Economic indicators tell story

Money Report

This day in the markets: Oct. 1, 1907

“Currency is in short supply due to reckless over-speculation, and the stock markets have been weak all year. Suddenly, the public panics and begins a run on banks across the nation. In New York, thousands converge on the Knickerbocker Trust Co, which is forced to close its doors within two days. President Roosevelt asks his archenemy J.P. Morgan, to come out of retirement and deal with the crisis. Morgan and his friends import $100 million of gold from Europe to shore up the currency, and the panic is averted. The quick fix, however, does nothing to offset the Depression of 1907, which follows soon after.”

Since the end of February, investor sentiment has risen like a phoenix from the ashes of pessimism and despondency. The fear of another Great Depression is no longer driving the markets; despite recent pullbacks, stocks have come barreling back from their spring 2009 lows to stage a spectacular recovery. From now on, the economic fundamentals are more likely to have the most influence on the direction of stocks and the financial markets, and investors are carefully parsing the economic data for the indications they give us.

The rollout of economic numbers and indicators each month are like teasers, bits and pieces of data on the economy, glimpses into the reality behind the numbers. Unfortunately, it can be hard to sort and organize these data and interpret them in a simple and useable fashion. After all, we aren’t economists. These numbers reflect an enormous and organically developing economic system, with regional, national and global perspectives, and it can be a very daunting to bring it into focus. In any case, here is a useful framework you can use to process some of the most watched and relevant economic numbers.

We can start by considering economic indicators as either procyclical or countercyclical. Procyclical indicators move in the same direction as the Gross Domestic Product, or GDP (more on that later.) Countercyclical indicators move in the opposite direction of the economy. The unemployment rate, for instance, is a countercyclical indicator, which moves higher as the economy goes lower.

Next, you can sort the data into three further categories, leading, lagging and coincident indicators. These are critical distinctions; every day on the news networks would-be pundits and market commentators interpret economic data without regard for whether it is leading or lagging (and come to some outlandish and erroneous conclusions).

Leading indicators tend to change direction before the economy. While the stock market is the most visible leading indicator, some other important leading indicators include changes in business inventories, new home construction and new unemployment claims.
Coincident indicators move with and in the same direction as the economy. Most commonly watched coincident indicators include overall consumer spending, the inflation rate, as measured by consumer and producer prices, and the all-important growth in the GDP.

In the past, the gross national product, or GNP, was the number most commonly used to monitor the output of the economy and its components, although these days economists tend to use the GDP, or gross domestic product. To understand the difference, consider that the GNP represents the value of all the goods and services produced in our economy, plus the value of the goods and services we import, less the value of goods and services we export. The gross domestic product, or GDP, however, is the market value of all the goods and services produced by labor and property located in the U.S.  For example, a German-owned BMW factory in Spartanburg would count in the U.S. GDP, but in the German GNP.

Lagging indicators, such as the unemployment rate, generally change after the economy does, and should only be used to confirm trends in the economy, not to predict. The unemployment rate is usually defined as the percentage of the population willing to work for the current market wage (for someone of their skill level), but unable to find employment. It doesn’t include people who have given up looking for work, or those who are underemployed. In a recent discussion, the Atlanta Federal Reserve president Dennis Lockhart suggested that the real U.S. unemployment rate (including those two groups) would be around 16 percent. This is in contrast to the reported unemployment rate, now 9.7 percent.  Considering the U.S. population is roughly 307 million, the numbers make an enormous difference.

Steven Weber, Gigi Harris, and Frank Weber, are advisors and staff of The Bedminster Group.  The Bedminster Group provides fee-only investment, estate and financial planning services. The information contained herein was obtained from sources considered reliable. Their accuracy cannot be guaranteed. The opinions expressed are solely those of the authors and do not necessarily reflect those from any other source. Mutual funds are offered by prospectus only, and discussion of investments should not be taken as a recommendation to buy or sell any investment.