The National Bureau of Economic Research today announced that its Business Cycle Dating Committee had officially determined a peak in economic activity at December 2007, which signals the start of the recession.    I am a member of the committee.    Though I speak only for myself, not the committee, I offer my views on two questions of possible interest: 

(1)   Who needs the NBER Business Cycle Dating Committee (BCDC) anyway?

(2)   Why did we pick December 2007 as the starting month of the recession?

(1) We sometimes hear the question “Who needs the NBER Committee anyway?”   This question most often comes in one of two forms:

(1a)  Everyone in the real world has known that the economy has been in a recession for some time.   In past cycles, media reports have sometimes taken the line “Ivy Tower Eggheads Finally Figure Out What Everybody Else Has Known All Along.”    The implicit critique is that the committee takes too long after the event – typically almost a year — to make its declaration.   One short answer is that our job is to be definitive, authoritative, but not fast.  We don’t want to have to revise our dating of the peaks and troughs later, in part because it would sow confusion among those who rely on them (from econometric researchers to political speechwriters).   GDP and other official statistics are often revised after the fact, for example.  We leave it to others  –pundits, forecasters, consulting companies, financial newsletters, and so on – to try to get there first.   We deliberately get there last.

(1b)  The other form taken by the question “Who needs the NBER committee?” runs as follows: “The rule of thumb is simple:  two consecutive negative quarters of GDP growth.   Why complicate things?”    The Frequently Asked Questions segment of the BCDC announcement answers this in detail.     For now, observe simply that questions (1a) and (1b) are inconsistent with each other.    As of December 1, 2008, the US economy has not yet experienced two consecutive negative quarters.    So an argument that we should wait for two consecutive quarters (critique 1b) is the opposite of the critique that we should have acknowledged a recession before now (critique 1a).

(2) The more important question is:  Why did we pick December 2007 as the start of the recession?    As is the case surprisingly often, different economic indicators give very different answers to the date of the peak.

            Of the monthly indicators to which the BCDC gives primary attention, the most important is jobs, more specifically Payroll Employment (from the Labor Department’s Bureau of Labor Statistics).   It peaked in December 2007, and has been declining ever since.   My personal favorite indicator is Total Hours Worked (which is closely related, because it is number of people employed times the average number of hours per worker).    Hours Worked also peaked in December, as shown in the graph below.

            Of the quarterly indicators, the most important is aggregate economic activity, more specifically, Output.   The Commerce Department’s Bureau of Economic Analysis computes two measures of output:   Gross Domestic Product (GDP) and Gross National Income (GNI).  The two should be the same in theory, but differ in practice due to measurement errors.   GDP receives far more public attention, but in fact has no claim to be a more accurate measure of output than does National Income.    The statistics currently available show that GNI peaked in Quarter 3 of 2007, whereas GDP peaked in Quarter 2 of 2008.    A simple-minded average of the two peak dates would seem to  point to midnight of New Year’s Eve, December 2007, as the peak.    Another (comparably unsatisfactory) way of forcing the output data to cough up a precise month is to look at Personal Income, which is available monthly.   The BCDC’s computed measure of real personal income less transfers peaked in December 2007.  

      It would be wrong to claim that all roads arrive at the same destination, December 2007.   Other indicators point to other dates, some earlier, some later.  If we are very lucky, revisions that the BEA makes in July 2009 will help resolve the discrepancy between the GDP and GDI measures somewhere in the middle.  But perhaps the best characterization of the output measures is that they show a rough plateau from the fall of 2007 to the summer of 2008.   That the employment statistics speak more clearly allows them to have the predominant say.

Is the United States in recession?   If one looked solely at the adverse shocks that have hit the economy over the last year, one would infer an unusually high probability of a recession.    If one consulted some of the most import economic measures over the last year, one would say the country clearly entered a recession last January.  If one gauged the popular mood, one would hear, “Of course we are in recession !” 

The one criterion that has been missing is the one criterion that people most commonly have in their minds as the definition of a recession:   two consecutive quarters of negative growth.   This morning, October 30, the Commerce Department released the advance estimate of GDP for the 3^rd quarter.   It showed a decline.   The decline was small:  just 0.3 per cent at an annual rate; and it is only one quarter, not yet two.    But at this point there can be little doubt that we are really truly in recession. 

The adverse shocks include the most severe housing bust in more than 70 years, an oil shock as big as those of the 1970s, the greatest financial crisis since the Great Depression, and the worst fiscal outlook ever.    Any one of these developments would normally be enough to send an economy into recession.   Leading economists from Martin Feldstein to Larry Summers have been warning since the start of the year that the downturn has indeed arrived, not to mention Nouriel Roubini who forecast it far ahead of time.

And sure enough, many of the most reliable statistical indicators have suggested all year that we are in recession. 

The most important statistical criterion besides GDP is employment.   Jobs peaked in December 2007 and have declined steadily ever since.  The cumulative loss is 760 thousand (or 0.55%) as of September.    My personal favorite among indicators is Total Hours Worked in the economy, because it combines both employment (number of people working) and average length of workweek (are they working 40 hours a week? Overtime?  Part-time?).    Total Hours Worked shows a similar pattern as employment, but with an even steeper decline since December: 1.4%.  (The Bureau of Labor Statistics is the agency that releases these numbers, on the first Friday of the subsequent month.)

The index of Leading Economic Indicators, which is designed to try to warn of turning points in advance, turned down more than a year ago.   Not only that, but also the index of Coincident Economic Indicators, which is supposed to move contemporaneously with the real economy, appears clearly to indicate that a recession started toward the end of 2007.  

Housing prices as of August are down 27%, relative to their peak in July 2006 (Case-Shiller composite of 20 cities).   Consumer confidence, another important determinant of household spending, fell to an all-time low in September, according to the October 28 release from the Conference Board.  The version collected by the University of Michigan is also looking quite bleak.   Indeed, retail sales are down, especially autos.  The worse news in the Commerce Department report is that consumer spending took a steeper plunge in the third quarter than at any time in the last 28 years.   The trend in industrial production has been negative for a year, and accelerated in August and September.  Corporate profits are down too.

But it is still not yet officially a recession !  Why not?   The most important criterion for dating business cycles is real growth.    The rate of change of real GDP, surprisingly, was above zero in the first quarter of 2008, and was even moderately strong in the second quarter: 2.8%.   (The revised “final” estimate of GDP in the fourth quarter of 2007 did turn out to be below zero, but just barely.)     It is quite a mystery why output pointed up during the first half of the year, while everything else pointed down.  

Clearly the demand for US goods received some boost in the 2nd quarter from tax rebates and exports.   Exports continued to help growth in the third quarter (together with inventory investment, which probably includes some goods sitting on shelves that firms were unable to sell, and defense spending).    Net exports have been carrying the economy for the year, as one can readily tell by noting that real domestic purchases have been in decline.  Exports are unlikely to continue this role in the future, because our trading partners have slowed down more than we have and because the depreciation of the dollar has recently stopped.

But perhaps there is some measurement problem with GDP.   Gross National Income (GNI) has as much claim to measure growth as Gross National Product does.  In theory the two are supposed to be virtually the same: the value of goods and services sold is conceptually the same as the value of income earned.    Real GNI did in fact turn down in the 4th quarter of 2007 and the first quarter of 2008, though it rebounded in the third quarter as real output did.   Real personal income – one of the indicators that the NBER Business Cycle Dating Committee looks at – has been declining almost throughout the year. Real personal disposable income fell especially sharply in this morning’s release for the 3rd quarter.

The weight of evidence is now overwhelming:   we are currently in recession.

Did it start at the end of 2007, when employment and the other indicators peaked?     Or was the stimulus from the government and from exports enough to postpone the turning point, and did the recession thus only start towards the end of the summer, when the financial crisis intensified very sharply?   I am afraid that we need to wait for some more data and some more (regularly scheduled) revisions before we will know.

[For anyone wishing to comment on this post, I suggest you go to the RGE version.]

Over the past month, I , citing Feldstein, have said that if one looks at available information on monthly GDP, available from estimates of MacroAdvisers, that output declined within the first quarter of the year, even though as standardly reported GDP was higher in QI overall than it had been in the last quarter of 2007. But, as it turns out, there is some ambiguity to the question.

The estimates do show GDP falling in February, by a hefty 10.1% anualized. But the numbers for January and March are up. To net out the three months, one must split hairs. The positive numbers for January plus March are just slightly greater in absolute value than February’s negative 0.9 (monthly). So the net is up? Not necessarily.

We are trying to figure out the change within the quarter, from beginning to end. Technically, that means from January 1 to March 30. But of course even Macroadvisors doesn’t report daily or weekly estimates. Estimated total real GDP in the month of March was just slightly above total real GDP in the month of December. So again the net is up? The most precise measure of the change between January 1 to March 30 is the change between the December-January average and the March-April average. That is a tiny negative number: GDP fell by an estimated $28 billion within the first quarter (in year-2000 $). And April is so flat as to be essentially zero.

I think I am sorry I brought the subject up.

It would in any case be a mistake to make much of these numbers. The reason the Commerce Department’s Bureau of Economic Analysis doesn’t report monthly numbers is that the data are so unreliable, and subject to revision. For anyone who needs some sort of estimate of monthly GDP, as we do on the NBER Business Cycle Dating Committee as an input into our thinking, this is what we have to go on. But one sees here yet another illustration as to why the BCDC waits a long time, until all the data are in, before declaring a recession.

*** Comments can be posted at http://www.rgemonitor.com/us-monitor/bio/660/jeffrey_frankel . ***

The Commerce Department this morning revised upward its estimate of first quarter growth in real GDP to 0.9% (precisely in line with the expectations of economic forecasters).

As a member of the Business Cycle Dating Committee of the NBER, I am asked frequently if the country is about to enter a recession, or if we have already done so. I cannot speak for the Committee, and I am not a professional forecaster. But I can give my views, for what they are worth.

It is hard to say that we entered a recession in the early part of the year, without a single negative growth quarter, let alone two of them. Even so, three minor qualifications to that 0.9% remain:
1) The number will be revised again, and could move in either direction.
2) A bit of the measured growth consisted of an increased rate of inventory investment, which was almost certainly not desired by firms and is likely to reverse later in the year.
3) As Martin Feldstein has pointed out, the QI growth number is defined as the change for the quarter as a whole relative to QIV of 2007; within QI, the information currently available suggests that GDP fell from January to February to March.

The reason why many suspected a QI turning point in the first place is employment, which is virtually as important an indicator to the NBER BCDC as is GDP. Jobs have been lost each month since January. Total hours worked is my personal favorite, because in addition to employment it captures the length of the workweek, which firms tend to cut before they lay off workers. This indicator too has been falling.

And of course there are the longer run indicators that have been very worrisome for almost a year: depressed household balance sheets, mortgage defaults, high oil prices, low consumer confidence, etc.

The economy is a four-engine airplane flying at stall speed, skimming along the top of the waves without yet going down. Real gross domestic purchases increased only 0.1 percent in the first quarter — almost as flat as you can get. But net exports provided an important source of demand for US products, and are likely to remain a positive engine of growth in the future. The same is true of the fiscal policy engine, as consumers receive and spend their tax cuts in the 2^nd and 3^rd quarters. On the other wing, the investment engine has been knocked out; inventory investment is likely to fall and residential construction will remain negative for sometime. The big question mark is the consumption engine. Is the long-spending American household taking a hard look at its diminished net worth and taking steps to raise its saving rate above the very low levels of recent years? If so, a recession will ensue.

We are already clearly in a “growth recession.” All in all, I put the odds of an outright recession sometime this year at greater than 50%. That number is meant to add together:
(1) the odds that it will turn out that we have already passed the turning point and
(2) the odds that the sharp recent expansions in monetary and fiscal policy will succeed in postponing the recession, but only until later in the year.
Come the fall, if demand starts to slow, I can’t see either the Fed delivering a second big dose of interest rate cuts (as they were able to in the 2001 recession, when the dollar was strong and inflation under control), nor the government delivering a second big dose of tax cuts (as they could in the 2001 recession, when the budget outlook was strong and debt under control).

White House CEA Chairman Ed Lazear expressed confidence to the Wall Street Journal today that the country is not in recession. I, like Menzie Chinn, am surprised that Lazear is willing to put his reputation on the line in this way.

It is true that the Commerce Department BEA’s advanced estimate of first-quarter GDP growth was still above zero (+0.6%). But there are three reasons not to take this number too seriously.
(1) Revisions in these numbers are usually substantial, so the final number could easily turn out to be negative — or twice as high.
(2) Even if the +0.6% number were to hold up, it can be entirely accounted for by measured inventory investment. In other words, real final demand fell rather than rose in the first quarter. It is plain that this inventory accumulation was not the outcome of deliberate decisions by bullish firms to add to their inventories in anticipation of a booming economy. Rather it was almost certainly unintended inventory accumulation, as goods sat unsold on store shelves and in warehouses. This overhang makes it more likely that inventory accumulation will be negative in the 2nd quarter. (Admittedly, rising exports from the weak dollar and rising consumption from the tax rebate checks could outweigh that particular factor, and we could scrape along the ground for another quarter at near-zero growth).
(3) As Martin Feldstein has been pointing out (e.g., in the FT), it is a misinterpretation of the GDP statistics to say that growth remained positive in the first quarter. Rather GDP for QI as a whole was estimated to have been 0.6% higher as compared to QIV as a whole. The Commerce Department does not report monthly GDP estimates, but MacroAdvisers does, and these data suggest that monthly GDP has been declining since January.

There are other reasons as well to consider it likely that a recession may have started as early as January. The NBER Business Cycle Dating Committee, which declares when recessions start, looks at lots of data. But the most important information, alongside GDP, is the jobs data from the Bureau of Labor Statistics. Employment, like GDP, offers a comprehensive measure across the economy, but it has the advantage of being available monthly and with shorter lags. The employment data suggest that the recession may have started in January.

It is certainly possible that it will turn out, in the end, that the economy escaped recession in the first quarter. Even if that is the case, however, it is difficult to be optimistic about the rest of the year. I can’t remember a time when there have been so many worrisome danger signals: depressed household balance sheets, mortgage defaults, high oil prices, low consumer confidence, … . The odds of a recession sometime this year must be rated high.

Fed Chairman Bernanke and Treasury Secretary Paulson have wisely reined in the “happy talk” with which the initial sub-prime mortgage crisis was greeted last year. (Remember “the crisis looks contained”?) If I were Ed Lazear, I would follow their lead.

Payroll employment peaked in December, and according to numbers released today had declined by 260,000 jobs as of April. (Source: BLS.) Since we have not yet seen a single negative number on GDP growth, this job loss is easily the most tangible statistical evidence we have so far that the much-heralded recession indeed may have started in the first quarter of 2008.

It has been noted that the unemployment rate started out from a low level — averaging 4.6 % in 2007 — so that even after a period of gradual increase, it remains relatively low by historical standards: 5.0% in April. This is still inside the range that has usually been considered by politicians as too low to generate serious discontent (and by central bankers as too low to put downward pressure on wages and prices). But why, then, is there so much popular dissatisfaction with the economy?

One answer is the old “discouraged worker” effect. Workers who stop looking for a job are not counted in the labor force, and so are not counted as unemployed. There is an obvious way to capture this phenomenon. Compare employment to the entire population, rather than only to those who are actively in the work force. The chart does that. (These figures include farm jobs, as in the standard BLS employment ratio.)

The path of the employment/population ratio during the current decade has been remarkable. The steep slide in jobs that began with the 2001 recession continued thereafter, and actually accelerated in late 2002. Finally the freefall leveled out. (The Bush Administration trumpeted the turnabout in terms similar to those it now uses to sell the aftermath of the troop surge in Iraq: the response to an unacceptable casualty rate was to make things worse for a half-year, and thereafter to compare the post-surge rate of casualties to the high-point, rather than to the period that came before.)

Employment did indeed rise between the years 2003 and 2007. But it barely stayed ahead of population growth. It did very little to make up for the decline equal to 2-3% of the population that had taken place during the first two years of the Bush Administration. The labor force participation rate normally rises in a boom, as good labor market conditions lure workers out of homes, schools and retirement. This is certainly what happened during the record expansion of 1992-2000. But it did not happen during the most recent expansion. To the contrary, the labor force participation rate was at a minimum in 2007, even though that year appears to have been the peak of the business cycle. As a result, employment as a share of the population was well below what it had been at the preceding business cycle peak year (2000). The fraction of Americans with jobs shows a decline from 64.7% to 62.6%, which translates into 4.9 million missing jobs ! Little wonder that, as employment once again starts to decline even in absolute terms, workers are unhappy.

It is hard to remember now, but mineral and agricultural commodities were considered passé less than ten years ago. Anyone who talked about sectors where the product was as clunky and mundane as copper, corn, and crude petroleum, was considered behind the times. In Alan Greenspan’s phrase, GDP had gotten “lighter;” the economy was becoming weightless, “dematerializing.” Agriculture and mining no longer constituted a large share of the New Economy, and did not matter much in an age dominated by ethereal digital communication, evanescent dotcoms, and externally outsourced services. The Economist magazine in a 1999 cover story forecast that oil might be headed for a price of $5 a barrel.

Since then, of course, we have seen tremendous increases in the prices of most mineral and agricultural commodities, many of them hitting records in nominal and even real terms (see graph). Oil is now well above $100 a barrel, and gold has just crossed the $1000 an ounce line.

The question is why.

There could well be merit to many of the explanations that have been offered for the rise in the price of oil. One is the “peak oil hypothesis,” and another is geopolitical uncertainty in Russia, Nigeria, Venezuela and – above all – the Gulf. Corn prices have been impacted by American subsidies for biofuel. And other special microeconomic factors are relevant in other specific sectors. But it cannot be a coincidence that mineral and agricultural prices have risen virtually across the board. Some macroeconomic explanation is called for.

The popular explanation since 2004 has been rapid growth in the world economy. The strongest growth has of course been coming from China and other recently minted manufacturing powerhouses in Asia, but the expansion has been unusually broad-based – including up to last year the United States and even a reinvigorated Europe. So growth has pushed up demand for energy, minerals, farm products, and other industrial inputs, right?

This reigning explanation now looks suspect. Since last summer the US economy has slowed down noticeably, and is probably entering a recession. Despite talk of decoupling, it is clear that other countries are also slowing down at least to some extent. In its most recent forecast, the IMF World Economic Outlook revised downward the growth rate for virtually every region, including China. The overall global growth rate for 2008 has been marked down by 1.1% (from 5.2 % in July 2007, just before the sub-prime mortgage crisis hit, to 4.1 % as of January 29, 2008). And prospects continue to deteriorate. Yet commodity prices have found their second wind over precisely this period! Up some 25% or more since August 2007, by a number of indices. So much for the growth explanation.

How to explain commodity prices up while the economy turns down? I will offer my answer in my next posting, tomorrow.