Determining the Limits of a Recession

It was recently announced that the National Bureau of Economic Research (NBER) has determined that we are currently suffering in an economic recession, which began in December of 2007. Given the long time between the beginning of the recession and the official annoucement of a recession, one is given to wonder why the NBER took so long to come to such a formal determination.

The conventional definition of a recession is two consecutive quarters of negative economic growth. Such a definition is convenient in that it is not ambiguous. Except for errors in estimating economic growth (say for example estimating economic growth to be 0.1% as opposed to -0.1%), there can be general agreement about when the economy is in recession.

For economic planning and reconstruction of economic history, it would be convenient to have a measure that would locate a recession in time with greater precision than two quarters.

The National Bureau of Economic Research is the official body for such determinations.According to the NEBR the defintion of a recession is based on:

“(1) personal income less transfer payments, in real terms and (2) employment. In addition, the committee refers to two indicators with coverage primarily of manufacturing and goods: (3) industrial production and (4) the volume of sales of the manufacturing and wholesale-retail sectors adjusted for price changes. The committee also looks at monthly estimates of real GDP.”

However, history suggests that the industrial production (IP) metric dominates the determination of recession. The graphs below were pulled fromDavid Carbon ( They show industrial production as a function of time for the last four recessions.

The key to note here is that the beginning the recessions as defined by the NBER seem to correlated with the peak in industrial production and to end when industrial production turns upward (regains positive derivative). Of course, the month-to-month industrial production data can be noisy and it would not be appropriate to mark every little bump and dip in industrial production as a recession. It is thus necessary wait some time to determine if industrial production as really peaked or begun increasing again.

Industrial production measures manufacturing and mining output. Given the changing nature of the economy toward a service-based one, one can question how good a measure industrial production is. Nonetheless, it appears to be the proxy that it used by NBER for economic activity.The current recession is very interesting, at least from a graphical point of view.

The figure below is a plot of recent industrial production.

Note that in December of 2007, industrial production reached a local peak. However, the downturn afterwards was shallow. Indeed, during the summer of 2008, industrial production seemed to be on the rise. It is easy to understand why the NBER was reluctant to declare a recession at that point. Then in August and September, industrial production took a nose dive. The fact that we are in a recession is now unescapable. It is also interesting to note industrial production increased quickly last month. Whether this is a bump on a long-term bottom or a V-shaped recession remains to be seen. At this point, it would be premature for the NBER to make any determination.

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