Bubble Rewrites 'Rules' on Recession/Recovery

Now I want to touch base on the economy, for a moment. Reading my column from last April, which I cited in yesterday's Rap, I was struck again by how remarkably consistent the bullish argument remains, even as the earlier arm-waving has been proved wrong. What folks expect right now is exactly what they expected in 2002 and 2001, and really have been expecting ever since the market peaked -- i.e., for things to get better right away. There seems to be very little understanding of the fact that we had a bubble, and what it means.

'Deja-Voodoo,' Says De Voe: So far, every rally in this bear market has been a head fake for folks who've gotten bullish for the long term simply because we had a rally. They've always held up the rally as proof the economy's coming back. Last night, I was reading a recent report by Ray De Voe that hammers away at this point. It's so useful that I thought I'd share some of his comments with readers. He writes:

On January 4, 2001, the Fed made the first of its 13 interest rate cuts, and virtually every economist stated something similar to 'The economy normally responds to the Federal Reserve cutting interest rates with a time lag of six to nine months. Thus, there should be a strong recovery in the economy during the second half of 2001.

The July 2, 2003, Wall Street Journal published the results of its survey of 54 economists on their expectations for Gross Domestic Product (GDP) growth over the next four quarters -- along with other economic forecasts. In the January 2003 survey, the average GDP growth forecast by the 54 economists for the first quarter this year was 2.7%. The actual figure was about half that, 1.4%, and could have been even lower. The average GDP growth rates forecast by those economists for the next four quarters were, respectively, +3.5%, +3.8%, +3.8%, and +3.7%. What a statistician with a memory and extensive files would also note in comparing those averages for GDP growth is how similar they are to the July 2002 survey results, and that they are not materially different from averages for the July 2001 survey.

I have commented on this before, that during economic expansions, economists tend to extrapolate the past into the future. Few, if any, have correctly forecast recessions. And when one does arrive, as in March 2001, they immediately forecast recovery. Thus, those economists are almost always predicting growth, usually extrapolating the past rates into the future. Perhaps this is why I have that 'deja-voodoo' sensation. This is the third year in a row that I have seen these virtually identical forecasts for the economy -- and the other two did not work out as expected.

A Data with Destiny: So, the implication of Ray's data is that things won't work out any better this time than they did last time. Notwithstanding folks' fervent hopes, I anticipate that many will have to change their positions radically. This is part of why I expect that we could see a massive dislocation in the market between now and the end of the year.