire recession chatter. Last month, for instance, an analyst found a degree of cause and effect between presidents who hail from a political party that begins with the letter “R” and economic downturns. Joachim Fels, global economic advisor at Pimco, recently observed that “each of the six Republican presidents since the Second World War presided over a recession, and some more than one – there were three under Trump’s self-declared idol, Dwight ‘Ike’ Eisenhower, and two each under Richard Nixon and George W. Bush.”

Fels is hardly alone in worrying about a new recession because a new occupant of the Republican persuasion is set to move into the Oval Office. Johan Jooste, the Bank of Singapore’s chief investment officer, for instance, yesterday outlined his reasoning for thinking that US recession risk is on the rise due to President-elect Trump.

To be fair, the probability of a recession in 2017 is almost certainly higher than zero and so it’s possible that a new slump is fate at some point between now and Dec. 31. But that’s about as useful as recognizing that snow is possible in winter.

The reality is that predicting recessions is a fool’s errand, as history clearly and continuously reminds. The next best thing is nowcasting the business cycle, which is essentially crunching a wide and representative sample of economic and financial data and modeling the numbers in search of clear signals of cyclical change. History also shows that such efforts—here and here, for instance–offer a substantially higher level of reliability vs. warm and fuzzy approaches that are data independent and instead rely on theory, intuition and cherry-picking data sets to rationalize a dark forecast.

Even if we can do a better job of estimating recession probability, is the effort worthwhile from an investment perspective? Yes, or at least it has been in recent history. For example, the track record looks encouraging for using the monthly reports of the Chicago Fed National Activity Index (3-month average) as the basis for a tactical asset allocation model, as I discussed here. Even better, my research strongly suggests that we can reliably anticipate the signals for that benchmark by a week or two.

In other words, there are relatively robust methodologies for estimating recession risk in real time. On that note, the probability is currently nil that the US economy is contracting or is at risk of contracting, as outlined in the latest weekly edition of the US Business Cycle Risk Report, based on data published to date. Will that analysis change? Yes, you can count on it. The mystery: when?

The good news is that real-time analysis, if done right, can reveal a lot about the odds of a cyclical shift. But predicting that date, in advance–with a reasonable degree of reliability–is only slightly tougher than turning water into wine.

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