tv Economist Mark Zandi on Recession Risks CSPAN September 13, 2019 10:56pm-11:57pm EDT
>> campaign 2020, watch the live coverage of the presidential candidates on the campaign trail and make up your own mind. c-span campaign 2020, your unfiltered view of politics. >> analytics chief economist mark zandi predicts america's current risk for recession is high and increasing, he leads off the forum on rescission planning which includes panels on lessons learned from past recessions and federal state coronations. this is almost three hours. >> my task is to give you a sense of the prospects for recession over the next 12 - 18 months. does everyone have a pen? i'll give you the exact day. [laughter] you need to write this down. the talk is broken down into a
few parts, part one is an assessment of current recession risks. and i would argue that they are considerable, high and rising and will go through the logic as to why. or two, most recessions or all recessions have a proximate cause generally lots of things going on that are behind the downturn but you can put your finger on the thing that is the approximate reason for the downturn. all do that and i'll talk about what could take us down, trade war would be a topic. we can talk about that in some detail. then we'll talk about the roadmap to recession, a lot of different indicators, you want to be focused on to gauge how things are playing out whether he's right or wrong. then we'll talk about policy.
monetary policy and the response to recession and because interest rates are already very low, the federal funds rate target is at 2% today, i think next week it'll be a one and three quarters. thus on a whole lot of room between that and 0. that is we need fiscal policy to play a key role in the response and not talk about that and put into the context of experience that we had ten years ago now with the recovery act and other policy responses. does that sound okay? >> okay. part one recession risks, as they said their height and rising, that gives you a sense, this is a major that we've
constructed based on a number of financial indicators that lead recession, this shows you the probability of a recession based on data 12 months prior gives you a one year lead of looking at current data. for the geeks in the room, this is not recession and relating the financial vehicles to the 0 one. the indicators include the shape of the yield curve, we'll talk about that in detail in a few minutes. the volatility is in the equity market, credit spreads looking at the bond market and corporate and bond interest rates to treasury yield and gives a good sense of what bond investors are thinking about recession risks. and the policy is relative to the monetary policy.
i am showing two different majors, one on the unadjusted probability recession in the adjusted is simply an effort to account for some of the biases that exist in the message sent to the curb. there are some well-known differences in the current economic environment in the past environments to make it a leading indicator. the bottom line is, probabilities are pretty high . . . if i make an adjustment in the
yield curve, it still hi, 50% but not far away. you'll notice, this represents recession, every time it's major goes over 40%, we had our recession. >> there's a lot of reasons to be nervous of what's going on out there and dry recession risks are high, a number of major kinds are arguably in recession. >> the uk, brexit is complicating things for them. mexico, brazil, singapore is small but it is feeling the effects of the trade war. korea. here at home, there's increasing signs of recession risks.
i would argue parts of the economy already in resection, manufacturing will be a great example. the farm bill is in resection, farmers ship a lot of things so the sectors are also arguably in recession. the total output of those industries, they connect them right back to the trade war. if you add those up, it's about 20, 25% of gdp. the economy can continue to follow these, if there retracting, not gracefully, but it can happen. if problems in manufacturing and egg go on to the rest of the economy, we have a problem with that. there's the job growth, key to the economic expansion, a year
ago, just to give you a number, context, the calendar year of 2018, average monthly job is about 225,000 a month. if you cut through the volatility and get to the underlying trend, it feels like it's pretty close to 100,000 a month. at the end of it, if we hang around, no big deal. they won't feel as great as it has been for will be okay. then unemployment will start to rise and i'll talk about that interview but when it rises, game over. so part one, recession risks are in my view, uncomfortably high and rising.
i don't mean to apply to high level of proposition here, doesn't mean anything. that gives you a broad sense of where we are. the recession, you should take that into consideration. part two, as i said recessions generally have, at their core some cause. i may be overstating this a bit, they always want to find an explanation for things, my guess is that recessions are much more complex than that. there's lots of moving parts and they all conflate with each other so it's probably not
appropriate to say this is the reason for why a recession occurred but we do that anyway. there's something out there that feels like it's a cause for that. for example, you go back to the great recession and years ago, we had lots of problems but the approximate cause was the problems there. you go back to the 2000 -- 2001 downturn as the technology boom tech bubble, they got over valued into question their resulted in recession along with 9/11. go back to the 1990 -- 91 recession, many of you might not
remember, they were quite a significant part of the recession back in the day and they failed. they got turned upside down on their portfolios. i can go back to every recession since world war ii there has been ten of them and i can at least identify what was going on in recession. this matrix gives you a sense of the kind of risks we face into the approximate kinds of potential causes for an economic downturn. the horizontal axis represents the potential severity of the event or shock. the y-axis is my assessment of the probability of that shock,
how likely is it. so acclimate yourself, look at the northwest part of the matrix, you can see manufacture recession. high probability and i would argue we are in recession but by itself, it can push the economy into recession. the shock is relatively low. if you go to the southeast quadrant of the matrix, powell is removed and trump has been railing against the fed and attacks on powell and threatening to remove him. if that were to happen, that would be a big deal, financial markets probably cause recession and indicate they are no longer independent. it would lead to low probability on that. we want to focus on the shocks that are in the northeast part of the matrix, you can see the trade work. it's a big deal and the think that could push us into.
couple of other things, i won't go to into detail unless you want to, you can see note deal brexit also, by itself will probably push u.s. into recession but it would be hard to digest between the environment. there's other things we could focus on but i will focus on trade work. trade war in the economy several but there are two key ones. higher tariffs, they are attacks on american business and american consumers. the magnitude of the task, if all of the tariffs the president has threatened to implement are actually implemented and we have a lot of tariffs already threatening to impose additional tariffs on the remaining imports from china by december, if he follows through all of that, the tax bill, increase in tariffs in
2020 around $100 billion. just to put that into context, that's a half a percentage.of gdp. economy is growing about 2%. so a half a point is meaningful. half the size of the tax cut that we got last year at the end of 2017, imprinted in 2018, the reduction in corporate rates for individuals. that was about $200 billion in tax cuts in the calendar year. so half of that. those are significant. most of the tariff increases so far have been on products that businesses use for their own
production. it's not directly sent to consumers, not like you walk down the aisles of walmart and you see the effects of the trade war there. at least not yet but the next in december are incremented, that's when consumers will feel it. at that time, we see higher prices for things we buy. also very hard on retailers, one part of the economy that is really also struggling and also in recession but not because of the trade war, we are seeing online competition during a number of retailers and they are operating on very thin margins if the tariffs are incremented and they can't pass all that through to customers so
consumers will be upside down on profitability, they'll be losing money, they have no question and we'll see layoffs. the next round of tariffs, it will do a lot more damage. the second link between the trade war and the economy, the link that the economists kind of missed or didn't put enough weight on, the impact on business competence, it's been hammered across the globe. they're all saying the same thing, the survey in japan, we have a survey we conduct off of one of our websites that we've been doing since 2003, a weekly
survey, global business survey. this is monthly data, i made it monthly to smooth out of it. there are nine questions that we ask, i'm showing the results for two of the questions. the first one is around how do you feel about business prospects and conditions of the current time? that is the blue line. the green line is a question about expectations, how do you think things will go in your business and the economy six months from now? this is a confusion index, the percentage of positive responses and less negative responses. so if it goes below zero, there's more negative than positive. you can see a sharp erosion and
sentiment since the trade war going. every saturday morning, i look at the survey result. they are e-mailed to me from the previous week and last week, they fell to the lowest level since recovery in february 2009. businesses are nervous. it's manifested already in investment spending. businesses have become much more cautious in the expenditures, essentially it's gone flat in the past year. this is not just the u.s., this is across the globe. in the u.s., it's particularly telling because the tax cuts,
they were supposed to produce up investment. the big argument with tax cut in terms of growth is that the lower the rate or corporations from 35% which is where they work before 221%, which is where they are now, i would lower the cost of capital and you would seek more capital that would raise stock and activity growth. we've got none of that. i was always skeptical but there's none of that in the data, just the opposite. it's gone completely flat partly because i think the tax cut is not that important in terms of investment but also because of the trade war. more recently, it does feel like businesses are becoming much more cautious in their hiring.
they are not laying off workers. if that were to happen, that means we are in recession. what we are seeing is that business in many parts of the economy and industries are now becoming much more cautious. it makes sense that they would be more cautious on investment before hiring given how tight the labor market is. the problem going into this was, i can't find people. i can't find qualified workers or retained my existing workers. there's a lot of turn so business people are very back on the human resource activities. they know if they get wrongfooted by the president and the trade war is over, they'd be caught without the people think meet or lose the people they rely on so they decided to pull back on investment to become more on their, i think recession risks are very high and rising.
business sentiment -- still oblivious. they haven't really felt it. if they do, then we are in recession. with brexit, that's a big deal. it seems like it's getting kicked down the road so the deadline was october 31, now looks like it might be january 31. something else to watch. how are you doing? doing okay? all right. is it too geeky? know? okay, good. okay, i'll get more geeky. no. part three, the road to recession, what should you look at to gauge whether recession is in? if you think it already happened, the best long reading
of recession is when the economy starts operating beyond employment. there's a lot of debate as to what is deployment, i would say the consensus, ceo, fed, other economists would say for the half% unemployment rate would be consistent with economy. it read 3.7% so it passed. if your past that employment, that means without things like the trade work, the economy would overheat. they would accelerate and start to develop. by the way, it's hard to remember this. it only goes back a year ago. that's what we were all concerned about.
then we got the trade war and attained changed the whole narrative. the economy was on the path to rising in pushing up interest rates. it's logical thought the unemployment, unemployment is right below that threshold, at someplace and has to rise and come back. then you overheat and have recession. a feature of every recession is not overheating the economy. once unemployment starts to rise, these are up from a very low level, that is for recession because when unemployment rises,
that is cyclically a lot of things going on, people are starting to feel very uncomfortable. not just businesspeople but consumers everyday americans. less open jobs, positions, people are getting small pay increases, not getting the bonuses they were getting. you can feel it in your everyday life. consumers grow more cautious and it weakens and pull back a bit on their spending, businesses see that and they hire a little less. you can see this self reinforcement negative cycle that's called recession. so the best recession is when you go past unemployment. on average, the recession leading up to the recession
since world war ii, the average length of time when it goes past is about three years. we went below for the have% unemployment on the summer of 2017. another longer leading indicator is weakening profitability and corporate profits, economy wide have not gone anywhere in the past five years. in profit margins, the margin they get over there cost have now been declining for almost two years. labor costs are rising, businesses have not been able to pass that through foley, it's picked up recently a little bit but it's been low. margins have been compressed and
when business people see margins weakening, they become more cautious and things like that trade war give a lot of angst. the average length of time between profit margins declining in recession is roughly two years. margins have declined for almost two years now. another indicator we might be on the road to a recession. probably the most, the yield curve is the relationship between long-term interest rates and short-term interest rates. the global economy, long-term interest rates are higher than short-term. the obvious reason is that bond investors, people fight the bonds and want compensation for the risk of investing bonds that have longer, things happen.
for three month period, there's a lot of money. a chance you'll get nailed by something, inflation or recession or whatever compared to ten years. you demand a premium for that. higher interest rate for that internally the so-called premium is positive. there are times, not typical, very unusual when the yield curve inverted, short-term are higher than long-term. that happens prior to economic downturn. what this is showing here is the difference between the yield on the ten year, back to 1975 and showing recession, you will notice prior to every recession, the yield curve is never falsely predicted. the average length of time
between when this happens, when the curve inverts is one year. that is pretty narrow. a little give or take around that one year or so, a pretty good sense of timing. the curve is inverted in may so we've been inverted now may, june, july, august, september. if history is any guide, it would suggest subject recession is around december 2020. a couple of ways of thinking about it from the first is the bottom market interest rates are reflection of wisdom of lots of bond investors all over the globe. folks putting their money on the line, money where their mouth is and saying hey, we've had a problem, interest rates will be lower in the future therefore,
long rates. it's a sense of what was right, but they are not. the wisdom is pretty important here. they are putting where their mouth their money where their mouth is. another intuition behind it is that the yield curve is very important to the profitability. they lend it at a higher interest rate so the shape of the yield curve is a very good a proxy for the profit margin, net interest margin. they can make lots of money, i have an incentive to make a loan because i will make more money
than. when the yield curve is inverted, rates are higher, i can't make money. it's like a business, they sell something and they lose money on it, they won't sell it to you, they won't produce it. when the yield curve becomes inverted, it's turned negative, the profit margins go negative, too much credit is a problem. financial crises, borrow too much. also a really big problem, businesses and consumers and you and i need credit to start businesses, hire people, buy homes and cars so we need credit. the yield curve is inverted, there's less credit. you have a lot of households who
barred a lot and they will repay, they will need to refinance and come back for more credit if it's not there, things tighten up. so the inversion of the curve is there. there is debate among economists about the whether the curve is as predicted now as it has been in the past because a lot of weird things are going on out there. in europe, particularly japan we have negative interest rates and european against yesterday again announcing their will engage in more quantity. if you're looking at german, it's a treasury bond at negative 60 basis points, why would i do that? when i come over here and by u.s. treasury bond or whatever it is. it's a lot better than negative.
the government money, it makes no sense. so these flows have suppressed long rates here in the u.s. maybe the signal is not as strong as it has been historically. >> i think there is some validity to that. i will say a couple of things, the first, i've seen a lot of business cycles now and i see yield curves inverted in every time, you have them, and say this time is different. here's five reasons why. so if i come out and tell you this time is different, there's five reasons why, you might want to record it.
the other thing i point out, this time is different, it makes me really nervous. so maybe the curve is overstating but i will say, it's making a case. maybe not recession but a much slower growing economy. then you're very vulnerable to anything else that can go wrong. so maybe there's a bias issue we should account for but -- on the roadmap, this is our year out. the next thing to watch is consumer confidence itself. it generally falls only two to three months prior, generally one of the last things to go. consumers kind of oblivious to everything until all of a sudden my gosh, collective loss of faith and they run for the bunker. you can see that in the university of michigan survey,
survey done by the conference board. so far, confidence is holding up pretty well. one thing i will point out, we do watch google searches, for the words recession and the number of google searches for the word next recession is as high as it's been since the financial crisis in 2009. there are a lot of nervous people out there googling next recession. feels like they have their finger on the door to the bunker. they haven't opened the door yet but it's like they are reaching out for that bunker door. if they turn, they will turn pretty quickly. finally, another very good indicator, i know this looks weird but i'll explain it. this is the best indicator you are now in recession. to say the change in the unemployment rate, if it rises
by more than a quarter percentage points in three months, your toast, you're done. a treatment change, back to world war ii. you can look at the underlying data, this particular statistic takes the start of every recession since world war two. almost on a monthly basis on the nose. recessions are determined by a group of economists, subjective assessment of when a recession began. you may be thinking, who cares, with we are in recession, we are in recession. what's the big deal? i will point out, when you're in a downturn, we generally don't
know it for a long time. we are debating it and it goes to the quality of information data we have, the economic data can't pick up turning points in the economy, it's based on a survey benchmarked on employment insurance records once a year but they just recently announced the upcoming revisions based on the benchmark and unemployment insurance records which happened in january will not employment down by half million jobs. so it's the data, when you're in a recession, it takes a long time to figure that out. we seen an increase in three months and we are debating it, it's not a debate, we are in it.
i could go on but these are the kind of things we should be watching and equity market is also important. finally, part four, the policy response. logic would dictate that if we have an economic downturn, recession, the next one will not be typical. not a financial crisis. lots of debate as to why we got in but i think fundamentally the reason is that the problems in the economy also took up the financial system. mortgages started to fall, losses were more than the capital, the bank system held and required a government bailout.
without the bail out, it would be worse. once the financial system is infected, it's a whole different ballgame. that doesn't feel like it will happen largely because of the policy response after the crisis passed. the banking system is so much higher capitalized. it would take a dark scenario, it happens but then you see imbalances in the economy that you we see, that create proble problems, makes recessions more severe and lengthy, times past when we were more manufacturing and seeing lots of inventories,
you don't see that. more recently the real estate, housing markets, you don't really see that except the high end here in d.c. in philadelphia. we have an affordable housing crisis. a shortage of housing for low and moderate income families. this recession should be more typical but i point out a couple of things that make me nervous, first, europe is arguably already in recession and they have no way of responding to it of any meaning. the reacted this week by cutting rates but it's from negative basis points to negative 60, how
much support without support the economy? the only country that has me room for policies for the germans but they are pretty reticent to use that space. they don't appear to likely to use that. if we have political problems, their problems are very serious. you are too every european country, you got a large and growing populace moving that is very skeptic. you've got brexit over here. it's not hard to get to a scenario where europe goes into a deep recession and we have another crisis in europe. in my view, the european crisis is not over. it's coming back. it's just a matter of time. that could be now. they are getting stressed with a weak economy and rising unemployment. the other is the, here at home,
we don't have a lot of room, particularly the monetary policy. to give you a sense, we assimilated our model of the global economy assuming that federal reserve rowers interest rates, consistent with the markets now are expecting them to do. investors are fully anticipating the interest rate next week and two or three more times. if they do that, this gives you the best sense of the impact on gdp in the u.s., it's important. by the end of 2020, the level will be about a half a point
higher than otherwise. if the president files through on all of these tariff increas increases, likely about have a point, this will wash out some of the effect on the trade work. by the end of 2021, it's about a percentage. we need the feds to respond to the weakening economy. the concern is that they will run out of room, we are at a 2% target in a typical downturn, they lower it by 5%. we are at two. that is typical. so it's very likely if we get into recession, we will go to zero very fast. it will restart and buy long-term bonds and it's very likely we will have negative rates here.
we go into recession here, we will have a situation that's very similar to what's going on in europe and japan. it's a very upside down world and kind of scary. so we do need physical policy to step up in this environment and historically, that has happened, it shows stimulus, restraint, not just the physical policy, this distracts from the automatic stabilizers in the budget and tax code, this kicks in and part of law, insurance rises and we spend more about and the tax code is somewhat progressive so that helps cushion the blow of it. this is discretionary policy. you can see it can be quite
significant, i was her recovery act in 2009 and it shows the recovery act added about two and a half percentage points. for context, gdp declined by three and a half percentage points. so without the stimulus, it would have contracted six points. so instead of 10% which is where it peaked at somewhere around 13 or 14. so we do need that policy to kick in. we can see in 2018, 19, some of the stimulus was coming from a tax cut. they are now starting to get more government spending a month ago, we got a budget bill that passed to increase government spending. a couple things, first, if the
economy is weakening and recall into recession, i don't think we should be fixated on government budget deficit. i think it's a mistake that we have not addressed them in the last couple, three years when the economy has been performing well. it's time to make progress. once you go into recession, it's much more important to focus on getting the economy back on the rails and we should not be focused on deficit on that. finally, when i helped him a recovery act, giving policy
makers a sense of the benefit of different aspects of physical stimulus including government aid in getting them estimates of so-called pain for the buck, multipliers, how much institutions they provide to the economy. not at the very top of the list of multipliers, state and local fiscal. the magnitude, in 2009, the multiplier, the increase in gdp for a dollar of support, more aid for government or a tax cut by a dollar. the multiplier we saw was 1.7. for context, the highest was snapped, food stamps which was well over two. among the lowest were tax cuts for businesses. multipliers were about have a point. multipliers are not, they are a function of the economic
environment because interest rates are low and once they are lower, you get more juice. i think helping state and local governments through that recession will be critically important to the public's response. if they don't get that support in the context of low interest rates, recession will be much more severe. i covered a lot of ground. i was about 40 minutes and i'll turn it back to the group. >> we were doing it with cars -- in case you want to join. >> yeah, sure.
>> sorry, i didn't realize we had a process for that. >> we explained question through notecards, if you have questions, there should be no card on your packets and raise them up in our team welcome get them. so one of the questions is, i know you said we shouldn't say this time will be different but is our any way we could avoid recession? >> i think it's up to the president. if the president found a way to stand down on trade war relatively soon, i think we could likely navigate through without a recession.
that's my economic outlook. if i do pick a scenario i felt less likely, even given my first chart, i'd say the president will figure this out and if he hasn't already, he's said in the last few days, he's trying to figure out ways to kind of stand down, into an arrangement with china. i would fully anticipate that. on top of the economic processors. so i would expect him to find a way to come to terms with the chinese. i don't think we will get anything substance out of this arrangement, i don't think the chinese will play any error after all this but i do think it's likely he'll figure out a
way to reduce tensions. i'd be surprised if he actually followed through on tariffs. having said all that, i'm not sure we could say anything with any high level of confidence about the president and what he's going to do or how he's thinking about it. >> so uncertainty is not helpful. >> no. businesses, that's why they are so nervous. they can't figure him out
either. he could change things with the tweet. we did that a month ago. he changed things with her tweet. if you're a business person and you have to make a big investment decision, you're just not going to do it. which product is it on? these last couple of days, it's changed. how long will it be in place? all of these things and then things like for example, using american companies different economic activity from china to other parts of the world that the president wanted, he wanted to come back here and there's no chance of that happening. vietnam, for example is now the trade deficit there is lightning out and he's tweeting about that. can you imagine a business person listening to that? so it's those things that -- i'm speaking as a business person. i own a business. 2150 people work for me across the globe. it's a business. i'll give you a trade secret. this is something economists do.
they plug in numbers in excel and at the bottom it says return on investment or impact on economy. if you can't get the return on investment, you don't make the investment. it means you are not going to make a big investment. the uncertainty is quite significant. that's why he stands down and finds a way to reduce tensions but not reduce or eliminate terrorists. the economy is not going to get on that.
other options responding to recession? >> the most important thing states can do is prepare for recession. the u.s., i think they learned from experience of ten years a ago, rainy day funds. if we do suffer the typical downturn, i think most states have a much enough to maintain where it is to get through and not have to pull back. so that's the best thing to do, to think about this before you have a downturn, to prepare for it. one of the things we've been doing is helping state with their own stress test, you assume recession and see what happens to your bank, do your
lending and deposits, profitability and capital. i think the state should be doing that as well, stress testing their spending, what happens in an economic downturn and what kind of question and rainy day fund do i need to prepare? you need to prepare for financial crisis? no. if that happens, you will need help. there's not much you can do about that. if it's typical, you should be prepared for that. >> so in that case, could you do find that? >> a typical recession is, increase in unemployment. the unemployment rate rises three percentage points. so we are at 3.7, so around four is the typical.
it will put it around seven. that's particularly hi, particularly after ten. >> does it translate into a one year downturn? looking ahead, what you think? >> it depends on the state, the revenue base, some states have the stress test. some states have revenue bases much more simple than others. states like california or massachusetts, they generate a lot of income and revenue from capital gains and the income tax system so when times are good like now, they are making in a lot of money. when times are tough, they get great. they need a much larger rainy
day fund in a state where you have a much more stable unemployment rate. it depends on the state you are in. some states will have an increase of five -- six percentage points. your to take that into consideration as well. >> we have a couple questions on the same idea, we also heard talking about one of the goals was that when state cutback on their spending, it can have a negative effect. talk about how you describe that, you were talking to folks about the packages and how you
can talk to those who have not been throughout recession. >> it's important to remind people that the funds coming in are legible. if i have to spend more on medicaid for revenue, that will affect all my spending and support to the state economy. if i can provide support to the medicaid program, that frees up resources i could use elsewhere to maintain my spending and support to the states economy. the other point is that the
state and local governments spend is 141 with economic activity. it goes directly, it's like a direct injection. not like a tax cut are some of the cost of hiring household to save that money so the impact of that on the economy for a while is mitigated by the fact that there's a leakage or savings. state government spending, that's a direct injection into the economy. if i spend a dollar more, spend a dollar less, a one-for-one on what's going on in the economy. that affects everything more broadly. if the governor pulls back on spending and there are fewer jobs and less income, they spent less, it creates problems for the economy and can be significant. that's right the multipliers are so high.
it's a very important straightforward, nothing is easy but a way of helping support the economy in a difficult time. >> we are coming close to time. one recommendation for federal makers as they prepare. >> this is really important because recessions don't come along very often. this is why it's so important, you have this kind of conversation, this is an economic astrology. recessions at the start of every decade since world war ii, 1950, 60, 70, 80 and 90, 2000, the
exception is the last recession should have been 2010, but it was 2018, i blame the on policy makers. now 2020. june 20, 2020. you may ask, why is that the case? why does that happen? many reasons, one of the key reasons i think is that it takes about ten years for people to forget that the previous leaders and companies, people who work there, the other people who take over say, these guys are idiots.
i'm smarter, i know this better, i've got better data, i've got a i machine learning, what did you have? they think they forget so is very important to have this discussion and remember and think back because this time is not different. we will experience a recession. >> thank you. [applause] >> before we have governor douglas i'm to talk about what it is like to lead a state through our recessi