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January 19, 2005

Markets & Data Suggest That US Econ Recovery Is ARTIFICIAL
by Jas Jain

By data we mean Employment and Income, two most important barometers of REAL (as in "for real" and not inflation-adjusted) growth in the economy. And by ARTIFICIAL we mean propped up, or fake, or as in a boob-job to make it look attractive.

Abstract: We show that the behavior of the stock market suggests the current recovery to be the worst in 134 years, maybe worst on record. Also, keeping in mind that the past four years have seen one of the largest stimuli, from Federal govt. and the Federal Reserve combined, and yet we have the worst Employment growth since 1932 and no Income growth. Excluding the second Clinton term, 1997-2000, when the stock market bubble led economic activity gave rise to significant Employment and Income gains, the per capita real income gains for the past 16 years have been nil. Excluding the stock market bubble period and two periods of extraordinary stimuli there has been no REAL growth in the US economy for 25 years. This leads to the question: How long can an economy addicted to govt. stimuli and private bubbles grow at all in their absence? We conclude from the data that the US economy is too sick (from the OD of stimuli and bubbles!) to sustain growth on its own, i.e., there cannot be any self-sustaining growth until all the ills of bubbles and effects of stimuli are washed out, or the US body-economic is detoxified.

Economists and Markets As Predictors of the Economy

Economists, as a group, never predict a recession ahead of time. Most, don't predict a recession even when the economy has entered the recession. Economists only identify recessions after the fact; while they predict recoveries and growth all the time. Markets, especially, the stock market, rarely miss recessions or recoveries; though they do over predict. Stock market bubbles are the best examples of over prediction of the intensity and sustainability of the growth! But, they also have some false alarms, i.e., a significant decline that is not followed by a recession and a rally that is not followed by a sustained growth. "Stock market predicted 9 of the 5 recessions," to quote Prof. Samuelson, but economists missed all the five!

Worst Employment Since 1932

Before we proceed to what the markets are saying about the current recovery, let us review the latest economic data. With the release of the latest Nonfarm Payroll Employment, we now have the number of jobs LOST, 175,000, during the 4-year Presidential term, 2001-2004. This is the first loss during a single Presidential term since 1929-1932, by far the worst 4-year period in the US history, certainly since the Civil War. The only other 4-year period, not comprising a Presidential term, during which jobs were lost contained two recessions, the Double-Dip recessions of 1980-1982, the worst period of deep recession since the Great Depression.

One of the Largest Stimuli

The fiscal stimulus results from growth of the Federal Debt and monetary stimulus is intended to facilitate increase in private debt. Thus, the best measure of stimulus is growth in debt. Almost the entire fiscal stimulus is intended to result in increased consumption. The part of monetary stimulus that goes to increase in Household Debt also is intended to increase consumption. Our focus, thus, is on stimulus that results in increased consumption. Increased consumption debt, unlike Investment Debt, leads to no benefits for the future; it is all for here-and-now, i.e., a short-term prop. And a future drag!

The largest stimulus, fiscal and, or, monetary, as a % of the GDP, over a 4-year period since 1929, took place during the WW II, 1942-1945, which resulted in a 20% gain in employment. Next to the WW II, the three periods with the largest, and comparable, stimuli are 1933-36, 1983-86 and 2001-2004. 1933 was the worst year of Great Depression and there were many programs to create employment during 1933-36 under FDR and I presume that there was growth in Employment during those 4 years. The fiscal stimulus of 1983-86, the Reagan tax cuts and defense spending, created 12 million jobs, a growth of 13% in employment. 2001-4 IS THE FIRST TIME IN HISTORY FOR WHICH WE HAVE DATA DURING WHICH JOBS WERE LOST DESPITE ONE OF THE LARGEST STIMULI IN HISTORY. But for the stimulus we would have lost somewhere between 10-20 million jobs over the 4-year period (the upper figure is lot harder to estimate than the lower figure and could be quite a bit larger due to the snowball effect).

Poor Income Growth, If Any

Per capita real income growth during 2001-04 (data as of 2004Q3) is 0.06% a year, i.e., nil.

Like Father Like Son?

Before I get accused of partisanship I was a registered Republican (now I am an Independent) and voted for Bush in 2000. Per capita real Income gain during Bush I, 1989-1992, was -0.46% per year, i.e., there was a loss in Income.

Longer Perspective on Employment and Income

Poor per capita Income growth goes hand-in-hand with poor employment growth. The second worst record for Employment during a single Presidential term, since 1961, goes to Bush I. But, there was small employment gain during 1989-92. Unlike the son, the father did not serve stimulus like a drunken sailor in his bid for re-election. He committed political hara-kiri by raising taxes to reign down the large budget deficits, i.e., he closed down the bar. And he paid the price. The son learned from father's "mistake."

During the first Clinton term, the per capita real Income growth was 0.83% per year. All in all, excluding the stock market bubble driven Employment and Income growth during the second Clinton term, 1997-2000, there has been no gains in real per capita Income for the past 16 years. In the absence of bubbles, it seems, from the Employment and Income data, that there is no fuel for self-sustaining growth in the US economy.

There has been a sea change in income growth between the first 25 years from 1950 and the last 25 years, with average per capita income growth of 3% during 1950-74 and mere 1% during the 1980-2004. All of this 1% growth, and more, was bought with two huge stimuli, the largest since the WW II, and two largest bubbles.

As I have indicated in my previous paper on Debt, the ever-increasing consumption debt has been necessary to keep up growth in the living standards of Americans and to keep the US economy out of a depression far worse than the recent Japanese depression, which may not be over yet. Depression delayed is not depression defeated. The beast is simply getting bigger and uglier.

Stock Market Performance During Recoveries Since 1871

I have used the historical stock market data provided by Prof Shiller that begins in 1871, which is a reconstruction of S&P 500 equivalent based on available data on public corporations. The recent S&P 500 data is from S&P. I have also used the S&P 500 as the proxy for the US stock market. I believe that a similar conclusion would be reached if one used the Dow, or total market, and went little farther in time. The data for recession dating is from National Bureau of Economic Research (NBER). The stock market has a lead-time of average six months, historically, in predicting the economy, especially the turning points. Our focus is on the turning point from a recession to a recovery that encompasses the last six months of the recession and the first 12 months of the recovery to get a measure of the quality and sustainability of the recovery.

With rare exceptions, the stock market high during the last 6 months of the a recession, termed Recession High, is exceeded, both in nominal (current dollars) and real (inflation-adjusted) terms, within the first 12 months of a recovery, termed Recovery High; mostly the Recession High is exceeded within the first three months of the recovery. Similarly, the stock market low during the last 6 months of the a recession, termed Recession Low, is NOT broken, on the down side, both in nominal and real terms, for the first 12 months of the recovery, termed Recovery Low; mostly, the Recession Low is not broken until the next recession, or future recessions, if at all.

Stock Market During the Latest Recession and the Current Recovery

The last recession was dated from April 2001 to November 2001. The Recession High of 1316 was reached in May 2001 and the high of 1217, thus far since the recovery began, was in December of 2004, i.e., THE HIGH DURING THE LAST SIX MONTHS OF THE RECESSION HAS NOT BEEN EXCEEDED EVEN AFTER 37 MONTHS OF THE RECOVERY. During the first 12 months of the recovery, both the nominal AND real highs were more than 10% below the high during the last 6 months of the recession. This has NEVER happened for the past 134 years.

The low of 945, during the last six months of the recession, was reach in September 2001 (it must be noted that the stock market was declining before 9:11 and the economy recovered soon after 9:11). A new low of 789 was reach during the first 12 months of the recovery in October 2002, down 18.6% from the Recession Low (in real terms the low was 20% lower), i.e., a double-digit loss. This has NEVER happened for the past 134 years.

Stock Market During Turning Points In Prior 27 Recessions and Recoveries

The average gain from Recession High to Recovery High was 19.6% in nominal terms and 17.9% in real terms. The average gain from Recession Low to Recovery Low was 11.3% in nominal terms and 12.1% in real terms. Please note that we are not comparing the Recovery High to the Recession Low, which would be much higher than the gains reported above. Higher highs and higher lows, to use technical analysis jargon, are a norm during the early months of a recovery in the economy.

In 23 of the 27 cases, the Recovery High was higher than the Recession High, both in nominal AND real terms, AND Recovery Low was higher than the Recession Low, both in nominal AND real terms. The 4 remaining cases were all prior to 1920.

In 27 of the 27 cases, i.e., in all cases, the Recovery High was higher than the Recession High either in nominal OR real terms AND Recovery Low was higher than the Recession Low either in nominal OR real terms. Also, IN ALL CASES RECOVERY HIGH WAS HIGHER THAN THE RECESSION HIGH IN NOMINAL TERMS

There were two cases where the Recovery High was lower than the Recession High in real terms by 4.1% and 7.1%. There were two cases where the Recovery Low was lower than the Recession Low in nominal terms by 1.4% and 3.0%. There was one case where the Recovery Low was lower than the Recession Low in real terms by 7.4%. Of these 5 exceptions, accounting for 4 cases, two occurred during a single turning point in 1894 and the recovery lasted only for 18 months. For two of the remaining three cases, the recoveries lasted only for 10 and 12 months, i.e., they were Double-Dip recessions. The last of the exceptions had a recovery that lasted 27 months. All in all, there is no case of double-digit decline in stock market high, or low, in nominal or real terms, during a recovery and poor stock market performance during a recovery is indicative of very weak, or short-lived, recovery, or a non-recovery that is waiting to get into the Double-Dip.

One may argue that we had a stock market bubble, preceding the last recession, which distorts the comparisons. Well, we have had stock market bubbles before in the past 134 years, including the bubble of 1920s. Stock market did predict the recessions and recoveries during the Great Depression. What if the current recovery is due to a much bigger bubble, in terms of its impact on the economy - Housing Bubble? And if the last stock market bubble was the worst in history, why can't we have the Housing Bubble that is worst in history? After all, we have the same players! Also, why can't we have the worst depression when both the stock market bubble and the Housing Bubble fully burst?

How About The Bond market?

The rates during the recovery are LOWER than during the recession. The current rate is lower than at any time during the recession. If anything, the inflation is higher now. So, what else does it mean other than expectations of a much weaker economy going forward? Also, the "deflation scare" took place 18 months after the beginning of the recovery and not during the recession. The "deflation scare" might have been postponed but it has not been eliminated. Actually, it has been greatly enhanced by overburdening the consumer and, thereby, hurting the future consumption, or demand.

Conclusions

The stock market performance during the current economic recovery is the worst on record, at least for the past 134 years and most likely worst ever. Poor stock market performance during a recovery has been indicative of poor or short-lived recoveries. The stock market fully supports the Employment and Income data that make the current recovery one of the worst, if not the worst, in history. What makes the current situation unique is that the poor performance is despite one of the largest stimuli since 1929 and a resulting Housing Bubble. At some point the stimulus must end, as the Fed is already in the process of "removing accommodation" and Bush wants to cut the deficit in half, and bubble must burst, even if slowly. And at that point the economy will slide into a recession naturally and into a depression because of the burden of Household Debt, which will cause massive mortgage defaults and personal bankruptcies.

Presently, the US economy does not have conditions that are necessary for a self-sustaining economic recovery. Off-and-on this has been the case for some 25 years. If we could have the worst stock market bubble in history, as we did during 1997-2000, why can't we be in the worst Housing Bubble in history and in for the worst depression in history once all the bubbles are burst and stimuli must end of necessity? I conclude from the historical data that we will have the worst depression in the US history once the ARTIFICIAL economy can no longer be supported, as all "good things" must come to an end.

Jas Jain, Ph.D.
the Prophet of Doom and Gloom

Copyright © 2004-2007 Jas Jain

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