Wednesday, February 13, 2019

What is the condition of our economy?

The last quarter of 2018 saw a constant drumbeat of negative “news” that likely contributed to a psychologically induced drop in the stock market.   Headlines like, “Worst December for stocks since 1931 gets worse as rate hikes spook investors” were commonplace.   Social media regurgitated the narratives.    One would have thought the sky was falling despite an abundance of contrary economic performance measures that the economy is strong.
Something is wrong when armchair analysis by novice investors can detect the difference between economic reality and a false perception, but “journalists” cannot or will not.  The American public would do well to guard against watching biased and unreliable television “news” and informing itself (or rather not informing itself) through social media.  The resources are available to make better economic decisions.  The only requirements are time and focus.   The rewards can be significant.  

What is the evidence the economy is strong?

In the 1960s, economist Arthur Okun created the misery index economic indicator.  The misery index is largely the addition of the inflation rate and the unemployment rate.  The lower the number the better the economy.  The Carter Administration holds the title for the worst Misery Index at more than 20 (Inflation over 14% and Unemployment over 7%).  Dwight Eisenhower had the best at only 3.28.   The current misery index under the Trump Administration is 5.9 – the best since Eisenhower in 1952.

Recent release of end of year 2018 and January, 2019 economic data confirm a strong U.S. economy.

Lagging Economic Indicators (Table 1) illustrate how well the U.S. economy is performing.   LAGGING indicators are facts about what has happened in the recent past.  They can help in making some prediction about the immediate future, but straight-line projections of historical trends are dangerous and to be avoided.   In general, look at this table to assess where the economy is right now.

The lagging economic indicators are all positive.   Particularly interesting is the exceptional state of workforce health - and it is continuing to improve.  The unemployment rate is near historically low territory and that includes Black and Hispanic unemployment rates.   Wages, long stagnant, are increasing as the labor market tightens and competition for labor increases.  

A particularly positive statistic is the increase in the Labor Force Participation Rate (LFPR).  The LFPR is a measure of the percentage of Americans 16 and older who are working or looking for work.   That rate is currently at 63.2%.  This is highly significant because it defies what was an accepted inevitability of a downward trend in labor participation.   The Bureau of Labor Statistics (BLS)  had projected a few short years ago that the LFPR would be 62% at present and declining.  Demographic trends (e.g. Baby Boomers leaving the workforce) will prevent dramatic increase to the LFPR, but the fact it is rising, contrary to all predictions, is extraordinary.

The exceptional health of the labor market has many follow-on effects.  The difference between the projection of 62% and an actual LFPR rate of 63.2% represents major change for real people.  More than 3 million people are now experiencing the value of work and accomplishment and earning wages they can spend within the economy.  This is valuable to them personally and to the economy.  Many are no longer dependent on SNAP (aka Food Stamps) or Social Security Disability Income (SSDI) as enrollment in those entitlements continues to decline and that decline has accelerated.

The future will not always be so rosy.   The economy has been expanding for a decade.  The U.S. has an average economic expansion length of about five years followed by a one year recession.   A recession is inevitable – the question is when?   It is prudent to watch for signs of an economic downturn in the direction of the economy if one is to make rational financial decisions.

Leading economic indicators internationally are generally trending negative while exclusively U.S. indicators are more positive, but mixed.  LEADING Economic Indicators – Table 2 illustrates that assessment.

Among the near hysteria last month there were a few valid indicators of potential negative economic impact.  The J.P. Morgan Global Composite PMI reflects a continuing generally downward trend in reports from purchasing managers around the world.  The slowing economies in China, Europe and Canada are a fact.   Also, Apple reported a major slip in the China market that should be a lesson to all international companies operating in China that access to that market will only last until the Communist Party of the People’s Republic of China can steal your intellectual property. 

These are serious issues of concern, but international economic trends are mitigated in the U.S. by the fact that the U.S., unlike China, is largely a domestic economy and that component is very healthy.  Personal consumption expenditures make up 70% of U.S. gross domestic product (GDP).  The strong and improving workforce health in the U.S. is the feed grain of consumption.

The U.S. Manufacturing Index upward trend is another very healthy indicator of continuing positive performance in the economy. 

There are areas of concern in the U.S.  The Consumer Confidence Index decline of 6.6 points in January to about 120 from a peak of about 137 in October, 2018 bears watching.    Though a downward trend is concerning it is important to note that 137 was just a few points below the record of about 140 established at the turn of the century.  An index of 120 is still a very positive outlook.  The Small Business CEO Confidence poll also indicates a downward trend.  

Both Consumer Confidence and the Small Business Confidence reports are based on polls.  These can in part be emotional responses to “news” and social media influence, though much less so for Small Business CEOs than general consumers.

There is a relationship between the confidence of consumers and their willingness to spend their earnings.   Even if more people are working, they will tend to hold their earnings if they are not confident in economic performance.   This can have a negative effect on the economy.
The trend downward in consumer confidence may reflect the same psychological herding observed in December during the financial market decline.   Once again, the constant drumbeat of negative reporting and assessments from many in the media to the exclusion of information about an economy of tremendous strength may be having its way.

The economy can tank if enough American consumers lose confidence regardless of real economic performance.  Their perception, not real economic performance, drives their spending decisions.   Consumer spending represents 70% of U.S. GDP - these consumers hold tremendous sway.  

LEADING economic indicators provide some aid in predicting future trends, however, they are not sacrosanct - disruptive events can alter the future without warning. Consumer perceptions can turn positive.   Trade deals can be struck.  Compromises on immigration and government funding can be reached. The inevitable recession can be pushed further away.

For now, reality is keeping the sky from falling.  A recession will inevitably occur, but a major drop in consumer confidence can accelerate the onset.   Americans should ensure that their sources of information about the economy are reliable and guard against false perceptions that can both hurt them personally and more broadly damage the larger economy.

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