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posted on 23 June 2016

May 2016 Leading Economic Index Declines Warning Downside Risks

Written by Steven Hansen

The Conference Board Leading Economic Index (LEI) for the U.S declined this month - and the authors warn "volatility in financial markets and a moderating outlook in labor markets could pose downside risks to growth.".

This index is designed to forecast the economy six months in advance. The market (from Bloomberg) expected this index's value at -0.1 % to 0.3 % (consensus 0.2 %) versus the -0.2 % reported.

ECRI's Weekly Leading Index (WLI) is forecasting slow growth over the next six months.

Additional comments from the economists at The Conference Board add context to the index's behavior.

The Conference Board Leading Economic Index® (LEI) for the U.S. declined 0.2 percent in May to 123.7 (2010 = 100), following a 0.6 percent increase in April, and a 0.1 percent increase in March.

"The US LEI declined in May, primarily due to a sharp increase in initial claims for unemployment insurance. The growth rate of the LEI has moderated over the past year," said Ataman Ozyildirim, Director of Business Cycles and Growth Research at The Conference Board. "While the LEI suggests the economy will continue growing at a moderate pace in the near term, volatility in financial markets and a moderating outlook in labor markets could pose downside risks to growth."

The Conference Board Coincident Economic Index® (CEI) for the U.S. was unchanged in May, remaining at 113.5 (2010 = 100), following a 0.2 percent increase in April, and no change in March.

z conference1.png

LEI as an Economic Monitoring Tool:

The usefulness of the LEI is not in the headline graphics but by examining its trend behavior. Econintersect contributor Doug Short (Advisor Perspectives / produces two trend graphics. The first one shows the six month rolling average of the rate of change - shown against the NBER recessions. The LEI has historically dropped below its six-month moving average anywhere between 2 to 15 months before a recession.

For a better understanding of the relationship between the LEI and recessions, the next chart shows the percentage off the previous peak for the index and the number of months between the previous peak and official recessions.

The methodology for this index was "improved" in December 2011.

As a comparison to the LEI, ECRI's WLI (which Econintersect reports on weekly) is now in expansion..

Current ECRI WLI Index

Econintersect believes the USA economy is barely expanding at Main Street level, and the growth rate has been declining. (analysis here).

Caveats on the Use of the Leading Economic Index (LEI)

This index is produced by The Conference Board (a private money making company) - who charges for the details of the indices they publish - although the summary of this index is available to the public. Its designed to predict economic growth over the next six months.

This is not a "black box" economic forecasting index as The Conference Board publishes the components. It was completely revised with the release of the December 2011 (analysis comparing the old and new index components - click here). The new components of the index and multipliers:

The index does not adjust for inflation or population growth, is not final for several months after being published, and is subject to annual revision. The methodology in producing this index:

1) normalized levels of the indicator rather than its monthly changes will be used to calculate the component contributions of components based on diffusion indexes such as the ISM New Orders Index; 2) when component data are missing, autoregressions in log differences instead of levels will be used to calculate the statistical imputation of the missing months; 3) trend adjustment will be done in two periods: 1959-1983 and 1984-2010 (same as the volatility adjustment); and 4) LCI contributions to the LEI are calculated from its levels (not monthly changes) and it is inverted As a result of these changes, the history of the revised indexes and their month-over-month changes will no longer be directly comparable to those issued prior to the comprehensive benchmark revision. Based on its performance since 1990, and especially before and during the 2008-2009 recession, the new LEI should provide more accurate predictions of business cycle peaks and troughs.

Econintersect has published correlations of the new LEI to past recessions. At first glance this index provides recession warning.

The fly-in-the-ointment is that this analysis is that the above graph is not a real time analysis. Consider that the LEI is not final when first issued - it is subject to revision for months. From The Conference Board:

To address the problem of lags in available data, those leading, coincident and lagging indicators that are not available at the time of publication are estimated using statistical imputation. An autoregressive model is used to estimate each unavailable component. The resulting indexes are therefore constructed using real and estimated data, and will be revised as the unavailable data during the time of publication become available. Such revisions are part of the monthly data revisions, now a regular part of the U.S. Business Cycle Indicators program.

The data does not exist to establish what The Conference Board's LEI values would have been in real time - at this point only the final numbers are known. Unfortunately, knowing the current values is no assurance that a recession is or is not imminent as there is no track record of real time performance.

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