Recovery—or Recession? Economists Debate

Continuing recovery or a new downturn? Economists debate
Applicants wait to enter a job fair in New York City Photograph by John Moore/Getty Images

The thing about a recession is that you typically don’t know you’re in one until it’s been around for a while. Broadly defined, an economy is in recession not just when it’s operating below capacity, but when it’s outright shrinking. Exactly what constitutes that shrinkage, though, can be fuzzy. The most cited rule of thumb, two consecutive quarters of declining output, doesn’t always apply. Gross domestic product is often positive when a recession starts. That’s why recoveries sometimes don’t feel much different than recessions.

“This is the most bizarre business cycle I’ve ever seen,” says David Rosenberg, chief economist at Gluskin Sheff & Associates, who thinks the U.S. is “uncomfortably close” to a recession. The question Rosenberg and some other economists are now asking is not if the U.S. will dip back into recession, but when. Or whether it already has.

After a promising start to the year, economic activity has faded considerably. Job growth is down. Growth forecasts have been pared back. And manufacturing, a bright spot in an otherwise meager recovery, has weakened. “I believe the economy is in a recession already,” says Lakshman Achuthan, co-founder of the Economic Cycle Research Institute. A poll conducted by the Washington Post in April found that 76 percent of Americans still believed the U.S. was in recession, even though the economy has been growing since June 2009. Achuthan sees plenty of evidence showing the economy is shrinking. A few data points that back up his assertion:

Declining consumption. June marked the third consecutive month of falling retail sales, the first time that’s happened since 2008. Household consumption still accounts for roughly 70 percent of U.S. economic activity. Consumers have spent much of the past three years working off the huge amounts of debt they took on during the boom years, so their spending has been sporadic, and they still have a long way to go toward deleveraging. The U.S. household debt-to-income ratio is still 114 percent, down from 133 percent at its peak. Until that comes down, consumer spending is likely to be depressed.

Factory output is slumping. The manufacturing index of the Institute for Supply Management dipped in June to 49.7. Any figure below 50 means the sector is shrinking. It was the first sub-50 reading in nearly three years.

Consumers remain gloomy. Despite an upward blip earlier this year, Bloomberg’s weekly Consumer Comfort Index is still around levels seen early in the recession that ended in June 2009.

Although most economists scoff at Achuthan’s early recession call, they’re not exactly countering it with optimism. Joseph LaVorgna, chief U.S. economist at Deutsche Bank, recently revised down his GDP forecast for the second quarter by a full percentage point to 1.4 percent. On July 13, LaVorgna told Bloomberg Businessweek that he was worried his revision wasn’t low enough. Two days later he pushed it down to 1 percent. Goldman Sachs Chief Economist Jan Hatzius, only slightly less bearish, has revised his second-quarter estimate to 1.1 percent. On July 16 bond king Bill Gross of Pimco tweeted that the U.S. is “approaching recession.”

Still, there are reasons to believe we’re not there yet:

The housing sector is healing. More than six years after the bubble burst, home prices appear to have bottomed for real this time. The S&P/Case-Shiller Home Price Index showed that average home prices rose 1.3 percent in April, ending seven consecutive months of declines. A lot of the vacant and unsold homes that were weighing on the market have been bought up over the past year, fueling fresh construction. Housing starts in June were at their highest level since October 2008.

Consumers are getting some relief at the pump. The national average price for a gallon of gasoline has fallen more than 50¢ since April. It typically takes a while for those savings to flow through the economy, but it should add some room for consumers to spend a bit more this summer.

Pay is up. Though incomes have stagnated through the recovery, the most recent jobs report showed that not only did employees work longer hours in June, but wages also grew. Over the last 12 months, average hourly earnings for private-sector employees grew 2 percent.

None of this adds up to anything resembling a robust recovery. The median forecast of economists surveyed by Bloomberg is for GDP to grow only 2.2 percent through the rest of the year. Many see a rising risk of recession striking within 12 months, particularly with the “fiscal cliff” of tax hikes and spending cuts set to take effect on Jan. 1, 2013. Federal Reserve Chairman Ben Bernanke says unless Congress acts to avoid the cliff, a “shallow recession” could result.

Ironically, the slow pace of the recovery could help stave off a recession. Although the economy remains vulnerable to external shocks, like the euro’s collapse or a sharp slowdown in China, growth’s been so weak that the U.S. doesn’t have the sorts of internal imbalances that tend to bring on recessions, like an overheated housing sector or high inflation. “Things are so lean and mean, there aren’t a lot of excesses that need to be reduced,” says Julia Coronado, chief economist at BNP Paribas. “In a way, that’s insulated us” from a deeper downturn. So look on the bright side: If a recession does hit, it might not be so bad.

— With assistance by Peter Coy

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