Chart of the Day – Gauging Recession Odds

by Enis November 6, 2012 12:03 pm • Commentary

As we approach the fiscal cliff, the media will surely latch on the implications if we go over the cliff. I am relatively certain that we won’t go over the fiscal cliff with full force.  I expect that it will be another kick-the-can-down-the-road exercise.  The real question rests on the nature of the compromise.  My guess is any immediate hit (from less spending, higher taxes) will be contained to 0.5-1% of GDP.

Will that lead us to recession territory?  The odds are still against it, but some economic indicators have clearly deteriorated in the past few months.  The Pragmatic Capitalism blog had a good chart today showing Recession probabilities from the St. Louis Fed:



For the first time since the last recession, the indicators are indicating a non-neglible chance of recession.  PragCap’s author, Cullen Roche, offered his thoughts on it:


Here’s an interesting new data point that the St Louis Fed has put together to calculate recession probabilities:

“Recession probabilities for the United States are obtained from a dynamic-factor markov-switching model applied to four monthly coincident variables: non-farm payroll employment, the index of industrial production, real personal income excluding transfer payments, and real manufacturing and trade sales. “

Click here to find out more!

What’s interesting about this index is the current reading.  At 20%, the index is at a level that has ALWAYS been followed by a recession.  As you can see below, the index has never approached 20% without a subsequent recession.  All 6 recessions since 1967 have coincided with 20%+ readings in the US Recession Probabilities index.

Interestingly, I still don’t see recession in my internal indicators.  Those indicators have been right for a long time now (in the face of some very public recession predictions by reputable people).  So I am afraid when my internal indicators point to “no recession” when an indicator like this clearly puts that opinion in the “this time is different” category….


Enis again.  I am a believer in business cycle theory, and think we are on the downdraft of the business cycle here in the U.S.  Many other regions are much closer or already in recession (Europe and Japan).

Again, 20% is not high odds.  And the fiscal cliff will likely be averted.  But the bullish arguments for stocks over the next 6 months seem to getting fewer as each month passes.