Tuesday, January 24, 2017

Flat Lines – Very Flat Lines

When the smoke began to clear from the economic crash known as the Great Recession, economists hoped for a V-shaped recovery. In a V-shaped recovery, the economy recedes but then snaps right back after the economic shock.  When the economy starts to revive, there is a big boost in business and consumer spending, leading to rapid job growth.  This spurt in activity is similar to people being cooped up after a long winter and then frolicking on the first warm day of spring.

At that time, some economists warned that recessions caused by shocks to the financial system, as was the case here, often take many years to recover from.  They cited Japan’s “Lost Decade” as an example.   More optimistic economists rejected this argument, saying the U.S. economy was much studier than Japan’s and would bounce back much quicker.

Many other economists predicted a U-shaped recovery.  In the U-shaped recovery, the economy recedes, stays sluggish for some time, and then begins a strong recovery. 

Well, we definitely didn’t get a “V,” and we couldn’t get a “U,” either.  Unfortunately, the freight sector did suffer a “lost decade” in that it took ten years for freight levels to match pre-recession highs. Manufacturing employment also has not yet recovered, but automation and globalization have also restricted this number during the time period, so comparisons are difficult.

So, what do we call this long, slow slog of a recovery?  I propose labeling it the “Division Bar Recovery” because graphically there is a slanted vertical line with a long horizontal line attached to the right of it. This represents the economy making a small recovery then flat-lining for an extended period.

Analyze this!
This concept of a long, flat line (let’s say around 2% GDP growth) is intriguing.  Sure, there have been some ups and downs from quarter to quarter, but, get far away enough from the graph and look at it in its historical context, it’s a flat line.  This means economists have been trying to analyze a flat line for around five years! 

Data is collected, analyzed, graphed, and trended. We want to see trends and get paid to see trends, so therefore, we do see and report on trends. Thus, the economic growth line is studied intently and minutely, and this leads to:

“Whoa, the line is going up! Something good is happening.”

“Warning, the line was going up, but now it’s going down! It might not stop.”

“The line went up, then it went down, and now it’s back to the middle. It is not expected to go up, unless it goes back down.”

Frankly, you can’t fault economists for doing this.  To quote a popular television commercial, “If you’re an economist, you analyze data, it’s what you do.” Economists have had to deal with a unique economic environment, combined with broken, unreliable economic indicators. This has made forecasting anything even more challenging than normal.

However, even though the economy has not cycled much, the Class 8 truck market has continued to cycle as in the past, with a high peak in 2015, and a reasonable bottom (down around 35%) expected in 2017.  How this happened is still a mystery.  If you would have asked me a few years ago if the truck market could still cycle if the general economy didn’t, I could have given you at least five reasons why it would never happen. But, of course, it just did. I’m sure analysts in other industries are dealing with their own anomalies.

In addition, historically, the demand for commercial trailers was highly correlated with Class 8 trucks as is highly logical.  Except that in Q3 2015, demand for trailers stayed strong while Class 8 demand began to plummet.  The primary reason for this is Dry Van use was so low during the Great Recession, old units were not replaced, that many trailers were inactive for an extended time which altered the trade cycle.  This resulted in a huge pent-up demand for van trailers, which has continued to prop up sales.  We see similar pent-up demand in the auto market, because cars are being driven longer due to the Great Recession and the subsequent weak recovery. It messed up the trade-in cycles here, also. What happens in these two markets when the pent-up demand runs out? No one really knows, because there is no trend data to go by and it is difficult to accurately measure pent-up demand.  Auto sales are forecast to fall 5% this year, and Dry Vans to drop 15% (FTR forecasts).

Tracking this economic recovery is like watching a movie that has no plot. Sure, lots of stuff happens, but it is all unrelated.  The action goes nowhere. You end up totally confused by what’s happening and are highly uncertain about what will happen next.

Economists remain perplexed in this environment. If you look back over the past several years, you see a straight line. If you look at the current conditions, you see no trends. There are no discernible factors which will change current conditions in the short-term.  Therefore, your forecast must be…wait for it…a straight line.

If the economy were a person, he suffered a major trauma during the recession, started to recover, and then went into a coma.  He has flat-lined at a certain level, but his vitals are good. He is not dying, yet he is not thriving either.  An “economic coma” is a good description for the past several years.

Now there is a new physician, Dr. Trump, proposing to inject the patient with a new drug: a mixture of new and old chemicals. Will the patient come out of the coma and start to thrive? Will the injection make the patient ill? Will the medicine have any effect, or will the coma continue?  All of a sudden, this movie has a plot, with heightened drama and some tension. Stay tuned.  
 This post first appeared on the FTR website.  FTR is the leader in analyzing and forecasting the commercial transportation industry.  For more information on FTR reports and services, please click here.)