Seeing recession out the door

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By Cees Bruggemans

When will the recession end?

It will only be confirmed long after the fact, which is normal with economic turning points, as it takes time for factual data to accumulate, finally making a convincing case that the end has indeed come.

But for planning purposes there is little use in such after-the-event confirmation. Preferably, we want to hear well in advance when a turn is likely.

There is little reliable information on which to base such assessment. GDP has to stop falling and stabilize. The point at which GDP activity starts to rise anew is the moment in time at which we leave recession behind and enter recovery, expansion, a new growth phase.

Because the data takes so long in coming, on the demand side but also on the production side, we tend to rely on predictors to assist us in pinpointing this crucial economic crossover.

One way is to rely on leading economic indicators. This is economic data with a reliable history of turning BEFORE the whole economy turns. Evidence of such leading indicators turning up should heighten the likelihood of a general turn of events approaching.

Another is to ask people what they think is happening, something that also has a history of successfully peering into the futuristic fog and trying to discern a shape of things to come.

One major leading indicator is the stock market. It has quite a good history of turning up well in advance of the general economy.

A complicating factor today is that our stock market moves in union with foreign markets, mostly walking to the drumbeat of New York. But then our economies today are also more interrelated than ever, to a point where global events dominate local ones.

It used to be that our economy would turn only 18 months after America’s. Then the US lead narrowed to 12 months. Today the US lead appears to be minimal.

Indeed, the US leading indicator turned up as of December, with US GDP expected to start rising again from 3Q2009 (if not 2Q2009).

The SARB leading indicator, falling since March 2007, turned up this February, only two months after its US equivalent. Add six to nine months (4Q2009) and we could see the broader economy turning up as well.

Although our stock market reached its low point in November last year, a 40% depreciation of the Rand shielded us. Global equities seem to have reached a low point in early March 2009, since then bouncing by 30%.

This coincides with our leading indicator turning up. Add six to nine months and one once again ends up in 4Q2009 for a general turn.

On this score it is important to note that the biggest hit to our GDP occurred in 4Q2008. By 1Q2009 the level of activity in many sectors seemed to be in the process of bottoming out, even as some areas (motor and building trades) deteriorated still further.

If such a general bottoming out process can be confirmed in coming months, the macroeconomic stimulus of lower interest rates, undervalued Rand, increasing budget deficit and growing shoots globally could in time deliver a new cyclical upturn for our economy as well, especially if our confidence levels could be bolstered by global progress in the banking sector following the deep anxiety on this score of recent quarters.

BER opinion surveys have a history of leading by up to three quarters at cyclical peaks, but only by one quarter (at most) at cyclical bottoms.

On this score, the FNB/BER consumer confidence index has already been rising for three quarters, with its cyclical low (so far) being -6 in 2Q2008, followed by readings of -1 (3Q2008), -4 (4Q2008) and +1 (1Q2009).

Such readings of overall consumer confidence these past four quarters have been remarkably neutral (straddling the zero line where 50/50 optimism/pessimism is in balance) even though the broader economy has throughout these past twelve months deteriorated significantly, to the point of entering severe recession from 4Q2008 (though apparently only mildly felt in the retail trade other than durables and motor).

A closer correlation with this broader economic profile may be obtained in the current cycle by focusing more specifically on White consumer confidence.

It has declined severely in recent quarters, registering -15 in 1Q2009 (the worst such reading since 2002), with confidence about whether now is a good time to buy durable goods deteriorating even more to -31 by 1Q2009. Both these readings suggest large and growing pessimistic majorities.

This is a lot more similar to RMB/BER business confidence index readings, which have also steadily fallen throughout last year, reaching 27 in 1Q2009. This is a very low level traditionally associated with recessionary conditions (as only 27 out of 100 business respondents indicate confidence).

The FNB building confidence index has similarly fallen to a recessionary low level of 28 in 1Q2009.

All these readings will need to rise for a cyclical turn in the broader economy to be imminent. With our interest rate cycle advancing steadily, the prime rate having been lowered from a peak 15.5% last December to 12% today and probably 11% by late June 2009, one important requirement is being put into place.

Another requirement is that the global situation is seen to be improving, especially the banking and credit crisis, and what this means for the stock market and job prospects (depression or recovery).

Global crisis conditions seem of late to be waning, and global stock markets have been rising for two months now with more upside gains predicted by yearend. If anxieties associated with these developments were to subside further in coming months, it would probably boost the prospect of confidence and a change in local conditions as well.

This is already being borne out by the Investec PMI index, another BER opinion survey among local purchasing managers. Though this index dropped further in April 2009 to a cyclically depressed level of 35, its new orders, inventory and expected business condition components are sending out relatively bullish signals, on a par with such global PMI survey readings.

This accumulation of evidence is making the 2Q2009 and especially the 3Q2009 readings for RMB/BER business confidence and the white consumer confidence component of the FNB/BER survey potentially very important.

It could well be that the 2Q2009 readings are still lower in both instances, given the poor performance of the economy so far to date. But interest rates are steadily being cut, global perceptions are lifting, stock markets are rising, the general election is behind us and real sector data (also locally) is suggesting that the economy is starting to stabilize in important areas rather than continuing falling away.

This could prepare the ground for at least a turn up in confidence surveys in 3Q2009, thereby potentially heralding a turn up in the broader economy from 4Q2009. This would also coincide with the behaviour of leading indicator signals mentioned earlier.

Source: Cees Bruggemans, FNB, May 11, 2009.

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