EMU Is in a Recession! Really? Will Someone Please Tell the Labor Market?
I'm reading stories today about how Europe is now in recession. There was a revision to GDP growth for the European Monetary Union that puts first quarter growth in negative territory at -0.4% (annualized Q/Q) matching it with a -0.4% (annualized Q/Q) change in the fourth quarter. This magically gives us two quarters in a row of negative GDP growth – and… here we go again.
Is 1+1=2 the ‘technical definition’ of arithmetic? I have long railed against using this ‘rule of thumb’ as an unimpeachable definition of recession. I am completely opposed to anyone using the expression ‘two consecutive quarters of negative GDP growth is a technical definition of recession.’ When was the last time you ever thought of 1 + 1 equaling 2 being something that was technical? There was nothing technical about this. It is, in fact, what we economists call a ‘rule of thumb,’ and that denigrates the concept to something that more accurately describes what it is. It's an exaggeration or a simplification of an underlying process that is much more complicated than the rule that we are applying to it. In this case, two consecutive quarters of negative GDP growth is a gross simplification of what are rather complex underlying economic processes. In the U.S., the NBER uses 3-concepts to vet a period as recession: (1) Is the period of economic disruptions long enough? (2) Is the disruption deep enough to be termed ‘recession?’ (3) Is the disruption broad enough across the bulk of the economy? One plus one equals two glosses over most of that.
Not long, not severe, a breadth of discomfort…not pain More to the point, this is a two-quarter decline in GDP that's less than 1% at an annual rate - and that's true even when the two declines are combined! I thought that we put this nonsense behind us in 2022 when everyone failed to call two key back-to-back declines in quarterly U.S. GDP a recession. U.S. GDP in the first quarter of 2022 declined by 1.6% at an annual rate; it declined in the second quarter at 0.6% at an annual rate. These are combined annual rate declines much larger than what we're seeing in the European Monetary Union. And yet we denied calling that a U.S. recession. One of the reasons for this was because the rest of the economy was performing quite well. The labor market continued to perform extremely well and so it was quite clear to everybody that this ‘rule of thumb’ had failed. In the European Monetary Union, the unemployment rate continues to drop. The economy has been under some stress. But I'm still quite against using this two-consecutive-quarter of GDP decline rule to call a recession now.
U.S. GDP Q/Q Annualized vs. EMU on the same basis
The folly of the terms 'growth recession' When we plot the U.S. and the European Monetary Union data on the same chart, these changes in GDP do not look like very much at all. The point here is that a recession is a special kind of economic event. And, in recessions, economies tend to create large amounts of unemployment and other distress. There tend to be credit problems. Recessions are not just periods when GDP slows down relative to trend. Several years ago, in the U.S., economists tried to coin the expression “growth recession” to characterize a period when the economy had slowed down and was still growing but was performing poorly and abnormally. However, at that time, conservative economist Herb Stein wrote a wonderful Op-Ed piece in the Wall Street Journal in which he said that calling a period of GDP slowing a recession would be like him calling his Great Dane (a Dog) a growth horse. His point is that a dog - no matter how large - is still a dog; it is not a horse. And a recession is a completely different animal from a period of growth, however weak growth may be.
Skinning your knee is not breaking your leg These periods have very shallow GDP declines, and, in this respect, I would call them technical declines because they're not very substantive declines. They hardly transmit a great deal of stress to the economy in any way. In fact, the GDP declines chronicled in the charts above are annualized quarter-to-quarter rates. If we were forced to round them to say single digit growth rates (to the left of the decimal point), the two European Monetary Union growth rates would be set to zero not to a negative number. The two U.S. growth rates, that did not mark the onset of recession, would have seen one of them presented as a -2% growth rate and the other as a -1% growth rate - if they were forced to be referred to in single digits to the left of the decimal point.
A closer inspection of the European accounts finds a 1% decline in private consumption at an annual rate in the first quarter matched against the 6% annual rate decline caused by the public sector. Gross capital formation falls off by 3% at an annual rate. Public construction falls at a 2.3% annualized rate. Exports fell at a minor -0.3% annual rate. Meanwhile, imports that are a subtraction from GDP and buffer the decline in the other categories, decline by 5.1% at an annual rate. Domestic demand falls at a 3% annual rate in the first quarter, compared to a 4.8% annual rate in the fourth quarter. These follow strong increases in the previous two quarters. Year-over-year data show us that the only two declining major GDP components are public consumption and public construction. It’s a public sector led recession!
The job market is oblivious In the meantime, the unemployment rate in the European Monetary Union has continued to perform well. The rate fell to 6.7% in April 2022 and stayed there until it fell to 6.6% in January 2023. It stayed there until April 2023, when it declined to 6.5%. So, through the ‘hurricane’ of this two-quarter recession, the unemployment rate has clung to its unemployment cycle low and upon emerging from two quarters of ‘recession’ in April 2023 the unemployment rate promptly fell to its lowest rate since the Monetary Union was formed. If this is recession- let’s have more!
Robert BruscaAuthorMore in Author Profile »
Robert A. Brusca is Chief Economist of Fact and Opinion Economics, a consulting firm he founded in Manhattan. He has been an economist on Wall Street for over 25 years. He has visited central banking and large institutional clients in over 30 countries in his career as an economist. Mr. Brusca was a Divisional Research Chief at the Federal Reserve Bank of NY (Chief of the International Financial markets Division), a Fed Watcher at Irving Trust and Chief Economist at Nikko Securities International. He is widely quoted and appears in various media. Mr. Brusca holds an MA and Ph.D. in economics from Michigan State University and a BA in Economics from the University of Michigan. His research pursues his strong interests in non aligned policy economics as well as international economics. FAO Economics’ research targets investors to assist them in making better investment decisions in stocks, bonds and in a variety of international assets. The company does not manage money and has no conflicts in giving economic advice.