April
2008 Quarterly Forecast > California
Uncharted Waters
By Ryan Ratcliff
The California economy put up some up some downright ugly numbers at the end of 2007. The unemployment rate has risen over 1% since the end of 2006, and overall non-farm payroll employment has been stagnant in the second half of the year, with a small drop over the last six months. The major question we explore in this California Report is whether this is a recession, or the beginnings of one. We review over forty years of history, and look for the common denominators among the previous recessions in California, and how they compare to today. Three conclusions emerge:
1. The major economic indicators in California move in near lock step with their national counterparts. There has never been a California recession outside of a national recession.
2. With the exception of two most recent recessions (1990 and 2001), recessions in California show a V shape. Employment declines by an average of 2.4% over ten months, while real personal income falls 1.2% over twelve months. The shape of these recessions comes primarily from a sharp cycle in manufacturing employment that is less relevant in today’s economy.
3. The two most recent recessions were both deeper and more severe. Manufacturing was again at center stage, but this time large permanent losses associated with structural changes in the economy created the more severe and protracted downturns.
Unfortunately, the current economy is hard to place on this map – we’re in uncharted waters. Unemployment is spiking, but for reasons unlike any other increase in unemployment. Some California indicators look like the beginnings of a minor recession, but both the national situation and the balance of the California economy remain ambiguous. While Construction has been one of the major sources of cyclical job loss in California, it has always been the junior partner in recessions relative to Manufacturing. And with Manufacturing unlikely to generate job loss anything like its contributions to previous recessions, where does the job loss come from? The current contraction in mortgage employment is likely a permanent structural change in our economy, but it is an order of magnitude smaller than the shifts in manufacturing that drove the last two recessions. And with these two very junior partners, it’s very hard to generate recession-level job losses.
We maintain that this very lackluster forecast should not be described as a recession. First and foremost, there has never been a California recession without a national recession, and we are not forecasting a national recession. While the continuing loss of mortgage-related employment does fit our conceptual model of a structural shock to the economy (like 1990 and 2001), both the current state of the California economy and our forecast fall short of the weakness in previous historical episodes that we’ve chosen to label recessions. Both statistically and conceptually, today’s economy is something new -- stinky, but new. Based on comparing the current economy to past recession episodes, we once again conclude that real estate weakness will remain a significant drag on the economy, leaving us treading water in 2008 -- but not slipping under the waves into recession.
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