Stocks continue downward.. China is struggling… Commodity exporting countries are in trouble… industrial production is projected to be weak in September as it was in August… Could the US economy be forming a recession?
First, I have had the opinion that there are hidden weaknesses in the economy partly due to the strange monetary policy since the last recession. Some marginally-profitable firms were nurtured along by the banking system and policies. Also investment in productive activities has been weak. Productivity is stagnant. Labor income is not rising with strength.
I sense that hidden weaknesses are coming into the light, because of the struggles in China, Brazil and the oil industry… and now we can add the auto industry. (Let me note that the struggles in China should allow for more investment to come back to the US and for labor share to start rising again… a view I share with Noah Smith. So the stock market troubles could be short-term effects before the benefits appear in the US. Yet, a recession may have to come first.)
In my view, the economy hit the effective demand limit last year. As seen in the following graph where the plot reached zero.
Angry Bear’s own Steve Roth once rightly commented that after the economy hits the effective demand limit, it can jiggle and jog thereabouts for many quarters before a recession starts. (I do not have the direct link to where he said that, but I remember.) And we are seeing this jiggling and jogging again over the past year. The graph is showing us that the economy hit its natural effective demand limit and would be in this process of jiggling around trying to keep going.
I was thinking that the economy might bounce twice upon the limit like it did before the last two recessions. But maybe not so this time… Maybe the economy will head straight for a recession after hitting just once on the effective demand limit.
So is a recession currently forming in the US economy? I have my yellow flag up. I want to see numbers from the 3rd quarter and then I want to see some numbers for October, like capacity utilization. But hidden weaknesses of the economy seem to be coming into the light. And I know that Bill McBride from Calculated Risk has shades on because he sees a bright future ahead. The hidden weaknesses in the economy may need those shades as they come out into the light from the hidden shadows.
The St. Louis Fed Financial Stress Index over at FRED (link) jumped up in the last month showing an increase in financial stress.