The US economy is suffering its worst economic downturn since the Great Depression and on some fronts the recession is the deepest on record. The obvious question: When will it end? No one knows because the uncertainty is high on how this unprecedented crisis unfolds in the weeks and months ahead. The next-best estimate is looking for a peak in the recession’s intensity and on that front yesterday’s update of the Philadelphia Fed’s ADS Index – a real-time business-cycle index for the US economy – offers a hopeful but still-precarious hint that the apex has passed. [Note: revised data released since this article was published dramatically reversed the upbeat revision history of the ADS Index, as detailed below.]
To be clear: a peak in the recession doesn’t mean it’s ending. Far from it. But whenever the downturn maxes out and the level and breadth of the macro destruction begins to ebb, that’s an encouraging point in time. Alas, it’s still not obvious that we’ve reached that point. On the bright side, it’s suddenly slightly less compelling to argue the opposite.
Before we get into the details, let’s review the benchmark that offers the basis for this slim reed of thinking positively. The ADS Index, the Philly Fed advises, “is designed to track real business conditions at high observation frequency” via six seasonally adjusted inputs: weekly initial jobless claims; monthly payroll employment, monthly industrial production, monthly real personal income less transfer payments, monthly real manufacturing and trade sales; and quarterly real GDP.” In short, this business-cycle index is designed with a mix of high- and low-frequency data. The index is updated whenever there’s an update in the underlying figures.
The latest revision to the ADS Index was published yesterday (May 7) after the weekly jobless claims report was released. As expected, new filings for unemployment benefits continued to reflect millions of new claims. That’s a huge rise, although it reflects the fifth week of lesser increases. The nearly 3.2 million increase in claims last week also reaffirms the obvious: the economy’s in a deep recession – a point that will be reaffirmed in today’s April payrolls report, which is expected to show that the labor market lost 22 million jobs last month. [After this article was published, the Labor Department reported that private nonfarm payrolls dropped by a stunning 20.5 million in April–the biggest monthly decline, by far, on record, which starts in 1939 for this dataset.]
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Although the recession will roll for some unknown period, the first order of business is monitoring the downturn for insight on determining when the downward bias in contraction peaks. The ADS data suggests it already has. It’s premature to see this as a definitive apex. Economic data can and will be revised and so the ADS updates to come could reverse the index’s relatively upbeat revisions of late. Indeed, it’s unclear if the worst has passed for Covid-19 deaths and infections in the US, in part because there’s concern that a second wave will strike in the autumn and winter. In short, estimating peaks for the Covid-19 and the recession remains a precarious effort and so current numbers should be taken with a grain of salt.
Nonetheless, the latest ADS revision looks encouraging. It may not last, but at the very least the revisions to the index offer a framework for monitoring how the recession is unfolding in real time. With that in mind, yesterday’s update shows that the ADS Index (currently at -0.62) rose above the -0.80 mark for the first time since the recession started in late-January. (Note: this start date wasn’t known in the ADS numbers until the Mar. 26 release due to the lag in the economic variables.)
[Note: After this article was published, the Philly Fed revised its ADS Index and factored in the April employment data, which reported a dramatic decline in payrolls. As a result, the ADS Index fell sharply, to a record low! In other words, the upbeat revision history evaporated with the release of one new data point, as shown below.]
Using the -0.80 level for the ADS as a critical point is based on a research paper published by the San Francisco Fed in 2010 (“Diagnosing Recessions” by Òscar Jordà). When the ADS Index falls below -0.80, the decline implies that a recession has started. The implication: values above -0.80 suggest that the recession has ended, or perhaps is fading in terms of intensity.
Keep in mind that ADS is an econometric measure of economic conditions and its real-world testing is limited. What’s more, it’s debatable how useful the -0.80 mark is as a reliable signal, particularly for coming out of a recession. Given what’s still unfolding these days, it’s safe to say that an extreme level of caution is recommended.
Consider, too, that the Philly Fed’s guidance is soft and fuzzy in terms of calling start and end dates for recessions and so the optimism outlined above is The Capital Spectator’s interpretation, which is to say an unofficial interpretation. Instead, the Philly Fed offers the following for analyzing the ADS data:
The average value of the ADS index is zero. Progressively bigger positive values indicate progressively better-than-average conditions, whereas progressively more negative values indicate progressively worse-than-average conditions. The ADS index may be used to compare business conditions at different times. A value of -3.0, for example, would indicate business conditions noticeably worse than at any time in either the 1990-91 or the 2001 recession, during which the ADS index never dropped below -2.0.
That said, the recent revisions to the ADS Index, as shown in the chart above, suggest that maybe, just maybe, the worst of recession’s bite has peaked. That doesn’t mean that the economic pain is about to end anytime soon. But the sooner the recession peaks, the sooner the repair and recovery process can begin.
Unfortunately, it’s not yet clear that the worst of the recession has peaked. The question now is how the ADS revisions compare in the weeks ahead. For the moment, there’s a glimmer of hope, albeit hope that’s still subject to revisions on a daily basis until further notice.
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