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That Creaky Old Economic Expansion? Watch It Keep Going

04/04/2017

Suzanne Woolley Bloomberg April 4, 2017

The odd argument pops up now and then that we’re overdue for a recession.

“People point out that the bull market is the second-longest and the second-most-expensive since World War II, and that this economic expansion is almost twice as long as the average expansion since 1900,” said Sam Stovall, chief investment strategist for U.S. equities at CFRA. “That, and the knowledge that this economic expansion has been pretty anemic ever since its start, causes people to question what could go wrong.”

Adam Posen, who leads the Peterson Institute for International Economics and worked as an economist at the Federal Reserve Bank of New York in the ’90s, said in a CNBC interview last week that the U.S. economy is heading into a “boom-bust” cycle and that he expects a recession in the next two years.

While President Donald Trump has promised that tax cuts and deregulation will help lift annual economic growth to 4 percent, Posen said we can’t even reach 3 percent given the current backdrop of low unemployment and low productivity growth. In the fourth quarter, U.S. gross domestic product increased at an annual rate of 2.1 percent. Trump’s economic stimulus plan, including a giant infrastructure renewal program if it all happens, would fuel what Posen called a “further credit boom,” which would lead the U.S. Federal Reserve to tighten lending conditions even more than many expect, and voila! Posen’s bust.

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Then there’s this curiosity, which Bloomberg’s Rich Miller has addressed. Since the days of Teddy Roosevelt, the vast majority of Republican administrations have seen recessions soon after taking power. This table shows that of the 10 recessions that unspooled during a president’s first two years, all did so with a Republican in the White House. (Four of the Democratic administrations saw recessions, too, though later in the first term and/or in the second.)

Source: CFRA, NBER. Data as of 12/31/16. Note: Hoover’s, of course, was the Great Depression. Charmingly, Stovall, who provided the table, argues against it. “My feeling is, it could have gone either way,” he said. “If Al Gore had won in 2000 and had two terms, he would’ve had two recessions. And what if Ross Perot didn’t run in 1992 and Bush had won again? What if Clinton then won in 1996 and wound up being president for eight years from then on? He would have had a recession.”

Plus, the Fed just raised interest rates for the second time in three months and is likely to raise them at least twice more this year. That reflects confidence in a strengthening economy and even fears of inflation down the road.

Putting aside the spooky presidential tally, then, what should we look at?

Here are the four indicators Stovall finds helpful in identifying recession risk—and right now they are far from signaling tough economic times.

Housing starts

On average, housing starts have been down 25 percent year-over-year around the point at which a recession was declared, Stovall said. Today, that number is a positive 6.2 percent.

Consumer confidence

People generally aren’t going to buy houses unless they are confident they can keep their jobs. Since the mid-1970s, consumer confidence has averaged a 10 percent decline year-over-year before a recession was announced, he said. That figure is now a positive 5 percent.

Leading indicators

Traditionally the index of leading economic indicators has been down by about 3 percent around the time a recession was called, on a rolling six-month basis. It’s now up 1.1 percent.

The yield curve

Since 1960, the yield curve—the gap between the yield on the 10-year and one-year Treasuries—has been inverted at negative 0.8 percent ahead of a recession. Today, there is a positive quarter-percent gap between the yields.

Stovall does think the stock market is overvalued by about 7 to 8 percent by some measures, so “a pullback of 5 to 10 percent would be refreshing. 1 Since the market overreacts, a pullback could even become a correction, he said. He sees that as good news, too, saying it would presage a recovery.

Recession talk heartens Stovall. “When everyone feels optimistic, there is no money left on the sidelines to propel prices,” he said. “Now, we still have room to go through the FOMO phase.”