If we have a U.S. recession this year, it will be a risk-based recession

by on February 14, 2016 at 1:18 am in Current Affairs, Economics | Permalink

From the WSJ:

U.S. consumers showed signs of strength in January, taking advantage of low oil prices to increase their spending and offering a welcome counterpoint to the gloom that has gripped investors and roiled markets since the start of the year.

Sales at retail stores and restaurants rose 0.2% in January from the prior month, the Commerce Department said Friday. And December’s retail sales were revised to a 0.2% gain instead of a drop, showing a better end to the year than initially estimated.

While that is good news for everyone, if only because of the implied wealth effect, it ought to give Keynesians special cheer.  And from another WSJ piece:

The sharp drop this year in consumer-focused stocks is feeding fears of a recession, but those companies’ bonds are sending a more upbeat signal.

Bonds from companies such as retailers and restaurants, which are most closely tied to consumer-spending habits, have been strong performers this year, contrary to what analysts would expect if the economy were headed into a tailspin.

The disconnect is notable, because many investors view the bond markets as a more sober indicator of corporate financial health and economic conditions than stock markets.

A risk-based business cycle results when investors (and others) perceive an increase in the risk premium, and pull back their commitments accordingly.  Here are previous MR posts on risk-based business cycle theory.

1 Adjoran February 14, 2016 at 2:47 am

I’m old enough to recall when 0.2% monthly gain in retail sales two months in a row was considered a sign of weakness, not strength.

2 JWatts February 14, 2016 at 11:08 am

This recovery is certainly fragile.

3 Chambers St February 14, 2016 at 12:56 pm

yes 0.20% is pathetic — but you don’t need a weatherman to tell you which way the wind is blowing (or the WSJ to gauge the economy’s direction)

of course the pretense that national sales levels can be measured to a tenth of a percent accuracy is absurd.

also the media luvs the notion of “U.S. consumers … taking advantage of low oil prices to increase their spending…”. That’s bull$h_t — cheaper oil/gas is peanuts compared to massive increases in health insurance premiums and co-pays. Most people I know are struggling to meet their huge health care costs — disposable income is way down and getting worse. Thanks ObamaCare!

4 prognostication February 14, 2016 at 1:42 pm

Most people you know aren’t on employer-based insurance, Medicare, or Medicaid? Where do you live and what do you do? Because that’s over 80% of the U.S. population…

5 JWatts February 14, 2016 at 2:49 pm

I don’t think you read his post correctly. There have been large increases in health insurance premiums and co-pays in employer-based insurance and Obamacare regulations and direct taxes are contributing factors.

6 Benjamin Cole February 14, 2016 at 7:48 pm


I get the sense that almost anything is better than saying, “This recession is caused by not printing enough money.”

4 times in his career Milton Friedman publicly blamed central banks for being too tight and causing recessions or depressions.

Today that sort of commentary is no longer PC.

7 Ray Lopez February 14, 2016 at 3:59 am

Brilliant TC analysis. From the paper cited last fall here: “This paper proposes an explanation of labor market volatility based on time-varying risk, modeled as a small and variable probability of an economic disaster. A high probability of a disaster implies greater risk and lower future growth, which lowers the incentives of firms to invest in hiring. – See more at: http://marginalrevolution.com/?s=risk-based#sthash.l43UUatd.dpuf

Thus, Shiller’s Irrational Exuberance logic is formalized as a math model. It’s no worse than the metaphysical “expectations” fudge factor that Lucas Critique Keynesians and Monetarists use in their models. I rather like this real business cycle model, since it does not depend on such nebulous (and unproven) factors as “sticky prices /wages” (how sticky? One day or one year?) or Keynesian multiplier (zero or 3x?), velocity (a lagging function of the economy, rendering it worthless to predict anything as Friedman found out to his chagrin at the end of his life), or “money illusion” (to who? Grandma or Wall Street sophisticate, and for how long?) Simplicity is best.

8 Philip George February 14, 2016 at 4:36 am

This graph shows that the gap between personal disposable income and personal consumption expenditure is widening


as is this one


(though the data is only until the beginning of December)

9 Alain February 14, 2016 at 11:57 am

Looks like a one time reset due to te Great Recession. Which is the standard narrative.

10 Matt Young February 14, 2016 at 8:05 am

The personal expenditure rise of.2% was all season adjustment, actual purchases declined, but the seasonal adjuster said it declined less than it normally does in January. How valid is the seasonal adjustment coefficient? It is way off, we are in a non stationary turning point, look at the decline in rates and the global trade recession and China. The same is true of the last job report with an actual decline of 660k jobs becoming a 150k job gain, based on seasonal adjustment.

The seasonal adjustment was likely incorporated into the Atlanta 2.5% GDP growth rate. We are currently blind and have to wait late March till things clear up.

11 Harun February 14, 2016 at 3:59 pm

In on-line sales, we often get a good January, as people who got gift cards spend them.

I’m not sure how that is calculated out into retail sales – maybe the card itself is a retail sale in December, but the actual vendors of products get the sale in January.

12 Mark February 14, 2016 at 8:25 am


Always ask yourself “what would Scott Sumner say about this speculation” before you post.

I’ll give it a shot “the risk definitely rises when the fed tightens prematurely, duh”

13 Brian Donohue February 14, 2016 at 9:05 am

I can’t decide if your habit of seizing on negative news over the past year reflects your disposition or if you have a big short position on or something.

There will be a recession eventually. Beating the drum about it for five years won’t make you right.

Gene Epstein at Barrons argued yesterday that recessions are always preceded by some upticks in the monthly unemployment numbers. I think he’s more convincing than you.

My hunch is that we might be in for a very long recovery, as long as central banks don’t short circuit it, precisely because the recovery has been so tepid.

14 Tyler Cowen February 14, 2016 at 10:14 am

I’ve already said I don’t think we are getting a recession this year, just slower growth…

15 prior_test February 14, 2016 at 11:10 am

Eurogeddon is coming though, someday. Prof. Cowen is certain of it.

Wait long enough, and he will be proven right – yet again.

16 ChrisA February 14, 2016 at 11:48 pm

“Eurogeddon is coming though, someday. Prof. Cowen is certain of it” – don’t you think this has already happened, what with the implosion of the Greek economy, no growth overall in the last 10 years in the Eurozone etc etc?

Where TC (and myself as well actually) perhaps got it wrong was the willingness of electorates to tolerate this. I wouldn’t have though people would be so supine.

17 Brian Donohue February 14, 2016 at 11:18 am

OK, maybe I’m being unfair, but whether talking about China, Europe, Japan, or the US, you seem to be issuing a consistently negative vibe over the past year. Most of economic reporting seems to do this most of the time.

It’s like we’re always talking about the recession to come, or the recession we’re in, or the lingering effects of the recession, or the jobless recovery, or the jobfull non-recovery. I mean, for 30 years now.

I heard an analogy the other day about the stock market: it’s like a yo-yo on an up escalator. I think a version of this applies to the economy as well. Nobody ever reports on the background, and even when they do, there’s this weird and ridiculous consensus of stagnation looking back and forward for 40 years, which is completely wrong.

Considering that, as a specious, we are doing ridiculously better than even 50 years ago, man, it just seems like humans really like to grouse and you shouldn’t feed that inclination so much.

By the way, I appreciate your back-and-forth with Sumner. Good stuff from two guys with a lot on the ball.

18 JWatts February 14, 2016 at 2:51 pm

“OK, maybe I’m being unfair, but whether talking about China, Europe, Japan, or the US, you seem to be issuing a consistently negative vibe over the past year. Most of economic reporting seems to do this most of the time .”

What’s the good news that Tyler is missing?

19 Brian Donohue February 15, 2016 at 9:22 am

Let’s see. The US has pulled itself out of The Great Recession, with more jobs and a higher per capita GDP ($51,000!) than ever. A remarkable achievement for such a large and diverse population. (Note to inequalistas: Uncle Sam takes 40% from the top 1% for spreading it around purposes, so we all win, even if the 1% is hoovering up all the gains, which they aren’t.)

China over the past generation is maybe the most stunning humanitarian success story in the history of mankind, but Tyler has joined the chorus of China skeptics for years now.

Japan is an aging society with an aversion to immigrants- thus, a punching bag for one of Tyler’s pet interests, again for years now. Japan remains a rich and enviable country.

Europe, OK. Southern Europe in particular has some real issues. But they are mundane bloated government issues.

20 JWatts February 15, 2016 at 10:14 am

This is an Economics blog and it’s called the “dismal science” for a reason. I don’t see that Tyler is picking on those countries, beyond their relative economic strength. Tyler has a pessimistic short-medium term outlook.

21 Brian Donohue February 15, 2016 at 10:50 am

Yeah, I get it, I suppose. “Everything’s great” is not a news story.

I do think, as Bryan Caplan suggests, that Tyler is apt to read too much into the daily blow-by-blow (being a news junkie) – overemphasizing the yo-yo and missing the escalator.

My meta-complain isn’t with Tyler , at all. The problem, it seems to me, is a punditry that is chronically negative, feeding into a commentariat which loves their sandwich boards, everything from “Western civilization is doomed” to “It’s too late, the planet is already boiling” to the near-universal “People like me can’t catch a break in this rigged world.”

I’d just like to think Tyler could be part of the solution to this mangled dialogue.

22 Art Deco February 15, 2016 at 11:10 am

Not applying to the moderator, but to characters like Nassim Taleb, Yves Smith, and Vox Day, might be the observation that someone is prophet if their disaster scenarios take place and people forget if they do not take place.

23 JWatts February 15, 2016 at 11:40 am

“My meta-complain isn’t with Tyler , at all. The problem, it seems to me, is a punditry that is chronically negative, feeding…”

Yes, that’s a good point, but that may well be human nature.

24 msgkings February 15, 2016 at 12:48 pm

It’s definitely human nature, JWatts. Pessimism sounds smart, optimism dumb/naive. It has always been thus, and yet in the grand scheme of things the optimists have almost always been right. Brian D. I think would agree you should check out Ridley’s ‘The Rational Optimist’.

25 Bill February 14, 2016 at 10:31 am

Calling something a “risk” based recession is a little silly, and a poor use of language.

Risk is simply a term that is endogenous to the system….if something is perceived as “risky” it is simply saying that others forces, or the real variables driving an economy are changing, or have a greater probability of changing because of some other changes in the system, such as the China change in demand or the resulting drop in third world commodity sales.

In other words, to say that “risk” is the variable is a bit like someone driving a car, looking at the odometer and saying the odometer needle is setting the speed, while not looking out the window and seeing that the wheels are turning or ignoring that their foot is on or letting up on the gas pedal.

26 Nathan W February 14, 2016 at 11:54 am

Can anyone comment on how this (rick premium changes as discussed in the article) might be connected to the trillions in cash that corporate America is sitting on?

It seems quite related to this risk premium sort of analysis, but I’m struggling to draw quite a coherent connection on the matter. But previously I had interpreted it as a lack of good investment opportunities in general for these companies, and not through the lens of risk.

27 chuck martel February 14, 2016 at 2:03 pm

The trillions in cash that American corporations are sitting on belongs to the stockholders and should be distributed as dividends. But they’re not because corporate management is engaged in a colossal fraud while shareholders compete with each other to make gains on fluctuating stock prices rather than getting the rewards for investing in profitable companies.

28 JWatts February 14, 2016 at 2:53 pm

That’s true in the short run, but the pile of cash increases underlying stock value. You can argue, and I would agree, that the dividends could be re-invested more profitably than the cash, but it’s not like the money is just being frittered away.

I’d love for the US government to have this kind of problem, instead of the large amounts of accumulating debt.

29 Alain February 14, 2016 at 4:29 pm


Corporations are holding on to large amounts of capital largely due to two reasons: (1) US corporate taxes are exorbitant and (2) during the Great Recession the various sources of short term funds dried up and caused major issues for many companies as a response they are holding more cash. That’s it ‘chuck’.

30 chuck martel February 14, 2016 at 5:35 pm

Apparently you’re saying that 1. stockholders are telling corporations not to pay dividends because taxes would have to paid on them, and 2. We’re still in a “Great Recession” and corporations can’t get money that they don’t need, since they’re not using the money they have.

31 Nathan W February 14, 2016 at 8:18 pm

Some corporate cash stocks can be understood as part of (2). But to the extent of Google and Apple? I mean, their cash holdings alone would be sufficient to retool the entire American auto industry several times over (not that this would be a good use of that capital, but for illustrative purposes of just how much capital is sitting idle).

32 Cliff February 15, 2016 at 2:44 am

Taxes and acquisitions

33 Tom Warner February 14, 2016 at 11:50 pm

First, non-financial corporations had $1.8 trillion of cash and equivalents as of the end of September, which is only “trillions” if you’re rounding up. That includes foreign deposits, money market fund shares, repo, commercial paper, Treasurys, agencies and munis.

Second, the growth of NFC cash has been much slower (up only 12% since the end of ’09) than total supply growth (mainly in M2 and Treasurys, up 36% and 71% respectively, excluding intragovernmental debt, or 54% excluding also Fed holdings of US debt).

34 Tom Warner February 14, 2016 at 11:52 pm

See flow of funds, table L103 and L204 to L212, here: http://www.federalreserve.gov/releases/z1/Current/z1r-4.zip

35 ChrisA February 15, 2016 at 12:11 am

This goes back the debate that Krugman and Sumner are having about whether it is a critique of capitalism that it needs an “active” Fed. Which is a very old debate of course, going back to the scientific socialism of Wells and the Fabians, which of course ended up in disaster in the UK and other countries when the 1930’s student generation got into power in the 1970’s. For sure if the Fed is reacting properly they could avoid a recession this year (or even avoid slow growth) since they are a long way from their inflation target. As Ben Cole says above, they can get printing. But does that mean capitalism is inherently unstable if it needs the Fed to be monitoring things so closely? Personally I think that if a Government require people to use their currency, and also establish bodies like the Fed to manage that currency, then it is not really capitalism that is at fault when a recession has to be averted, it’s problem of a Government driven system imposed on capitalism. Perhaps the instability problem would still exist if we had private currencies especially if everyone ended using the same one – I tend to think that like software, there is a high network element to currency use, so that eventually everyone would be driven to use the same system (like a gold based currency) to facilitate exchange. But in that scenario, with no central bank, I would guess that the current lending model where Banks are such a big factor would have been driven out of existence already as too unstable a way of business. We would have much more equity and much less debt, and so the amplification of recessions by banks would not occur and the overall monetary system would be much more stable.

36 Tom Warner February 15, 2016 at 12:31 am

On one hand, I welcome the risk-based literature as a scientific approach that gets away from Keynesian superstition/lazy pop psychology about the cyclicality of “sentiment” and “irrationality.”

But it’s silly to talk of “risk-based business cycle theory.” There’s no way to imagine changing assessments of risk as the driver of cycles. The cycle is driven by the cyclical interactions at the macro level of profit/loss and credit.

37 Nathan W February 15, 2016 at 1:24 am

I hadn’t realized that animal spirits were controversial to anyone. Isn’t it a bit like that sometimes?

“There’s no way to imagine changing assessments of risk as the driver of cycles.”

Yes there is. I can imagine changes in risk influencing aggregate investment, and changes in physical investment is one of the most relevant things in the business cycle.

38 ChrisA February 15, 2016 at 5:10 am

I don’t like the term “animal spirits” but it certainly possible that there are coordination problems in economies that lead to cycles. For instance if some people suddenly become more bearish (for whatever reason) then it makes sense for me to become more bearish and then it makes sense for everyone to become more bearish, if for no other reason than other people are becoming bearish, and so the economy becomes depressed. Similarly with bullishness. How the sentiment gets started may be very trivial, but its can become a self reinforcing cycle. In that sense a central coordinator, who observes bearishness or bullishness getting out of control could prevent this happening at little cost, just by the threat of being able to credibly overcome the sentiment.

39 Bill February 15, 2016 at 3:58 pm

+1 A cascade of applause for the comment.

40 Tom Warner February 16, 2016 at 12:25 am

@Nathan – That people are animals and always partly rational and partly emotional/irrational is uncontroversial. That people have heightened emotions during a market panic also. The Keynesian story that the cycle is driven by periodic long-term heightening of positive and negative emotions is crap. What it boils down to is a backward-looking uninformed assumption that people who miscalculated must have been giddy or depressed.

@Chris – An amplifier does not create a cycle. An amplifier can’t choose and single out and especially amplify particular small events that go against the current trend. An amplifier amplifies everything equally.

41 ChrisA February 16, 2016 at 7:13 am

Tom – amplification is not the process being described here, its is cascade or self-reinforcement process. So your comment is not relevant. Think of it more like a pencil standing on one end. If it starts to move in one direction, then the weight of the pencil will reinforce that direction. The coordinator is the one tapping the pencil to go in a particular direction.

As I said up thread, my view the need for this coordinator is as a result perhaps of the long term intervention in the banking and monetary system by Governments. It is highly pro-cyclical, when asset prices are rising and times are good, lending can be loose. When times are bad and asset prices are falling, lending will fall. I believe perhaps that without the continued government support the borrowing short and lending long classic banking model would have died out and be replaced by a more stable system. But we must deal with the world as it is, not as we wish it was.

42 spencer February 15, 2016 at 12:05 pm

The deflator for retail sales as calculated by BEA is around minus 2.5% and it is not just energy as the deflator for GAFO — department store type products — sales is also minus 2.5%.

So people are significantly underestimating the strength of retail sales that is actually running at a 4% to 5% annual rate in real terms.

From 2011 to 2014 real retail sales grew some 3% to 4% annually, so real retail sales are actually strengthening.

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