fallingRecessions are typically caused by some sort of an excess. Real economic activity stretches too far and the subsequent unwind causes a retrenchment via a sudden and abrupt change in business and household behavior. There have been a number of excesses that have built up in the global economy over the past couple of decades. Japan had a speculative bubble in terms of corporate borrowing and real estate investment at stratospheric prices in the late 1980s. The US and world saw a technology driven CAPEX boom in 1999-2000 which was unsustainable, and created the lead-in to the 2001 recession. 2008 saw the culmination of two decades of loose credit expansion which fed into the US housing market bubble. Ex-post the cause of the retrenchment is often clear.

Today, most of the headlines whether coming out of China or the US discuss “fears of a recession”. All market participants have been drubbed over the head with fears of a recession. Financial conditions have deteriorated in dramatic fashion. The majority of market participants probably believe a recession is the most likely outcome at this point. Now we are at the stage where the recession has to actually happen. The sudden and abrupt change in real activity needs to transpire. I thought it worthwhile to review the level of activity in a number of key areas of the economy in order to see what parts of the economy are demonstrating excesses. I find evidence of much less excess in today’s environment and my conclusions are that if we sink into a recession it will be much shallower than 2008-2009 and also much shallower than 2001. It would look more like the muted recession of 1991. The market is pricing in this scenario already so I like the setup in financial markets with regard to achieving outsized returns from these prices over the next few years.

US Consumer:

The savings rate coming into 2008 was 2.4%, and this was after a string of 4-years of very low savings rates. The cause of this was the housing bubble which led to the attitude that consumers didn’t need to actively save money (they could do so passively).

The savings rate has climbed to above 5% for three years in a row and has continued to run at this rate in Q1 and Q2.

Household Net Worth:
Through the double whammy of the tremendous declines in the value of our housing stock and stock market (which was cut in half from the year before), household net worth declined by 20% in 2008. This was a shock which impacted the economy.

Through higher savings and previously robust financial markets, household net worth was 7% higher in the first half of the year relative to last year. Even with the 20% decline in the stock market from the peak, the y/y decline is much less at present. The housing market is declining at a rate of 2-3% and not 10%-15%. There is some evidence that the housing market is actually stable in value when you exclude foreclosed home sales.

Auto Production:
Light weight vehicle sales were running north of 16 million units. They had been for a number of years in a row.

Light weight vehicle sales are running at 12 million units after running at 10 million in 2009 and 11 million 2010. The sales run-rate is below most estimates of replacement demand as the stock of cars ages.

Single-family housing starts came into the year running above 1 million. Starts peaked in 2005 at 1.7 million.

Single-family housing starts have been running at 400k units and look to have bottomed at this level over the past two and a half years. This level is below what the Harvard Joint Center for Housing Studies estimates at replacement demand.

Job Market:
The unemployment rate was 5.8% for the full year and 144M people were employed.

The unemployment rate has ranged between 9-10% with 139M people employed. There are fewer people working despite much higher corporate profits and cash flows so perhaps the existing workforce is being more stretched.


Companies were planning for continued strong economic growth and investing capital aggressively. Cash flows were much lower at the corporate level.

Companies have been fearful during the whole recovery and extremely disciplined with capital spending. It appears that capital spending is primarily for “replacement CAPEX” and not “growth CAPEX”. Growth CAPEX can be cut whereas replacement related CAPEX cannot be for a going concern.

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  1. jared on October 4, 2011 at 1:34 pm

    Good comparison CJ. One additional point which adds additional support to the employment comparison. The Employment to Population ratio was 63% at the start of 2008 and has fallen to 58% this quarter. The US population is about 310M people so 5% of the population equates to 6.5 million jobs. This is staggering and disappointing but it also points to how much more difficult it will be for the unemployment rate to jump another 2-3%. If people were never hired into the workforce with the normal relationship to the population then who is there that can easily be fired??

  2. Mark Baker on October 4, 2011 at 3:06 pm

    On the other hand, in 2008 Greece wasn’t defaulting and China wasn’t tightening.

  3. crackerjack on October 4, 2011 at 3:56 pm

    Good points Jared – the employment-population ratio is a meaningful statistic and i could have brought that up in my post.

    I agree Mark – that the uncertainty around a Greek default has been utterly counterproductive towards stabilizing the financial system in Europe. Although it looks like to me that the actual default has been priced in many times over. It simply doesn’t matter that much – ECB has the firepower for forgiving Greek debt.

    I believe the China tightening cycle is over (ended last month) and that realization of this could be a significant catalyst for financial conditions, and global equities. US listed China-geared stocks look dramatically over-sold.

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