Courtesy of Doug Short.
The Weekly Leading Index (WLI) of the Economic Cycle Research Institute (ECRI) is at 134.9, down slightly from the previous week’s 135.6. The WLI annualized growth indicator (WLIg) is at 2.0, down slightly from the previous week’s 2.1.
ECRI has been at the center of a prolonged controversy since publicizing its recession call on September 30, 2011. The company had made the announcement to its private clients on September 21st. ECRI’s cofounder and spokesman, Lakshman Achuthan, subsequently forecast that the recession would begin in Q1 2012, or Q2 at the latest. He later identified mid-2012 as the start of the recession. Over the past two years he has been a frequent guest on the likes of CNBC and Bloomberg TV. In recent months he has adjusted the company’s position, identifying the recession’s “epicenter” as the half-year spanning Q4 2012 and Q1 2013.
Japan’s 4th Recession Since 2008: Why Should We Care?
On Wednesday, September 10th, Lakshman Achuthan appeared on Wall Street Journal Live, where he stated that Japan is on track for another recession. He included comments about what that means for Europe and the United States. A video clip is available here at the ECRI website. In a separate ECRI commentary, Abenomics Failing, Achuthan expands on his WSJ Live interview perspective. He argues that “the situation in the U.S. is not qualitatively different from those in the other major economies.” He concludes with the following observations about central bank strategies:
|That is why Fed Chairman Janet Yellen now admits the possibility that the economy is suffering from some form of “secular stagnation,” where “a negative shock could push economies against the zero lower bound,” and acknowledges that “we will have to worry about these episodes more often.” Prominent central bankers like her and Mr. Draghi have begun to recognize this reality, which is why a version of Abenomics is now on the table in the Eurozone. But, if Abenomics is already failing, it may deal a serious conceptual blow to the mainstream policy narrative that Abenomics (or Draghinomics) is the answer to “secular stagnation,” potentially opening the door to more radical prescriptions.|
The full commentary is definitely worth a close read.
The ECRI Indicator Year-over-Year
Below is a chart of ECRI’s data that illustrates why the company’s published proprietary indicator has lost credibility as a recession indicator. It’s the smoothed year-over-year percent change since 2000 of their weekly leading index. I’ve highlighted the 2011 date of ECRI’s original recession call and the hypothetical July 2012 business cycle peak, which the company previously claimed was the start of a recession. I’ve update the chart to include the “epicenter” (Achuthan’s terminology) of the hypothetical recession.
As for the disconnect between the stock market and the mid-2012 recession start date, Achuthan has repeatedly pointed out that the market can rise during recessions. See for example the 2:05 minute point in the November 4th video. The next chart gives us a visualization of the S&P 500 during the nine recessions since the S&P 500 was initiated in 1957. I’ve included a dotted line to show how the index has performed since ERIC’s original July 2012 recession start date (now adjusted forward by three months).
Here are two notable developments since ECRI’s public recession call on September 30, 2011:
- The S&P 500 is up 68.5% at yesterday’s close, a bit off its 72.4% record high on September 18th.
- The unemployment rate has dropped from 9.0% to 6.1%.
Crushed by the Fed
ECRI’s recession forecast was doomed from the very day (September 21, 2011) that company alerted its private clients. On that same day the Fed announced Operation Twist, which was shortly thereafter followed by QE3.
Eventually we will have another recession. But the aggressive monetary policy of the Fed appears to have dodged the recession bullet in ECRI’s timeframe, regardless of the asset bubbles it may have created in doing so.
For alternatives to ECRI’s recession forecasting, see method developed by Anton and Georg Vrba:
Appendix: A Closer Look at the ECRI Index
Despite the increasing irrelevance of the ECRI’s recession indicators in recent years, let’s check them out. The first chart below shows the history of the Weekly Leading Index and highlights its current level.
For a better understanding of the relationship of the WLI level to recessions, the next chart shows the data series in terms of the percent off the previous peak. In other words, a new weekly high registers at 100%, with subsequent declines plotted accordingly.
As the chart above illustrates, only once has a recession ended without the index level achieving a new high — the two recessions, commonly referred to as a “double-dip,” in the early 1980s. Our current level is still off the most recent high, which was set back in June of 2007. We’ve exceeded the previously longest stretch between highs, which was from February 1973 to April 1978. But the index level rose steadily from the trough at the end of the 1973-1975 recession to reach its new high in 1978. The pattern in ECRI’s indictor is quite different, and this has no doubt been a key factor in their business cycle analysis.
The WLIg Metric
The best known of ECRI’s indexes is their growth calculation on the WLI. For a close look at this index in recent months, here’s a snapshot of the data since 2000.
Now let’s step back and examine the complete series available to the public, which dates from 1967. ECRI’s WLIg metric has had a respectable record for forecasting recessions and rebounds therefrom. The next chart shows the correlation between the WLI, GDP and recessions.
The History of ECRI’s Latest Recession Call
ECRI’s weekly leading index has become a major focus and source of controversy ever since September 30, 2011, when ECRI publicly announced that the U.S. is tipping into a recession, a call the Institute had announced to its private clients on September 21st. Here is an excerpt from the announcement:
| Early last week, ECRI notified clients that the U.S. economy is indeed tipping into a new recession. And there’s nothing that policy makers can do to head it off.
ECRI’s recession call isn’t based on just one or two leading indexes, but on dozens of specialized leading indexes, including the U.S. Long Leading Index, which was the first to turn down — before the Arab Spring and Japanese earthquake — to be followed by downturns in the Weekly Leading Index and other shorter-leading indexes. In fact, the most reliable forward-looking indicators are now collectively behaving as they did on the cusp of full-blown recessions, not “soft landings.” (Read the report here.)
Year-over-Year Growth in the WLI
Triggered by another ECRI commentary, Why Our Recession Call Stands, I now include a snapshot of the year-over-year growth of the WLI rather than ECRI’s previously favored method of calculating the WLIg series from the underlying WLI (see the endnote below). Specifically the chart immediately below is the year-over-year change in the 4-week moving average of the WLI. The red dots highlight the YoY value for the month when recessions began.
The WLI YoY is now at 2.3%, which is higher than the onset of six of the seven recessions in the chart timeframe, although well off its 7.5% interim high set in mid-June of last year. The second half of the early 1980s double dip, which was to some extent an engineered recession to break the back of inflation, is a conspicuous outlier in this series, and it started at a WLI YoY of 4.1%.
Additional Sources for Recession Forecasts
Dwaine van Vuuren, CEO of RecessionAlert.com, and his collaborators, including Georg Vrba and Franz Lischka, have developed a powerful recession forecasting methodology that shows promise of making forecasts with fewer false positives, which I take to include excessively long lead times, such as ECRI’s September 2011 recession call.
Here is today’s update of Georg Vrba’s analysis, which is explained in more detail in this article.
Earlier Video Chronology of ECRI’s Recession Call
- September 30, 2011 : Recession Is “Inescapable” (link)
- September 30, 2011 : Tipping into a New Recession (link)
- February 24, 2012 : GDP Data Signals U.S. Recession (link)
- May 9, 2012 : Renewed U.S. Recession Call (link)
- July 10, 2012 : “We’re in Recession Already” (link)
- September 13, 2012 : “U.S. Economy Is in a Recession” (link)
Note: How to Calculate the Growth series from the Weekly Leading Index
ECRI’s weekly Excel spreadsheet includes the WLI and the Growth series, but the latter is a series of values without the underlying calculations. After a collaborative effort by Franz Lischka, Georg Vrba, Dwaine van Vuuren and Kishor Bhatia to model the calculation, Georg discovered the actual formula in a 1999 article published by Anirvan Banerji, the Chief Research Officer at ECRI: ” The three Ps: simple tools for monitoring economic cycles – pronounced, pervasive and persistent economic indicators.”
Here is the formula:
“MA1″ = 4 week moving average of the WLI
“MA2″ = moving average of MA1 over the preceding 52 weeks
WLIg = [m*(MA1/MA2)^n] – m