March 10, 2003

Increasing Business Cycle Pessimism

Morgan Stanley's Global Economic Forum revises downward its estimates of U.S. growth in the first half of this year:

Morgan Stanley: Richard Berner and David Greenlaw (New York): Although we revised our U.S. and global economic forecasts sharply lower only two weeks ago, rapidly changing events call for more frequent revisions (see "Tipping Point?" Global Economic Forum, February 24, 2003).  Energy and sentiment shocks are pushing the U.S. economy to the brink of recession.  The surge in energy quotes has put a heavy tax on both consumers and businesses, in our view amounting to some $60 billion at an annual rate in the first half of 2003, and the tally could be higher.  The energy shock has hit a weak global economy, and that weakness represents an additional burden on U.S. growth.  Laid on top of the uncertainty related to impending war with Iraq, this shock could be the final blow that pushes the U.S. economy over the edge.  It's a close call, but we think that the economy is resilient enough to skirt an outright downturn.  Moreover, lower prospective energy quotes, additional policy stimulus, some pent-up demand and reduced risk aversion should promote a lasting rebound.  In what follows, we explore the risks to our baseline scenario.

The economy deteriorated rapidly in February.  Capped by a horrific employment canvass, incoming data portray a complete reversal in February of January's emerging economic vitality.  The call-up of military reserves, a return to colder weather and the unwinding of a surprising January bounce in employment may have exaggerated the 308,000 February plunge in nonfarm payrolls.  Yet the decline depicts employers retrenching across the board, and the further elevation in early-March jobless claims data suggests scant improvement.  Likewise, consumers retrenched in February, and while the President's Day blizzards temporarily depressed spending, the energy shock and uncertainty were also culprits.  Both the tepid ISM survey and the 0.8% slide in factory hours worked point to a prompt manufacturing response.  Concurrently, higher energy quotes have triggered plant shutdowns, as soaring natural gas prices simply made operations unprofitable.  Thus, even with some pickup beginning in April, the economy likely stalled in the spring quarter.  First half growth of less than 1% now seems likely, compared with our 1%-plus estimate just a fortnight ago...

Posted by DeLong at March 10, 2003 06:41 AM | TrackBack


The Blue Chip survey for February whittled its median GDP forecast by 0.4% in Q1 and Q2, but left the second half untouched. That seems odd. The dynamics involved in economic activity seem to call for some difference in subsequent periods given a change in earlier periods. Anyhow, the Blue Chip guys also observe what Berner and Greenlaw observe -- that rotten February results follow on the heels of better than expected January results. Ignoring the energy price problem for just a moment, a pretty bad month following a pretty good month shouts out for the standard "one month does not a trend make" observation.

Now that the moment is over, the implications of energy prices are pretty dire. The standard view of the impact of energy prices is that persistence counts. We are seeing persistence. Give me a spike to $50 a barrel followed by a return to the 5-year average price over months steady prices in the of upper 30s any day.

Posted by: K Harris on March 10, 2003 08:17 AM

>>the impact of energy prices is that persistence counts

Does anyone know if the short run elasticity of demand for oil is still about -10% of the price change? It suggests the markets are pricing in a loss of 3.5 million barrels/day. That's about right if you add up Iraq+the part Kuwait will shut down plus the lost part of Venezuela.

We'll know soon enough if it is persistent once we can count the number of wells not on fire.

Posted by: snsterling on March 10, 2003 09:03 AM

Don't they realize we're on the verge of a massive tax cut which will release the entrepreneurial spirit of the American people and give them back more of their own money, thereby unleashing untold prosperity?

Posted by: richard on March 10, 2003 10:23 AM

Sterling - Sorry, I did not read your comments properly and so complained.

Persistence does count. In 1991, there was an ample supply of oil but a fear of loss of supply. Now, there is a tightness in supply and some worry that there may be additional loss of supply. There is no reason to believe oil prices will fall below 25-30 dollars a barrel anytime soon.

Posted by: dahl on March 10, 2003 10:26 AM

"Don't they realize we're on the verge of a massive tax cut which will release the entrepreneurial spirit of the American people and give them back more of their own money, thereby unleashing untold prosperity?"


Posted by: anne on March 10, 2003 10:41 AM

Didn't the majority of recent recessions occur after a rise in energy prices? Maybe the most
damage from the war will be the chill of higher oil prices.

The standard view of the impact of energy prices is that persistence counts.
I read somewhere that $25/a barrel was the proper balance point to price oil and allow for a growing economy. So what does $50/a barrel do? Is it possible that this foolish war is going to sweep the world into depression? Japan is on the ropes. Germany is moribund. US consumer spending is slowing. US business spending is static. The housing bubble is showing signs of bursting.

What about the economic effect of a "Perfect Energy Storm" where Venezuela is shut down with revolution, the Alaska pipeline is breached by terrorists (most likely Seymour Hersh), Nigeria has (more) social chaos and the Middle East in is flames? Violence is also a meme and if it is ok for the good old USA to use violence to solve political issues then....

Posted by: Troy McClure on March 10, 2003 10:54 AM

Come on, guys, don't be selfish : the Russians are dancing with joy....

Posted by: Jean-Philippe Stijns on March 10, 2003 11:52 AM


Timing and what leads to what are always subject to disagreement, but yup, that's pretty much right. will allow you to chart energy prices and stick in recessions, to see the relationship, though only back to 1982.

Posted by: K Harris on March 10, 2003 12:06 PM
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