Recession Confusion

Story Notes:

Recession fears seem to be growing.

However, a recession isn't a game of odds, and recession fears have historically been a poor indicator for coming recession.

To make a better forecast, investors should tune out noise and look for significant, little-noticed news.

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Here it is. The moment of truth. Will Santa figure out how to wrap that big trade deficit and high oil prices we asked for (See "MarketMinder's Letter to Santa" 12/10/2007) or will we get nothing but a lump of coal, i.e., a recession, in our stocking. If we were the betting type we'd wager on the former.

Recession fears continue dominating headlines. For some—it's beyond speculation. Recession is a foregone conclusion, and it will be bad.

Crisis May Make 1929 Look a "Walk in the Park"
Ambrose Evans-Pritchard, Telegraph

Seriously? There have been so many structural improvements to markets and economies since then to make such a meltdown highly unlikely. Plus, the 1929 crash and subsequent Depression were greatly aggravated by America's Fed reducing money supply by fully a third. Central bankers can still make errors—but likely none on that scale—look at how coordinated the world's central bankers are. Just recently they announced a plan to work in concert to ease liquidity log-jams. (Read "But Wait, There's More," 12/12/2007.)

Some recession fears may stem from a misunderstanding of what a recession is. How do we know there's a touch of confusion?

7 Economic Warning Signs
Rex Nutting, MarketWatch

The above article states we have a 40% chance of recession in 2008. But recessions aren't a game of chance (see "Odds On," 12/14/2007). Plus, the average GDP growth forecast is 2.1%. If that's spot-on, that's modestly-slower-than-average growth—not a recession and not alarming.

A recession isn't a feeling. It's not the result of a poll where 51% of the respondents claim we're in a recession. It's not lower home prices. It isn't stock volatility. It isn't high oil prices or a weak dollar. It's none of those things. A decent measure of recession is GDP growth. Generally, most folks view two consecutive quarters of negative GDP growth as a recession. That's a fine way to look at it, though we follow the National Bureau of Economic Research (you can too, at ). Their analysis is more exhaustive, but GDP growth is a big component.

Fact is, recessions are tough to measure. We generally don't know we're in one until well after it's started, sometimes not until after the recovery has begun! Always been that way. Think about the 2001 recession—few called it a recession while it was happening. In fact, most didn't start squawking, "Recession!" until after September 11—by then the recession was nearly over! In fact, we never had one quarter—not one—of negative GDP growth. Q3 2001 was flat, but not negative. By historic standards, the 2001 recession was very short and shallow. But in October of 2001, no one was saying, "Isn't this short and shallow recession marvelous! We got off easy this time, didn't we!" Conversely, since the current expansion started, we've gone through a number of periods where recession fears flared (most recently in Summer 2006)—all while we enjoyed healthy growth at home and galloping growth globally.

Point is, emotions aren't the best recession predictors. But since we won't know if we're in a recession until later, let's suppose we're in one right now. Is it really so bad? Unemployment remains historically low and wage growth beating expectations. US household net worth just hit fresh highs ("Feel the Flow," 12/11/2007). We still view corporate earnings and economic growth estimates as altogether too dour. And so do most economists!

No Recession, But . . .
James C. Cooper, BusinessWeek

As stated in this article, "Only two of the forecasters expect a recession." When forecasting, it's important to separate legitimate market risks from noise. Right now, recession fears seem more noise than anything else. Look for something else to move markets in 2008.

Have a Merry Christmas