Friday, October 30, 2009

Recession Indicator Shows Q3 Recession In The US

As I was writing yesterday, there seems to be something fishy about the alleged 3.5% annual rate growth in America in the third quarter. If the real value of production is increasing shouldn't real income increase too? The purpose of production is to generate income-wages/salaries for workers, profits for capitalists and interest for creditors, and theoretically the real value of income should increase as much as the real value of production. Yet real income seems to have fallen in the third quarter judging by the components of national income (all components except corporate profits) included in yesterday's release. There would have to be a real big increase in profits to even make real national income show positive growth-and it would have to be almost impossibly large to produce a 3.5% increase.

Part of this mystery can be explained by a worsening terms of trade (adjusted for that, real GDP rose 2.8%), but most of it seems to be the result of an ever widening "statistical discrepancy". Most likely, the truth lies somewhere in between the negative change of the value of real income and the 3.5% official increase in the value of real production.

Illustrating this fact is that at least two of the five official recession indicators used by the NBER to determine when recessions begins and ends, are still negative. These two indicators are payroll employment and real disposable income excluding transfer payments (Transfer payments are properly excluded because increases or decreases in those have no link to the value of economic activities and is instead the result of fiscal policy decisions).

Real disposable income excluding transfer payments peaked in Q3 2007 at $9,671.1 billion (in 2005 dollars) and has fallen every quarter (except Q4 2008 when the economic slump caused a big increase in real wages while retained corporate earnings dropped sharply) since then. In Q3 2009 it dropped 3% at an annual rate from the previous quarter to $8,967.1 billion. In September, the number was even lower than the third quarter average, at $8,941.7 billion.

While real disposable income excluding transfer payments is not a perfect indicator because it does not take into account fluctuations in retained corporate earnings, it still gives us a good hint about how the economy develops. While retained corporate earnings probably rose from the previous quarter it is difficult to see how it could have risen enough to make real national income increase even close to 3.5% (It would have to have a quarterly rise of $75 billion just to push it above zero) or even 2.8%.