Monday, February 18, 2008

The Sense Of An Ending


“The Sense of an Ending: Studies in the Theory of Fiction” is the title of Frank Kermode’s work of literary criticism. I’d like to borrow that title to frame today’s discussion of where the economy is now.

There’s a tug of war going on between those who say we’re in recession and those who say we’re not. There are vested interests on both sides. People in positions of great authority say, “We’re not,” because they don’t wish to be blamed for recession or risk the chance of initiating a self-fulfilling prophecy. Critics of the higher-ups say, “We are,” because they routinely disagree with the higher-ups and believe the higher-ups rarely get it right.

Of course those are unfair characterizations. Honest people disagree. And in any event, there IS a middle ground that goes beyond fence-sitting: We’re at a turning point, and that turning point has become a long, slow ark. That is, the economy is neither IN or OUT of recession: It’s moving laterally as growth recedes and economic activity slides from expansion into contraction.

Remember when Abby Joseph Cohen compared the American economy to a super-tanker? Our ship was so large and steaming so inexorably northward that it would take a lot of bad news to turn it about and drive it south. Ms. Cohen drew that analogy in order to illustrate the small chance of recession. But if the tanker IS inexorably changing course, then a great turn has begun. We are slowly coming about, as the sailors say, and should not expect, or even look for, a rapid change in direction. Watch instead for signs of lateral motion before the southerly course is set.

Three statistics that gauge the strength of output and production illustrate this point: Capacity Utilization, the Purchasing Managers’ Index and Job Growth.

On February 15 the Federal Reserve released its report on capacity utilization (, and it provides a good place to start.

Capacity utilization presents the current level of industrial activity, measured as a percentage of the maximum. If we can produce 100 tons of stuff a day but generate only 85, then industry is operating at 85% of capacity. The industry operating rate (as capacity utilization is sometimes called) is a moving target because capacity grows over time as industry invests in additional plant and eqipment. In the short run, however, capacity utilization provides a good measure of industrial activity.

You can see in the table below, taken from the Fed’s February 15 report, that capacity utilization was flat in the last quarter of 2007 and remains flat at the start of this year.

Fourth quarter 2007....... 81.1%
October 2007...................81.4%
November 2007.............. 81.5%
December 2007...............81.5%
January 2008..................81.5%

The following chart reinforces that impression. Capacity utilization has stalled, and it has stalled at a relatively low number.

Capacity Utilization

(Click on chart to enlarge)

Recessions shaded

The Institute for Supply Management’s (ISM) Purchasing Managers’ Index (PMI) reinforces that impression. Take a look at the following table, drawn from ISM’s February 1 report:

October 2007...................50.4
November 2007.............. 50.0
December 2007...............48.4
January 2008..................50.7

Any reading over 50 denotes expanding manufacturing activity. Once again, 2007’s last quarter, as well as the first report for 2008, indicates that manufacturing has stalled.

The following chart illustrates the gradual decline over the past few years, culminating with recent months’ flat performance.

Purchasing Managers’ Index

(Click on chart to enlarge)

Recessions shaded

Finally, there’s the Bureau of Labor Statistics’ February 1 employment report: Employment was flat through the last quarter of 2007 and into the beginning of 2008 (numbers in thousands).

...........................................IV 07......Nov 07... Dec 07... Jan 08
Nonfarm employment.......p138,044 138,037p138,119p138,102

The chart below illustrates how the job-growth data mirror the production data: Weakening performance, until the recent numbers are devoid of improvement.

Job Growth

(Click on chart to enlarge)

Recessions shaded

To Recap: None of these data by themselves point to recession, nor do all combined irrevocably confirm recession. But the gradual erosion is clear, so that a continuation of the trend points to a reduction in activity. Isn’t that what a turning point is all about?

There seems to be a sense of an ending.

(The charts are taken from [Click on Seminars and then Charts.] Go there for additional charts on the economy and a list of Economic Indicators.)

© 2008 Michael B. Lehmann

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