Listen to the Slowing US Economy, Hear Echoes of Japan

By Editor, Fabius Maximus, a multi-author website with a focus on geopolitics. This article originally appeared here.

Now in its sixth year, this sorry excuse for an expansion is ready to boom — accelerating to “escape velocity” — according to many economists. Or perhaps the boom grows old, even sclerotic, so we should start watching for the next recession. The consensus of economists never sees a recession until after it begins, so we’ll have to find other ways to look ahead.

This post describes one such way: the economy slowing to its “stall speed.” This alarm might be flashing yellow, or even red, now.

Echoes of Japan

Economic Cycle Research Institute (ECRI), 22 September 2014 — Opening:

In 2011 the Fed published a study aimed at identifying “particular values for output growth and other variables, such that when these values are reached during an expansion, the economy has tended to move into a recession within a fairly short time span.”

The study concluded that Gross Domestic Income (GDI) – which, while income-based, is theoretically identical to Gross Domestic Product (GDP) – “provides a better measure of output growth than GDP,” and identified a two-quarter annualized real GDI growth rate of 2% to be the “stall speed” threshold.

… this GDI growth measure (see chart) has now stayed below the 2% “stall speed” threshold for three straight quarters starting in Q4 2013, which is much longer than the duration of the harsh winter weather. …

Real GDI crashed below 2% SAAR in Q2 2006. Before this cycle, since 1947 real GDI had fallen below 2% only once in a period not associated with a recession – in Q1 1993. Real GDI is now below 2% YoY. For the past 3 quarters (and 4 of past 5 quarters) it’s been below 2% SAAR on a QoQ basis.

What is stall speed?

The concept of a “stall speed” is that the economy slows in the year before falling into a recession, and there is a critical speed below which the economy is likely to fall into recession.

The idea of a “stall speed” became known after a 2011 Fed paper by Jeremy J. Nalewaik, who showed that it predicted recessions better than other methods — and better than the Blue Chip Economists’ Forecast. It appears seldom in Fed research after several other articles in 2011, such as these by the Cleveland Fed and the Atlanta Fed.

On the other hand, several studies have been skeptical about the concept, such as this 2012 BIS working paper which questioned even the aeronautical analogy.

… perhaps the slowing economy is like a gliding aircraft. There is insufficient power for the aircraft to overcome the force of gravity, but the wings are experiencing normal lift and flight control is not compromised. There is no fundamental change in underlying economic relationships in the economy as the growth rate falls. Maybe it takes time for a change in pilot inputs, in the form of fiscal policy and monetary policy, to influence the speed of the aircraft, so that the inevitable shocks to the flight path see the aircraft’s altitude decrease before rising again, creating the business cycle.

But no matter whether or not the economy has a “stall speed,” we’re growing slower than we should. Unless something changes, we look more like Japan with each passing year (see section 4 for details). This chart of quarterly GDP is our sorry excuse for an expansion (growth of 2% per year is slightly under 0.5% per quarter):

Real Gross Domestic Income

Look to our past to see what strong cycles look like, with growth of 1% – 1.5% per quarter during the expansion. This is what America has done, and can do again:

Real Gross Domestic Income

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One reason we can’t grow

There are many factors at work, such as an aging and more slowly growing population, cancer-like expansion of the financial sector, and increasingly bureaucratic (even dysfunctional) sciences (described in this post). Here’s a technical analysis of the problem: “Potential Output and Total Factor Productivity since 2000,” Brad DeLong, Washington Center for Equitable Growth, 22 September 2014.

But one might play a large and under-appreciated role: the discovery by corporate senior executives that it pays better to strip-mine their corporations than build them. Cut R&D and capex, borrow, then blow the money buying back the company’s stock (watch your stock and options grow). And slowly, this phenomenon is getting the attention such a serious problem deserves. By Editor, Fabius Maximus

So America might start a downturn from a position of weakness unique since WW2. Read… Things Worse than Slow Growth Await the US Economy

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  3 comments for “Listen to the Slowing US Economy, Hear Echoes of Japan

  1. Sep 24, 2014 at 6:53 pm

    The reason the economies are slowing is because petroleum prices are still five times what they were in 1999. This has nothing to do with the worth of money, rather it has to do with the real cost of gaining fuel to replace what we have destroyed so fecklessly.

    Meanwhile, fuel prices are too low to allow drillers to survive without endless rounds of borrowing from their own lenders! The outcome here is bankruptcy for drillers and diminished petroleum supplies = generalized ruin and decline of credit provision. The EU is like Japan; it must import every barrel of crude- and crude-like substances and do so with increasingly faulty credit. The only reason the petroleum exporters accept the credit is because it is more costly for them not to do so … to let the auto/petroleum dream die. Just looking at credit; the spread between the two costs — of accepting bad loans or not accepting them — is narrowing fast.

    Meanwhile, the US presses desperately … to waste more, faster. The citizens are too broke to play along. Without US customers — and dollar credit — China is unraveling quickly. Believe it or not, there is little any of the central banks can do: real interest rates are already negative, liquidity traps are everywhere. One way or another conservation is underway, despite our most strenuous efforts: the iron grip of thermodynamics fastens upon the free-lunch fantasies of economists everywhere.

  2. Michael Gorback
    Sep 25, 2014 at 8:33 am

    >> So America might start a downturn from a position of weakness unique since WW2.

    And it looks like we’re addressing it the same way, with a proxy WW3.

  3. LG
    Sep 25, 2014 at 12:22 pm

    Well let me give you my take on the economy. I own a business for 17 years now. My profits are down 20-30% since 07.
    I cut lot of my overhead but inflation and the cost of owning and running a business has gone up 15 or so %. If you do the math
    I’m still in 2007. My profitability stalled in 2007.
    So did most American small business, if they made it to 2014.

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