Stocks & Employment in a Recession
Kurt Brouwer April 1st, 2009
Unemployment usually peaks just at the end or even after a recession has ended as this chart from the excellent Calculated Risk blog shows:
Source: Calculated Risk
In this chart, the vertical bluish bars indicate recessions and the blue lines indicates the unemployment rate. The red line shows year-over-year changes in employment. As you can see, the unemployment rate typically peaks at the end of a given recession. In fact, for the past two recessions, unemployment did not peak until well after the recession had ended.
The next charts from the interesting Zero Hedge blog, illustrate another common phenomenon, which is that the stock market often begins climbing even while the recession is underway and the rate of unemployment is rising. The charts cover a number of past recessions dating back to 1953-54.
Source: Zero Hedge
The orange-yellow lines represents the rate of unemployment and the blue line represents the S&P 500. From this we can see that, in the past, stocks have frequently turned around well before a given recession (gray bars) ended. In addition, we can see that unemployment often continued going higher several months after stocks had turned up. And, unemployment frequently did not peak until after the recession had ended.
The last chart is from the 2001 recession, which was very short. It would have been even shorter, but for the fact that we had the terrorist attacks of September 11. The stock market did not begin moving higher until later in 2002.
Why has the stock market typically moved up before the economy has turned? No one really knows the answer, but the best one I know of is that the market tends to look ahead roughly six to nine months out. That is, stocks head higher as a forecast of better economic times ahead.
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Kurt,
This is a good presentation of the patterns in a typical recession. Implicit in your presentation is the idea that this time as well the stock market indices should trough before GDP and unemployment should peak when the recovery begins. But what we’re going through right now is also a financial crisis.
I want to remind you of the 14 historical financial crises that Rogoff and Reinhart looked at. The average length of the recession was 1.9 years. On the other hand stock markets declined for an average of 3.4 years and unemployment did not peak until an average of 4.8 years had elapsed. And it’s not just a matter of averages. There were only two cases (Finland 1991 and Argentina 2001) where a stock market recovery preceded an economic recovery in a financial crisis. The pattern for unemployment is slightly more variable. There were four cases where unemployment peaked at or before the beginning of the recovery (U.S. 1929, Finland 1991, Thailand 1997-1998, and Argentina 2001). Rogoff and Reinhart don’t seem to explain why this pattern holds, only that it does. Here’s the paper again for those who don’t know what I’m referring to:
http://www.economics.harvard.edu/faculty/rogoff/files/Aftermath.pdf
I suspect what the stock market is experiencing now is just the sixth (by my count) bear market rally in a series that could extend into 2011 before things turn around for sure. And it could be 2013 before unemployment finally peaks.
My best educated guess right now is that the recession will last 20 months which seems to put me near the professional consensus. (I think there may already be indications that the rate of decline is slowing.) But Roubini still thinks the recession will last 24 months. And the outlooks by the OECD and Wachovia are similarly pessimistic. Both of those are forecasting negative GDP growth through the fourth quarter of this year. Menzie Chinn posted the summary table from the most recent OECD interim report (what I am referring to):
http://www.econbrowser.com/archives/2009/03/a_table_and_a_p.html
Mark — When I post something like this, I’m not predicting that the future will always look like the past. Rather, I’m giving information that should be useful.
In most previous recessions, stocks have turned the corner before unemployment peaked. However, as I noted, that did not occur in the 2001 recession because we had a very significant exogenous event — 9/11 — that swamped the normal economic process.
You may be right that stocks will not recover until 2011, but that would imply that we are in a Great Depression scenario in which stocks fell from 1929 until 1933.
The paper you cite from Rogoff et all is one that I have read and considered and with which I have lots of points of agreement. However, the simillarities between the U.S. economy in this crisis and Argentina in one if its many crises is a stretch IMO.
The relationships shown above are actual historical examples that I thought were — and are — worthy of consideration.
“You may be right that stocks will not recover until 2011, but that would imply that we are in a Great Depression scenario in which stocks fell from 1929 until 1933.”
That is precisely what I am implying. Moreover that is what Rogoff and Reinhart are implying:
http://online.wsj.com/article/SB123362438683541945.html
P.S. My previous comment has still not been moderated.
Mark — Do you have a concise description of your reasons for believing we are in a depression? Let me know.
Official product inflation in Argentina is 10% but real product inflation is 22%.
The Argentinean government does not only fake inflation values but also unemployment rate values.
When they say 7% of unemployment it means that the real value is about 12%.
Since the global economy right now cannot help any first nor third world country, and also Argentinean presidents keep heavy-taxing exports, companies are really having a hard time employing people and selling products outside the country which is one of the main reasons that Argentinean unemployment is always high and growing.
The last but not least reason that unemployment will keep rising in Argentina is because presidents of Argentina are rising minimal wages to a point that a company cannot hire more than a half of people that the company really needs because they don’t have all that money to waste in unskilled labor force such as the Argentinean one.
So instead of hiring 2000 employees they hire 500 and make them work like they were 2000 so you have 1500 more unemployed people with no earnings at all and 500 people that are always super busy and get a first world country wage…
But i bet that those 500 employed ones don’t share their salary with the other 1500 unemployed people…
Argentina used to be the riches country in Latin America. Now it’s already becoming one of the poorest not only in Latin America but also in the whole World.