Vlog: The Economic Cycle – How it Works in Everyday Language
A lot of people ask how our MONCON Recession Plan works. I’m going to refrain from discussing the exact data it looks at, but in general, it’s data that are representing the economic cycle.
Economic cycles have a fairly predictable chain that can provide signs of accelerations or decelerations – but problems start when we look at actions that have long lags or are variable…and then jump to the conclusion that it’s at the end of the chain.
In other words, you can’t jump from the first part of the chain to draw a conclusion at the end without analyzing what’s in the middle.
So, let’s look at the chain from a very broad perspective.
Econ professors and PhDs may throw rotten tomatoes at their computer screen if they watch this, but they are not my audience here.
It all starts with MONETARY ACTION – or more specifically, the changes in interest rates. In my example, this is the first link in the chain and everything responds to this. Some things respond faster and some respond slower.
After some monetary action, or a change in interest rates, some sectors of the economy respond quickly, like:
- Housing
- Durable Goods
- Manufacturing
This is why these sectors are called ECONOMICALLY SENSITIVE SECTORS.
Why do they respond quickly? Because these industries need CAPITAL…they need MONEY. So, lowering interest rates is seen as a quick way to stimulate these sectors.
IT’S MEANT TO HELP THEM WHEN THE ECONOMY SLOWS…The Fed lowers interest rates when the economy is slowing to get these three sectors back up to growth mode–FAST.
It theoretically should happen quickly. When you lower the cost of borrowing money, these industries start cranking.
But sometimes lower interest rates DON’T result in these sectors cranking up into growth mode as fast as needed (or as much as needed), and in that case impacts are seen in employment, personal income and actual activity.
Boom – that then flows down to the less economically sensitive sectors of the economy: the Services sector, which is 70% of the GDP.
The Services sector is not considered as sensitive because they don’t really rely on access to cheap capital to run.
From there, we see the slowing in the Services sectors show up in indicators like:
- Employment
- Income/Wages
- Industrial Production
- Consumer Consumption
When you look at these four indicators, you’re getting toward the end of the chain.
Since 2009, we have seen:
- Fed tightening
- Global money supply shrinks (less money around) – especially around late 2016
As monetary action was taking place, interest rates were increasing and there was less money in the cyclical sectors which in turn slowed down. That filtered into services and from there, everyone predicts a recession and the whole thing reverses…
Then interest rates get lowered.
MONCON is looking at all of this.
Read more about our MONCON Recession Plan on our website.
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By David B. Armstrong, CFA
David B. Armstrong, CFA
President & Co-Founder
Dave got into the industry when he discovered his passion for finance in his mid-20’s. He’s a combat veteran and served as an officer in the United States Marines Corps on both active duty and in the reserves, retiring at the rank of Lieutenant Colonel. While serving on active duty, Dave was unable to spend money on deployments, so he became a self-taught investor. Along with a few bucks cash as a bouncer, his investing performance grew to be good....
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