Economy underperforming, but poised to improve

According to the latest monthly report released by the Federal Reserve Bank of Chicago, the pace of growth in the overall U.S. economy decelerated in April.

The Chicago Fed National Activity Index (CFNAI) for April dropped to -0.45 from a reading of 0.05 in March. The three-month moving average for the index slipped from -0.24 in March to -0.32 in April.

CFNAI is a timely and reliable indicator, but it does not receive much coverage in the national press. I suspect the reason is that it appears a bit too confusing for most reporters. And as anybody in the plastics industry can attest, the mainstream press is not always good with coverage of complicated issues.

So before I dive deeper into the details from last month's report, I should first offer a brief explanation about CFNAI and what it measures.

Each month, economists at the Chicago Fed compile the vast array of U.S. economic data series. They assign each series an appropriate weight and then combine them all to calculate a single index that is intended to indicate the change in the overall economic activity level that month.

Simply put, these Chicago economists take all the data reported by all the U.S. government agencies each month — such as jobs, housing starts, durable goods orders, etc. — and they distill it down into one number. You can think of it as akin to the GDP number, only it is calculated and reported monthly instead of quarterly and it is reported as an index rather than in total dollars.

Sounds simple, right? And this should be something that noneconomics professionals would embrace. I am often asked by plastics industry professionals to dispense with all the statistics and jargon and risk analysis mumbo-jumbo and to render it all down into a version that is understandable, timely and precise. Something like "thumbs-up or thumbs-down."

Second, a negative number does not always mean that economic activity declined that month. This index is calibrated so that a reading of exactly zero means that the activity levels that month expanded at the rate of the long-term trend. For the past 10 years, the U.S. economy has expanded at an average rate of right about 2 percent per year. Therefore, anytime all the monthly data combines to indicate activity levels that are commensurate with an annual pace of 2 percent growth in the overall economy, CFNAI will be close to zero.

A monthly value below zero, but higher than -0.70, indicates that the economy expanded but at a rate that is below the trend. If the index levels fall below -0.70 and stays there for a sustained period, then it is almost certain the economy is in a recession. Conversely, sustained index levels above 0.70 indicate an economy that is growing too vigorously, and this is typically associated with periods of rapidly rising inflation. You can think of the zero-level as the "Goldilocks" area where the economy is performing just right.

I will admit that all of this is a bit more complicated than just using your thumbs, but what else would you expect from economists? The good news is that with a little practice and the use of a three-month moving average line to smooth out the noise, this index is a reliable and timely coincident indicator of overall economic activity. The short-term trend in these monthly figures is a good predictor of both the near-term pace of economic growth and the near-term pace of inflation.

So, the April reading of -0.45 indicates that the overall pace of economic growth in the U.S. was positive for the month, but it was below the pace of 2 percent per year. My latest forecast calls for growth of 1.8 percent in the overall economy in the second quarter of this year, followed by a gradual acceleration up to the level of 2 percent in the second half of this year. This means my forecast for the CFNAI calls for it to find a bottom in the current quarter followed by a gradual rise to zero by the end of the year.

For those of U.S. who relish the challenge of deeper data analysis, the long list of data series that comprise the headline index is broken down into four subindices: production and income; employment; personal consumption and housing; and sales, orders and inventories.

In April, the strongest of these categories was the employment data, which is no surprise given the large increase posted in the jobs figures last month. The production and income data registered the sharpest deceleration, and this corresponds to the overall drop in the data measuring production levels for the manufacturing sector.

For the record, total output of plastics products declined by just under 2 percent in April when compared with the previous year. Minor decelerations were reported for both the personal spending category and the sales, orders and inventories category.

When you combine all of this, you get the picture of an economy that is performing just a bit below its long-term, sustainable level. But inflation is not a factor at the present time, and it is probable that the economic growth rate will revert to its long-term trend in the foreseeable future.

For those of you who just want me to use my fingers, the current outlook is "thumbs kinda sideways but probably aimed modestly upward for the next six months."