What Is an Economic Contraction?
Will there be an economic contraction in 2017? If history is any indicator, than yes, President Donald Trump will be at the helm when the U.S. enters a recession in 2017. This doesn’t mean the blame for an economic contraction will lay at his silk-slippered feet, though. The next prolonged economic contraction has been years in the making.
An economic contraction, or recession, is generally defined as an economic downturn that is marked with negative gross domestic product (GDP) growth that lasts at least two quarters.
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Because economic data from the previous quarter comes out a couple months after it ends, you never really know if you’re in a recession until it’s already started. In October 1929, President Herbert Hoover and his wife Lou Henry were attending the final game of the 1929 World Series in Chicago, blissfully unaware that the country had already entered the Great Depression.
An economic contraction is a natural part of the business cycle. Each business cycle has four phases: expansion, peak, contraction, and trough.
The dates of each cycle are declared by The National Bureau of Economic Research (NBER). A nonpartisan group, the NBER is the largest economic research organization in the U.S.
The NBER uses a number of key economic indicators to determine when each of the four phases begins and ends. Since 1854, there have been 33 contractions. The average contraction lasts 17.5 months. The average expansion lasts 38.7 months. (Source: “US Business Cycle Expansions and Contractions,” The National Bureau of Economic Research, April 23, 2012.)
During the expansion phase, the U.S. economy is growing, GDP is increasing, unemployment is below five percent, inflation is near two percent, and stocks are enjoying a bull market.
The peak is the second phase, and it’s the month when the expansion transitions into a contraction.
An economic contraction is like a roller coaster ride that begins at the top and ends at the bottom (the “trough”). During the early stages of a contraction, real personal income levels fall, industrial production declines, retail sales trail off, and unemployment rates rise. In the middle of a contraction, cash-strapped businesses start to lay off employees, sending unemployment rates higher, GDP starts to fall and turns negative. After two successive quarters, Wall Street declares a recession. This sends consumer and investor sentiment lower, unemployment rates rise, and stocks fall and enter a bear market.
The final phase is the trough, when the U.S. economy hits bottom. That’s the month when the U.S. economy transitions from the contraction phase to the expansion phase.
What causes an economic contraction? For the most part, expansions end and recessions begin when something unpredictable happens. A trigger could be the something like the collapse of Lehman Brothers Holdings Inc., spiking inflation, loss of confidence, and geopolitical issues.
What we do know though, with absolute certainty, is that the current expansion, which is the third-longest in history, will go out with a bang, just like very single other one.
Is the U.S. Economy Contracting?
Is the U.S. economy contracting? No, the U.S. economy has not yet begun the Great Contraction. Fourth-quarter 2016 GDP expanded at an underwhelming 1.9%, and overall 2016 GDP was 1.6%. That said, the Great Contraction could be just around the corner; after all, the U.S. economy is not nearly as strong as Wall Street wants you to believe.
A recession seems utterly unthinkable right now. The S&P 500 and Dow Jones Industrial Average (DJIA) are at record levels, unemployment remains below five percent, inflation is under wraps, the U.S. dollar remains strong, and consumer confidence is near record levels.
But, the fact remains, household debt is at its highest levels since peaking in 2008, with auto loan balances, credit card, and student loan debt growing. Over the last 10 years, U.S. household debt has increased 11%, with the average household now owing $132,529.00. (Source: “Household Debt Nears Pre-Recession Levels,” NASDAQ, December 14, 2016.)
That debt is going to get even more burdensome, with interest-sensitive credit rising in 2017. This will stretch already-threadbare household budgets. Almost half of all Americans (47%) say they would have to borrow money from family or friends if they had an emergency expense of just $400.00. (Source: “66 million Americans have no emergency savings,” CNBC, June 21, 2016.)
How can that be when the jobs data is so good? Sure, the official unemployment rate is below five percent, but the underemployment rate is 14.1%. The underemployment rate is comprised of those unemployed people who are looking for work and those who are working part-time but want full-time work. (Source: “U.S. underemployment rate from January 2016 to January 2017 (by month),” Statista Inc., last accessed February 28, 2017.)
In addition to an eye-watering underemployment rate, most of the job growth that has come during the so-called recovery has come from low-paying part-time jobs. Moreover, wage growth is non-existent. Consumers are out there shopping and confidence levels are high, but they’re putting their purchases on credit cards.
That doesn’t mean U.S. retailers are doing well. In 2016, Aeropostale Inc (OTCMKTS:AROPQ), Pacific Sun, and American Apparel Inc (OTCMKTS:APPCQ), sought bankruptcy protection while Sports Authority just decided to call it a day. And it’s going to get a lot worse for American retailers before it gets better.
The number of distressed U.S. retailers is at its highest level since the Great Recession. In fact, the number has more than tripled since the Great Recession and should hit record levels in the next five years. (Source: “Number of distressed U.S. retailers at highest level since Great Recession,” MarketWatch, February 28, 2017.)
On the surface, many economic indicators point to the economic expansion lasting for many, many years but, if history is any guide, the Great Correction is just around the corner in 2017.
The dominoes have started to fall.
How Long Will the Current Economic Expansion Last?
How long will the current economic expansion last? Let’s weigh the evidence. The U.S. has run through 33 economic cycles since 1854. The average of all 33 cycles is 38.7 months, or 3.2 years. The post-war average is 58 months, or 4.8 years. And the three expansions that preceded the financial crisis lasted, on average, 95 months.
Where does the current economic expansion fit in? We are in the third-longest expansion in U.S. history. The current expansion hit its 93rd month in March 2017. In June of this year, it will reach its eighth anniversary, making the long-suffering expansion 96 months long. That’s 66% longer than the 4.8 year average. And pretty much even with the last previous three expansions.
No economic expansion in U.S. history has lasted for more than a decade.
The second-longest expansion period began in 1961 and lasted for 106 months, a little shy of nine years. The longest expansion started in 1991 and was derailed by the dotcom bubble exactly 10 years (120 months) later.
That does not bode well for the current economic expansion and makes a recession all that much more likely.
How close is the U.S. expansion to its peak and the Great Correction? It depends on who you ask.
The banks are pretty optimistic about the U.S. expansion. Morgan Stanley (NYSE:MS) believes that the U.S. economic expansion will last until at least 2020. That would make it the longest U.S. economic expansion in history.
This would do wonders for the stock market too. If the U.S. economy continues to grow, Morgan Stanley believes that the S&P 500 would hit 3,000 by 2020. That would be a 56% increase from its January 2016 prediction (when the S&P 500 was at 1,922) and a 27% increase from today’s level of 2,365. (Source: “Why the U.S. economy could keep growing until 2020,” CNN, January 11, 2016.)
This poses an interesting problem. The longer an economic expansion lasts, the more relaxed that banks get when lending money. The longer an expansion lasts, the more confident and complacent that investors and lenders get. Banks are willing to lend to anyone, and investors, seeking growth, invest in riskier assets.
If history and underlying economic indicators are your guide, than the current economic expansion will not hit 2020. It will be lucky to escape 2017. We’ve already covered the economic reasons why the U.S. economy will start to contract in 2017.
As for history, since 1910, the U.S. economy has either been in a recession or entered a recession within 12 months of the end of a two-term presidency. We are not currently in a recession. That means there is a 100% chance that President Trump will face a recession in 2017.
How long will the current economic expansion last? No longer than 100 months.
President Trump and the Great Contraction of 2017
History shows that there is a 100% chance that Donald Trump will oversee a recession in 2017. Despite trillions of dollars in quantitative easing (QE), the U.S economy has failed to land on its feet and generate sustained GDP growth.
| Year |
GDP Growth Rate |
| 2008 | -0.3% |
| 2009 | -2.8% |
| 2010 | 2.5% |
| 2011 | 1.6% |
| 2012 | 2.2% |
| 2013 | 1.7% |
| 2014 | 2.4% |
| 2015 | 2.6% |
| 2016 | 1.6% |
It’s been a roller coaster ride since the Great Recession, with no discernible patter of sustained economic growth. And President Donald Trump is, no doubt, digesting the news that he did not in fact inherit a strong economy from outgoing President Barack Obama.
While President Obama spent his way out of a recession, the average annual GDP growth during his term as president was just 1.48%; the weakest growth cycle of any expansion since 1949. Obama also holds the distinction of being the only president to have never had one single solitary year of three-percent GDP growth.
In the fourth quarter, U.S. real GDP advanced just 1.9%, well below the historical average of 3.1% and below the expected reading of 2.1%. In 2016, U.S. GDP grew just 1.6%, the worst performance since 2011. (Source: “National Income and Product Accounts Gross Domestic Product: Fourth Quarter and Annual 2016,” Bureau of Economic Analysis, February 27, 2017.)
Looking ahead, economic data in the first quarter has been mixed. And it appears as though Donald Trump may have a hard time achieving his campaign trail goal of generating annual GDP growth of four percent.
In addition to $19.9 trillion in debt, and a deficit of around $560.0 billion, Trump wants to cut taxes and increase spending. Adding to the national debt and deficit is cobbling his chances of achieving that lofty goal.
The U.S. economy has not generated annual GDP growth above four percent since 1998 and 2000, when the average was 4.3%. And we all know what happened to the U.S. economy and stocks in 2000 and 2001.
For U.S. expansion to continue throughout 2017 and into 2018, President Trump’s tax cuts and spending must be timed perfectly. For this to work, Trump’s tax policy, which he calls “phenomenal,” has to have an immediate impact on consumers. If consumers have to wait until late 2017 to see any benefits, you can bet confidence levels will tank.
Continued economic expansion also hinges on Trump’s government spending translating into broad-based economic growth. If either fails, chances are excellent that Trump will need to navigate the U.S. economy through a recession later in 2017.
What about a global economic contraction? No country is an economic island (no matter their protectionist views) so it’s imperative that the global economy remain strong if Trump wants to achieve four-percent annual GDP growth and not have to deal with the Great Contraction.
Global growth is forecast at just three percent in 2017. In Organisation for Economic Co-operation and Development (OECD) countries, global growth is forecast at just two percent. In countries like the U.S. and Germany, GDP could come in under two percent. In the eurozone, the world’s second-largest economic region, GDP is predicted to be just 1.6% this year. GDP in Japan is expected to limp in at 1.0%. While in non-OECD countries like China, 2017 GDP is forecast at a paltry 6.4%. (Source: “General Assessment of the Macroeconomic Situation,” Organisation for Economic Co-operation and Development, last accessed February 28, 2017.)
The forecast for 2018, is not much better and, in most cases, worse. Global GDP is 3.6%, with OECD countries advancing 2.3%. Euro-area GDP is forecast to be mostly flat at 1.7%, while GDP in Japan will contract to 0.8%. In China, GDP will fall to 6.1%, and some predict it could fall to 5.5%, the worst growth in more than a quarter of a century.
If Donald Trump’s tax cuts and spending fail to generate meaningful growth, the OECD believes that global growth could be 0.4% weaker than projected in 2017 and 0.6% weaker in 2018.
Should Trump impose serious tariffs on Chinese and Mexican imports (or on any other major economy), global and national growth projections will be more dire.
If we’re in the midst of an economic expansion, it’s tepid at best. And perhaps it’s a little premature to suggest we ever really emerged from the last contraction.
A recession in 2017? Absolutely.
