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Hulbert: Recession Odds Tick Up; What Are Consumers Worried About?

Consumer surveys say we’re more optimistic about the economy in general than we are about our personal finances, while the odds of a recession are slightly higher.

Is the American consumer upbeat, or not?

It’s a crucial question, since consumer demand is one of the linchpins of the U.S. economy. Yet to say we’re getting mixed messages would be an understatement. The two most prominent measures of consumer attitudes are currently telling dramatically different stories.

On the one hand, the Conference Board’s Consumer Confidence Index (CCI) is suggesting that the consumer remains relatively upbeat.

For January, according to data released earlier this week, the CCI slipped only slightly from its December level, despite heightened concerns about inflation and the Omicron variant. It currently stands at the 77th percentile of all monthly readings since 1979 — higher than 77% of all months over the last 43 years.

On the other hand, the University of Michigan’s gauge of consumer sentiment (UMICH) is suggesting that consumers on the whole are considerably downbeat. The latest level for the University of Michigan’s index is only at the 12th percentile of the distribution of monthly readings since 1979.

Over the past 43 years there’s been only one other occasion in which the spread between them was as large as January’s. And that was in December, just one month ago.

What is the source of this large divergence? According to James Stack, editor of the InvesTech Research newsletter, it reflects subtle differences in what the two surveys measure. The CCI gives greater weighting to consumers’ attitudes towards the overall economy, whereas the UMICH survey gives greater weighting to consumers’ attitudes towards their immediate personal circumstances. So when the CCI is much higher, as it is currently, it means that consumers are more optimistic about the economy in general than they are about their personal situation.

(Disclosure note: Stack’s newsletter is not one of those that pay a flat fee to my auditing firm to calculate its track record.)

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This wide divergence is of more than just passing significance.

According to Stack, and confirmed by my analysis of the data since 1979, the odds of an economic recession are elevated when, as now, the CCI is significantly higher than the UMICH measure.

To show this, I measured the correlation between the CCI-UMICH divergence on the one hand and, on the other hand, the odds of a recession beginning within the subsequent 12 months.

To calculate these recession odds, I relied on the economic cycle calendar maintained by the National Bureau of Economic Research (NBER), the semi-official arbiter of when U.S. recessions begin and end.

The table below reports what I found, based on monthly data since 1979. The differences reported in the table are significant at the 95% confidence level that statisticians often use when determining if a pattern is genuine.

Relationship between the UMICH and CCI consumer sentiment measures% of months since 1979 when this condition heldProbability of an NBER-recession beginning within the subsequent 12 months

When UMICH is higher than the CCI

33%

2%

When CCI is between 0 and 17 percentage points higher than the UMICH

34%

12%

When CCI is more than 17 percentage points higher than the UMICH

33%

21%

To put the table’s data in context, note that the CCI currently is 45 percentage points higher than the UMICH measure. So we’re well within the range designated by the bottom row in the table.

Notice carefully, however, that even though the odds of a recession beginning in the next 12 months are elevated, they still are modest — about one in five. So even if the future is like the past, there’s no guarantee that a recession will begin. Nevertheless, the increase in recession odds is worrisome.