Wolf Richter: Is This the Beginning of the Next Recession?

By Wolf Richter, a San Francisco based executive, entrepreneur, start up specialist, and author, with extensive international work experience. Originally published at Wolf Street

The US economy is largely service based. So when the “manufacturing renaissance” and “on-shoring” that everyone had been waiting for turned into no-shows, and when instead manufacturing started slowing in early 2015, it was no big deal, according to the meme.

OK, it was terrible for the folks who lost their jobs. But manufacturing accounts for only 12% of the US economy and employs only about 9% of the workforce. So overall, it’s not the end of the world, we heard constantly. And besides, we could always make it up with fast food.

Manufacturing alone can’t drag the US into a recession, we were assured. And the service economy would continue to be strong. That was the meme.

Then, a few days ago, Evan Koenig, Senior Vice President at the Dallas Fed, gave a presentation that showed that manufacturing contractions preceded service contractions in the run-up of the past two recessions. When service sector growth begins to dwindle – so still growth, but slower growth – after the manufacturing sector has already begun to shrink, that’s the point he called “prelude to recession.” And when the service sector begins to actually shrink, that event marks what officials will later call the beginning of the recession [read…  “Prelude to Recession”: the Dallas Fed’s Unsettling Charts].

That “prelude to a recession” happened a few months ago. At the time, manufacturing was already shrinking; and the services index had just started heading south. But now the services index entered a contraction as well. So this could mark the beginning of what will much later be officially called a recession.

Different indices differ, depending on who does the counting, and they can be volatile, but over time, they agree on the trends. Koenig was using the ISM indices for manufacturing and services. Today we got Markit’s national Flash Services PMI, and it was a doozie.

The survey’s respondents – companies in the service sector – said that business activity in February fell, pushing the index to 49.8 (below 50 = contraction). The index has now plunged three months in a row, from 56 in November to 49.8 now. During the heyday in 2014, the index was above 60. This was the first time since October 2013 that the services index was in contraction mode.

But the “contraction” in October 2013 was a one-month affair. The index plunged from 58 in September to 49 in October and then jumped back to 57 the next month. It was triggered by the government shutdown. And after the brief scare, the service sector expansion continued.

Beyond the one-month Congress-induced scare, the index for the service sector has not been below 50, and therefore in a contraction, since the Great Recession. So this is a significant event. Markit:

Reports from survey respondents suggested that softer underlying new order growth and uncertainty about the economic outlook had weighed on business activity in February.

The report also blamed the weather. Snowfalls on the East Coast caused some “disruptions.” But during the harsh polar vortexes of prior years, which covered a big part of the US, the index didn’t dip into contraction mode. And so the report cautioned that “the weather can only explain part of the slowdown.”

The upturn in new work was “one of the slowest since the survey began in late-2009.” Service firms complained that “some clients were more reluctant to commit to new projects, in part reflecting uncertainty about the economic outlook.” And “the degree of confidence” fell to “the lowest recorded for five-and-a-half years.” The report doesn’t let up:

Optimism about the outlook has been on a downward trend over the past two years, with worries about the global economic outlook, financial market volatility, and presidential election, and interest rate policy all taking a further toll on business morale in February.

Any bounce-back from the weather may therefore prove to be only a temporary improvement in a steady downward trend of business conditions”

So the US economy faced “a significant risk” of “falling into contraction in the first quarter,” while “slumping business confidence” and the further deterioration “in order book backlogs suggest there is worse to come.”

Yet, service firms were still hiring, and hiring levels remained above “the average seen since the jobs recovery began six years ago.” So this is the good news.

This pattern explains the relatively strong employment figures and low weekly unemployment claims despite the weakness in manufacturing and services. This too was the case during the Great Recession: the recession officially began in December 2007, but the unemployment rate didn’t begin to jump until six months later! So the fact that the numbers for the job market haven’t cratered yet is not a propitious consolation.

Plunges like this only occur when something big is going on. Read… Restaurant Industry Suddenly Tanks, Worst Plunge since the Beginning of the Financial Crisis

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23 comments

  1. Ranger Rick

    Manufacturing being only 12% of the economy vastly understates the point of manufacturing in the first place. Having a service economy means you’re performing a service for the people who are generating real, some might say concrete, economic activity. Turtles all the way down, in other words, or perhaps a snake eating its own tail.

  2. FedupPleb

    This is a new recession, but it will never be openly acknowledged.

    Stats will be fudged, reports ignored, anti-cheerleaders expunged. Whatever it takes, the existence of a new recession will never be recognised. We will expierience, “challenging environments”, “difficult economic circumstances”, “increased competiion” and of course “regulatory burdens” and “needs for new taxation/cuts”, but the elephant in the room will never be discussed.

    I suggest people read up on how the Soviet Union presented its ailing economy to its citizens — for at least 30 years (~1960-1990). According to Pravda, all was rosy. And according to our state and media, all will be rosy in 2016, 1017, …, 2030 as well.

    This is the New Normal. The indefinite stagnation of the West.

    1. timbers

      President Obama agrees wit you:

      “Anyone who says America’s economy is in decline is peddling fiction”

    2. Lord Koos

      People knew that Pravda was full of crap though — standing in line to buy a loaf bread is a reality check.

      What is going to be interesting is the confluence of the presidential election with the economic bad news…

    3. fds

      Is the red baiting necessary? Besides, the SU economy was more balanced than ours. It’s problem was the unwillingness or inability for enterprises to report accurate information and the center using quantitative assessments and over centralization. Additionally, the economy didn’t start slowing down until 1975, at which point, it never went down below 1% until Gorbi’s reforms.

  3. washunate

    In offialdom terms, I think they hold off a formal recession for a little longer. The auto and student loan debt bubbles can go a bit longer, the stock market and housing markets can hold off precipitous declines a little longer, and things around inventory builds and healthcare spending and so forth can go on a few more quarters.

    But out in the reality-based world, the whole framework of recession and recovery contributes to poor problem solving and cognitive processes. It is simply not based in factual observations of our system of political economy. There is no next recession because we’re still in the one from three recessions ago.

    The process of decline in which we find ourselves is a much longer, slower one. There is no one event that triggered our current depression, but we are clearly at about two decades now, give or take, of a worsening economic system. The only people who seem to have missed that are those lucky enough to have had gainful employment coming out of the 1980s and been lucky enough to maintain that gainful employment since. Our system is so screwed up at this point that there are people earning more income in retirement than full time workers are earning in wages.

    Talk to any Xer or Millennial who has had to look for a job over the past couple decades, or any Boomer who has lost a job in that timeframe, and it doesn’t matter whether they were looking in 1996 or 2006 or 2016. The economy is, has been, and will continue to be crappy for those in the bottom 80% or so of society.

    1. fresno dan

      “There is no next recession because we’re still in the one from three recessions ago.”
      Call it declining, or call it falling – when you hit the concrete, your not going to get any more declines…

      1. fresno dan

        Ack!!! I meant to say, when you have already hit the concrete, your not going to get any more declining….

    2. Steve H.

      “There is no next recession because we’re still in the one from three recessions ago.”

      That is very well put, isn’t it?

      1. susan the other

        or as Merkel would put it, ‘everything is A-ok because we live in a market-conforming democracy.’

    3. MyLessThanPrimeBeef

      People earning more in retirement than full time workers are earning in wages.

      Perhaps socialism from the senior end.

      When you retire, the government should take care of all your basic needs…health care, food, etc.

      Then no retiree would need any income, above a certain discretionary level.

  4. lylo

    Employment is a lagging indicator, and that fact seems to be one of the very few things all economists–and common sense–actually agree; it’s hilarious that it’s being used currently to say our economy is fine. I guess we’ve all completely given up any pretense and are going all in on the party line.

    Just from my area:
    Hiring is still really strong, relative to the past few years (recovery my butt–it wasn’t even out of recession until fairly late last year.) There is some pressure on wages in the lowest end, but this hasn’t translated to anything in the middle, though I am still hopeful that it will. (Both cashiers and machinists for $10-12/hr. Temps make up to $15 for the same work, and are paid extra for the impermanence factor. Can’t last for long.)
    LOTS of empty/for sale/for rent houses. This has never really cleared from after 2008; after the initial burst, it’s been a steady stream since. Apartments are finally being finished, so rent seems to be at least leveling out. (Though I own, so this is more an impression from conversations. Guess $1k is all anyone could reasonably pretend to afford.)
    LOT of empty storefronts. This is new, and only started this winter.

    And I mean LOTS of empty storefronts. LOTS of cleared out lots. All commercial/industrial. Can’t stress that enough.
    Of course, as of right now, there are grand plans for expansion for the empty dirt patches, and the empty buildings have all sorts of people looking at them, but something feels off.
    It’s just too many.
    I’ve lived in my area a long, long time. The local government here is much more inclined to deal with large corporations than small businesses, so they often squeeze out the little guys to build commercial facilities that, quite frankly, we don’t need and can’t really use. Now the numbers are coming back red. I’m not much of an Austrian, but even I can see the writing on the wall.
    Somebody is going to start looking at sales figures, look at my low income area, and wonder if they really do need to turn that empty lot into the fifteenth CVS in a two-mile radius. (That’s a 2008 redux from my area, fyi.)

    I don’t know how the rest of the country is doing, but my area has maybe a year–tops–before the bottom falls out.
    (Also, I wonder if the factory down the road that pre-builds displays for retailers–using products made in China, of course–counts towards our manufacturing numbers. lol)

    1. Darthbobber

      In mid-2015, which was the last data point I could find for this, the median wage/salary in the Philadelphia area stood at 92% of pre-recession levels. There has probably been some upward movement since, though my impression is not a huge amount. So we probably aren’t even back to the initial baseline. And this is at the very end of one of the longest sustained “expansions” of the postwar era.

      Is this the time to mention that the United States economy was not technically in recession during most of the Great Depression, and that that didn’t keep it from being the Great Depression?

    2. cwaltz

      Commercial real estate drives me insane. It’s like a giant game of musical chairs, only with businesses. You start with a strip mall with slots that are filled. A new developer comes to town and builds a new strip mall and gets tax credits under the guise that they are bringing new businesses around. Second strip mall opens. The first strip mall empties as each of the businesses vie for a rental that costs less thanks to the developer getting tax credits. First strip mall is left abandoned. Second strip mall is filled with the same tenants the first strip mall had with the exception of maybe one or two jobs brought in. Come time for the credits to expire and rent go up at the second strip mall, a developer enters town and starts building ANOTHER strip mall. Meanwhile all these businesses also get tax credits for moving which ALSO encourages them to relocate. How is this market “efficiency?”

  5. twonine

    Paul Craig Roberts seems to be on the mark.

    The handful of learned people that America has left, and it is only a small handful, understand that there has been no recovery from the previous recession and that a new downturn is upon us.

  6. Dirk77

    I started to read NC in October 2007 I believe, two months before a recession was declared (according to Richter above). After many months, I started to read NC again this week. So that means a recession at the end of April. You heard it first here.

  7. Darthbobber

    Is it known what portion of American manufacturing is occupied with manufacturing goods consumed BY the service sector? Because if it is a significant fraction, then a prime cause of a manufacturing slowdown could well be the cumulative effect of slackening demand for those goods in the service sector.

    In the 19th century Marx pointed out that recessions in that era tended to make their first impact on the sector of the economy that manufactured means of production, but had their deepest impact on the sector manufacturing the actual consumer goods.

  8. Ignim Brites

    Only question now is the name. Will it be the “Greater Recession”, “Greatest Yet Recession”, “FED-less Recession”, “FED-lead Recession”, “FED Opus I Recession”, “Twilight of the Brites Recession”, “First QEra Recession”?

Comments are closed.