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Recession Brewing? U.S. Growth Continues to Soften

  • By Jason Schenker
  • Published: 12/16/2015
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downturn1The outlook for U.S. economic growth in 2016 and 2017 softened in the second half of 2015. Further out, another recession appears likely.

In the second half of 2015, industrial production and retail sales ex-autos experienced sharp decelerations in year-over-year growth to the slowest paces since the Great Recession, while the forward-looking Institute for Supply Management’s ISM manufacturing index conveyed that manufacturing slowed almost to a standstill. The ISM manufacturing index is particularly important, because it is a leading indicator of GDP, and the U.S. manufacturing sector leads the service sector.

As such, even though the U.S. service sector was very strong through the second half of 2015, it could slow if manufacturing remains weak. In light of the strong dollar, weak commodity prices, and tepid domestic manufacturing, regions tied to exports, commodities, and manufacturing face the most downside risk.

For now, however, strength in the service sector of the economy—as indicated by the ISM non-manufacturing index—bodes well for growth through at least the middle of 2016. Beyond the second half of 2016, however, the broader U.S. economy faces downside risks. After all, the deceleration of U.S. economic data series in the second half of 2015 occurred without the Fed tightening monetary policy. With tightening, upside potential will be diminished.

U.S. growth expectations and the Fed

As with the overall U.S. economy, the national labor market is likely to remain solid through the first half of 2016. This includes rising wages and a falling unemployment rate. This is due to recent improvements in the domestic labor market, continued increases in core inflation, and the Fed poised to gradually tighten U.S. monetary policy. As such, labor market improvements are poised to slow in 2016.

Nevertheless, the Fed is likely to take a measured approach as it tightens monetary policy. We believe the Fed has a relatively small window in which to raise rates before the next recession begins. In fact, some sectors, like oil and gas, are already there. In October 2015, Prestige Economics conducted its quarterly survey of planned business activity, and all of the approximately two dozen respondents reported expectations of a U.S. recession by 2018. Although we do not expect the next U.S. recession will be another Great Recession, another recession is coming.

Global expectations

While the outlook for the U.S. economy has softened in recent months, the outlook for the global economy has remained modestly positive, because of accommodative monetary policy stimulus being implemented in the Eurozone and China. In 2016, we expect improving eurozone growth, as well as some modest improvements in Chinese manufacturing activity. Of course, since Chinese manufacturing spent most of 2015 contracting, the threshold for improvement now is rather low.

We expect a modest pace of global growth in 2016 will be supported by highly accommodative monetary policies by the European Central Bank, the People’s Bank of China, the Bank of Japan, and a number of other central banks. We also believe that expectations of the gradual removal of highly accommodative foreign central bank monetary policies in 2016 and 2017 could support foreign currencies against the greenback. This gradual, future removal of accommodation abroad could coincide with a weakening U.S. economy, further weighing on the greenback in the second half of 2016, and in 2017. At that point in time, the Fed may be considering more accommodative actions, while foreign central banks are likely to be considering tightening monetary policies.

Critical data to watch

The most important economic data to watch in coming months with forward-looking implications for the global economy will be the eurozone and Chinese manufacturing purchasing managers indices. For the U.S. economy, the most important indices to watch are the ISM Manufacturing Index and the ISM Non-Manufacturing Index.

Of the two, the ISM Manufacturing Index is more important, since the manufacturing sector leads the service sector. For the PMIs and the ISM indices, multiple consecutive monthly readings below 50 are indicative of contraction, and are likely to lead an overall recession.

Jason Schenker, CFP, ERP, CVA, is president of Prestige Economics, LLC. He has been top ranked by Bloomberg for his forecasts in 27 different categories since 2011. He is also a frequent contributor to CNBC, and has keynoted several AFP annual conferences. His newest book, Recession-Proof: How to Survive and Thrive in an Economic Downturn, will be published by Lioncrest Publishing in January 2016 and can be pre-ordered here.
This article appears in the December edition of AFP Exchange.
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