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An Optimist's Optimist On The Economy
Wednesday, January 18 2012 | 04:17 PM
|If you’re looking for a cheerleader on the outlook for the U.S. economy, Ed Yardeni’s your man. "The US economy may be on the verge of a big comeback," this economist and founder of Yardeni Research predicts. "It could experience an unusual second recovery over the next three years following the weak initial recovery of the past three years. In the past, recessions were followed by one broad-based recovery in economic activity. The Naysayers have been predicting a 'double dip' recession for the US economy since it started to recover in 2009. I’m suggesting that a more likely scenario might be a double back-to-back recovery."
The foundation for his optimism is an expectation that employment growth will accelerate. He reasons that the rebound in corporate profits since the Great Recession ended has been "unusually strong" and that "profitable companies expand." As everyone knows, of course, companies have been reluctant to hire. "That could change now that they don't have as much room to expand by stretching the workweek and boosting productivity." In sum, Yardeni thinks that the pace of hiring will improve in the coming months.
The statistical evidence that his forecast is on track will find confirmation in initial jobless claims in the year ahead. He sees new weekly filings for jobless benefits dropping to around 300,000 over the next 12 to 18 months, down sharply from the latest four-week average of 381,750 through January 7.
If Yardeni's outlook is accurate, we should also see a convincing increase in consumer confidence. In fact, that's already underway, he points out. "In this scenario, consumer spending would grow at a faster clip, leading the second recovery," he opines. "It too has been subpar so far compared to the previous seven cyclical upturns."
One potential wrench in this machine is the recent weakness in the growth of personal disposable income (DPI), as I discussed last month. If the consumer is set to up his game on spending, eventually we'll see more encouraging numbers on DPI. For now, however, the jury's still out. Meantime, there are several influential analysts warning that the business cycle will turn darker before we see the dawn.
But perhaps the revival in consumer confidence of late heralds better days and so the recession forecasts are in need of an update. The latest reading on consumer sentiment reflects the highest reading in eight months with January's pop. Consumer Reports also notes that its benchmark on sentiment is looking up these days too. Yardeni puts the resurgence in consumer sentiment into historical perspective with this graph:
Should we take the rebound in consumer confidence surveys seriously for evaluating the business cycle? Yes, according to a 2011 study from the European Central Bank ("Consumer Confidence as a Predictor of Consumption Spending: Evidence for the United States and the Euro Area"):
Overall, the results show that the consumer confidence index can be in certain circumstances a good predictor of consumption. In particular, out-of-sample evidence shows that the contribution of confidence in explaining consumption expenditures increases when household survey indicators feature large changes, so that confidence indicators can have some increasing predictive power during such episodes.
But like everything else in macro, there's always room for doubt. "The idea that changes in consumer and business confidence can be important business cycle drivers is an old but controversial idea in macroeconomics," Sylvain Leduc, a researcher at the San Francisco Fed, reminds.
The role of confidence as a source of business cycle fluctuations remains controversial partly because it is difficult to measure its importance empirically. Clearly, confidence reacts to a host of economic developments. Identifying a causal link between confidence and economic performance is therefore challenging. Is confidence higher because the economy is booming or vice versa?
Nonetheless, it's premature to dismiss the link between consumer sentiment and economic activity. "Recent empirical work indicates that these sentiments contribute significantly to economic ups and downs," Leduc concludes.
By that standard, the latest rise in consumer confidence is encouraging, if only marginally. If there's a crack in this source of optimism, Yardeni writes, we'll likely see signs of trouble with rising jobless claims data in the weeks and months ahead. For the moment, the claims numbers still look good, although the latest report was a bit shaky.
Was that just the usual short-term volatility? Yes, according to the consensus forecast for the next update. New jobless claims are expected to fall slightly in this Thursday's release, according to Briefing.com. And not a moment too soon, assuming the prediction holds. With last week's claims total at just under the psychologically perilous 400,000 mark, the margin for optimism is uncomfortably tight at the moment for this series.
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