Fisher Investments Editorial Staff
US Economy

The Egghead Economy

By, 12/03/2008

Story Highlights:

  • The National Bureau of Economic Research (NBER) released a report Monday pinpointing last December as a cyclical economic peak.
  • NBER's announcement is of historical importance. It will color future analysis of the period and hopefully bear fruitful policy prescriptions.
  • But for investors making decisions here and now, it is of little use, possibly spurring emotional decision making, predicated on backward-looking data.
  • We're best served looking ahead, and barring a historically nasty (and unlikely) downturn, stocks could start pricing in a recovery soon.

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It became official Monday: The US has been in a recession since December 2007—a full 12 months. The proclamation came from privately funded economic think tank, the National Bureau of Economic Research (NBER). NBER aims to neutrally label economic cycles for posterity and analysis. To do this, the Bureau analyzes broad monthly data on production, employment, real income, and a few other economic statistics.

It's not uncommon to hear the press spin NBER's cyclical announcements as confirming what many already "knew." Or as NBER committee member Jeffrey Frankel wryly puts it, "Ivory Tower Eggheads Finally Figure Out What Everyone Else Has Known All Along." But as many investors learn from experience, it's never so simple. Therefore, to maintain their reputation of "official recession labeler," NBER is traditionally very cautious and deliberate in their diagnosis—hence the generous lag between the economy's peak and NBER's declaration of it.

NBER's announcement is of historical importance. It will color future analysis of the period and hopefully bear fruitful policy prescriptions. But for investors making decisions here and now, it's dangerous territory. Labeling this past year a recession cements an otherwise ambiguous fear and can spur emotional decision making, predicated on backward-looking data.

To conquer our feelings of dread, it's key to remember NBER's assessment is rooted firmly in the past, and just as important, it's a best estimate only. (Even the report itself uses the word "imperfect" to describe a couple quoted statistics.)

For instance, this time around, NBER seems to have favored unemployment trends over other monitored statistics to pinpoint the most recent cyclical peak. Yet, first year econ majors learn unemployment is based on a number of blurry points. Like how to determine who's jobless but wants to work versus who's jobless by choice. Or undue reliance on surveys of employers who have no incentive to answer accurately or even participate at all. Or that determining real unemployment requires extensive seasonal adjustments, whose architecture rests on further assumptions. Even if government reporting is accurate, most of the job losses last fall and winter occurred in one or two segments of the economy and hardly represented widespread suffering. On a percentage basis, we note unemployment is still historically mild, hovering at 6.5% or lower all year.

Further ambiguity arises when we find there are two ways of measuring physical growth: One from the production side (Gross Domestic Product or GDP) and one from the income side (Gross National Income or GNI). The two should equal each other, but due to methodological deviation, they never do. GDP's been erratic but not consistently negative: It grew gangbusters in the third quarter of 2007, contracted slightly in the fourth quarter, grew mildly in the first quarter of 2008, recorded stronger growth in the second quarter (its peak so far), and contracted slightly again in the third. How that all adds up to definitive evidence the recession started last December, we're not sure. In its report, NBER mentions GNI's Q3 2007 crest makes the date of peak activity hard to discern, yet their conclusion seems to favor GNI over GDP. It's a somewhat subjective call that GNI should be more important than GDP, particularly considering personal income has been stable and growing throughout the year. And the inclination to change which is favored from cycle to cycle limits the analytical worth of officially labeling any period a recession.

But these are ultimately quibbles of when, not if. Widespread economic weakness has been more clearly displayed of late, and depending on credit market health, it's likely there's more on the way. Yet, because markets look ahead, investors should do the same, and barring a historically nasty (and unlikely) downturn, stocks could start pricing in a recovery soon.

*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.

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*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.

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