A Framework That Provides Clarity

During periods of “low visibility,” confusion reigns: for every indication of one trend, there seems to be a countertrend. The key is to glean from the collective wisdom of reliable leading indicators a clear signal that the economy is headed for a turn.



Scoping Out a Phantom Recession

Economists are immensely influential. More frequently than the practitioners of perhaps any other academic discipline, they are called on for their learned judgments on public policy.

Yet on a public policy question that is central to their field, economists have often been dead wrong. Economists, as a group, have been so bad at forecasting the ups and downs of the business cycle that it’s a wonder they continue trying to forecast at all.

A refreshingly candid blog post by the Federal Reserve Bank of New York in 2011 asked searching questions about “The Failure to Forecast the Great Recession.” Simon Potter, now head of the markets group at the New York Fed, said that most private economists, and the staff of the Federal Reserve, failed to foresee the greatest economic downturn since the 1930s. We now know that the recession started in December 2007 and ended in June 2009. Almost nobody saw it coming.

Presumably, if we’d had some early warning, it might have been possible to take action to forestall the disaster — or at least prepare for it. Governments, corporations, families, universities, pension funds — just about everybody was blindsided. That’s the nasty side of forecasting failure.

There is a lighter side, too. Economists often discern phantom recessions — downturns that never materialize in the real world. One of those hovered in the ether until last month, the recession of 2011 and 2012. Happily, it never happened, and we were all spared a great deal of pain.

But until this month, the Economic Cycle Research Institute — a small Manhattan think tank that once had an unblemished track record in the brutal sport of economic forecasting — was on the record as declaring that this phantom recession actually took place.

In October 2011, Lakshman Achuthan, the institute’s chief operations officer, told me that a recession was imminent, if not already underway. “We’ve entered a vicious cycle, and it’s too late: A recession can’t be averted,” he said at the time. That was a distinctly minority view, but up until that point, the institute had been uncannily accurate for many years.

In 2005, for example, The Economist declared: “ECRI is perhaps the only organization to give advance warning of each of the past three recessions; just as impressive, it has never issued a false alarm.” It correctly forecast the 2007-9 recession, too. So it seemed worthwhile in 2011 to report its warning.

Unfortunately for the institute, if not for everyone else, it was clearly a false alarm. “Mea culpa,” Mr. Achuthan said in an interview last week. “We got that one wrong, and we regret it.”

Why did the institute need nearly four years to own up to the error? It’s taken that long to sift through the data, Mr. Achuthan said. The Bureau of Economic Analysis, a part of the Commerce Department, periodically revises the statistics on gross domestic product for up to five years, and until recently, Mr. Achuthan said, the institute wasn’t certain about the state of the economy in 2011 and 2012. It seemed possible, he said, that revised numbers would show that he was right.

They haven’t, though.

Instead, he has come around to the consensus view, which isn’t much more cheerful. The economic cycle shuddered and growth slowed but didn’t turn down enough to have registered as a recession. (He used the phrase “pronounced, pervasive and persistent” to describe the institute’s recession criteria.)

No one is cheering about the economy. Even without a second recession, the recovery from the last one that did take place has been the weakest since the Great Depression. That’s even after extraordinary efforts by the Federal Reserve to stimulate the economy — and while the Fed has stopped adding to its bond portfolio, it has yet to begin raising short-term interest rates, which remain near zero percent. Fed policy continues, in short, to be highly stimulative.

Despite all that help from monetary policy, for the most part the economy has grown in fits and starts at a very subdued level, and that anemic progress continues: The most current government figures show that the seasonally adjusted G.D.P. grew a mere 0.2 percent, annualized, in the first quarter of this year. The number for the second quarter is expected to be somewhat better, but even so, this has not been an economy to celebrate.

“It’s been about as weak as it could be without falling into recession,” Mr. Achuthan said. “We don’t see a recession on the horizon right now. But growth has been so low that there isn’t much leeway.”

The Federal Reserve and other central banks have certainly contributed to the sharp rise in the value of assets like stocks and real estate since the nadir of 2009, he said, and they have probably also contributed, indirectly, to global economic growth. But it’s quite possible, he said, that we have not fallen into another recession yet mainly because we’ve been “lucky.” There has been no negative oil price shock, for example, unlike in past periods when such shocks precipitated recessions.

He cited a 2003 paper, “Has the Business Cycle Changed and Why?” by the economists James H. Stock of Harvard and Mark W. Watson of Princeton. In the years leading up to the last recession, the Federal Reserve was sometimes credited with having instituted a period known as the Great Moderation, because the business cycle appeared, for a while, to have lost much of its historical severity.

Professors Stock and Watson were skeptical. “Because most of the reduction seems to be due to good luck in the form of smaller economic disturbances, we are left with the unsettling conclusion that the quiescence of the past 15 years could well be a hiatus before a return to more turbulent economic times,” they wrote.

That could be true now, too, Mr. Achuthan said. He isn’t predicting another recession. But he is still forecasting economic weakness, and his track record is still unblemished on that score.


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