In my last post, I pointed out the manufacturing sector was in the midst of slowing.  Evidence is starting to mount that the slowdown is starting to spread to different sectors of our economy.  

First, let's look at the volume of goods moving through our economy via ground transportation.  The chart below shows the year-over-year (YOY) percentage change in the Cass Freight Index.  June marks the 7th consecutive month of declines in this very important economic indicator. 
 



The next sector I want to highlight is housing.  New building permits are an important indication of future housing activity.  Housing activity also affects virtually every aspect of overall US economic activity.  June marks the 6th consecutive month of declines, on a YOY% change basis, in this indicator.  



Neither of these sectors say we are currently in a recession.  They do however confirm the slowdown in US economic activity is not only here, but spreading throughout important economic sectors.  I will be keenly focused on employment growth as we move through the rest of the year.  This sector's health will ultimately determine, both how aggressive the Fed gets with interest rate reductions, and whether the US economy can avoid a recession in 2020.
 

In my last post on March 1^st, I noted the growth slowdown my weekly model had projected, had arrived.  In the chart below,  you see various regional purchasing managers’ indexes (PMI) for their respective manufacturing area.  They appear to be confirming the slowdown is here as well. So, now that we are in the midst of slowing economic activity, what does it mean for community bankers?? 



The second chart idicates that according to the bond market, growth going forward is likely to remain a concern.  The chart is the visual of a probit model developed by the NY Federal Reserve.  It was built to analyze the term structure of Treasury yields, and based on their structure (i.e. inverted), calculate the probability of experiencing a recession within the next 12 months.  As you can see, we crossed a historically important line four months ago.  Since 1968, whenever the probability exceeded the red line, we have fallen into a recession within 12 months. Does this mean a recession is certain?  Well, no.  Nothing is certain but death and taxes.  However, this cannot be ignored because it implies two very important future events for bankers: falling short interest rates and a rising unemployment rate (think credit risk). 



If we extend the look-back period to 1953 on the NY Fed probit model, in October 1966, the model showed a high probability of entering a recession but a recession never came.  Why?  Because the Fed cut short rates aggressively in November 1966 and the unemployment rate remained low and stable as the Fed continued to ease rates into 1967.   



We are in a very similar situation today.  The odds of recession next summer are high, but if the unemployment rate remains low and stable AND the Fed begins to ease monetary policy aggressively, then we could see a growth slowdown rather than an outright recession in 2020.  The Fed funds futures are pricing in a 100% chance of a 25 bps rate cut and a 33% chance of a 50 bps rate cut at the July meeting.  They are also pricing in a 1.50% Fed funds rate by mid-2020. 


 
Regardless of how the future unfolds, I believe the evidence is overwhelming at this point.  The market is urging you to prepare your balance sheet (think cash flow) for a falling rate environment for the foreseeable future.

I have been writing for the last several months about the weakness in my economic models and how it was likely the US business cycle was peaking in 2018.    The implication has been that we should expect a slowdown in US economic growth and, well, it looks like it has arrived.  The growth rate in US GDP has slowed from 3.4% in Q3 2018 to 2.6% in Q4 2018, and the real-time forecast from the Atlanta Fed's GDPNow model is barely positive  The estimate stands at just .25% growth for Q1 2019. 



Below is an updated version of my weekly economic model.  This model began to fall off very sharply in October 2018 and actually turned slightly negative in early December.  Typically when that happens, as I have noted in the chart,  we can expect some kind of a central bank response to the weakening economic conditions.   This time was no exception and the actions were dramatic, especially from China. 



It appears, at least for now, those efforts may help avert negative GDP growth in early 2019 as the model has shifted to a slightly positive growth rate again.   Does that mean we are off to the races again for US growth?  This will be one of the many scintillating questions we will try and answer at the ALMEdge users conference on April 5th.  You can visit the event website for more information and to register.  Hope to see you there.