The Other Dark Cloud on the President’s Horizon Is a Deteriorating Economy in 2019
Even as Donald Trump struggles with the multiple investigations of his personal business and political dealing and those of his children, his presidential campaign, inaugural committee, businesses and foundation, he will also have to keep a close eye on the economy. The economy’s course in 2019 will help shape the political environment for Americans as they weigh the results of those investigations and the president’s overall job performance. In all likelihood, President Trump will face a seriously weakening economy in 2019, a development that could well shake his hold on congressional Republicans and even some of his ardent supporters.
The longest expansion in American history lasted ten years (March 1991 to March 2001), and this one will match that milestone in mid-2019. So, this expansion was already in its eighth year when Trump took office. The longest expansion in American history lasted ten years (March 1991 to March 2001); and as I’ve noted here and elsewhere, all business cycles expire eventually from old age unless they are struck down early by an outside force like a four-fold jump in oil prices. We have an elderly expansion on our hands, so a downturn in the foreseeable future is a matter of when, not if.
At this point in the business cycle, we should expect to see consumers continuing to pull back on purchases of new homes and large items (“durables”). That would be the case in 2019 even if the incomes of average households had not lagged inflation over the last 20 months. But they have. As consumer demand continues to cool, businesses will slow new investment and hiring, and overall growth will likely fall to or below 2 percent. At the end of that road lies the next recession in late 2019 or early 2020.
This is the economy’s natural path at this point. After a protracted period of decent growth, untapped consumer and business demand has been satisfied. Businesses find it increasingly hard to find promising new investments or skilled workers. It’s the same story in the housing market, especially with the rising interest rates typical of the final stage of the business cycle. So, business investment, consumer purchases, home sales, and overall economic growth all slow down. That’s the pattern we see when we track those measures over the three years prior to each of the last three recessions. (See the Table below.)
To be sure, Trump and the GOP Congress have tried to breathe new life into the expansion with large tax cuts. But their tax changes were focused too narrowly and ultimately came too late to head off a recession for long. Since average families gained little from the tax changes, their consumption spending and home purchases continued to slide through 2018. The changes did goose business investment and overall growth in 2018, but so modestly that those measures over the last year still lagged business investment and growth at comparable points in the long expansions of the 1980s and 1990s.
Instead, U.S. companies spent much of their tax savings on a stock buy-back spree totaling some $1.1 trillion in 2018 For some perspective, total U.S. business investment is expected to reach around $2.8 trillion this year. But most of that will go to replace worn out business structures and equipment. Net of such depreciation, business investment totaled $504 billion in 2017 and perhaps will reach $550 billion this year – half of what businesses spent in 2018 to buy back their own stock.
The deteriorating outlook on our economy has not been lost on global investors. The best evidence that their confidence in the U.S. economy has waned is not the stock market’s recent stumbles, but changes in what economists call the “yield curve.” When global investors grow nervous about the economy’s near-term prospects, they hedge by demanding higher yields or returns for lending the government their money even for a short term. As a result, the yields on shorter-term Treasury securities begin to approach the yields on longer-term securities (“flattening the yield curve”). As those concerns about near-term conditions intensify, those short-term yields finally exceed long-term yields (“inverting the yield curve”).
Those changes in the yield curve are the most reliable measure economists have that a recession is coming. According to the Federal Reserve Bank of San Francisco, an inverted yield curve has preceded by about one year every U.S. recession since 1960 with only one false positive (in 1966). The bad news for President Trump as he contemplates the seemingly certain toxic fallout from investigators in 2019 is that the yield curve has already flattened dramatically. When he took office, the yield on one-year Treasury securities was 0.82 percent, which was 148 basis points less than the 2.48 percent yield on 10-year securities. As I wrote this on December 27, 2018, that difference in yields has narrowed to just 20 basis points or by 86.5 percent. Over the same period, the difference in the yields of two-year and 20-year Treasury securities has flattened from 159 basis points to 33 basis points, or by 79.4 percent.
Economists cannot say with any certainty precisely when the next recession will begin, nor can we predict its actual depth or duration. But economic analysis can identify with confidence the economy’s overall direction. Based on history and the hard data on what’s happening today, there is no reasonable doubt that the American economy will weaken in 2019 as it enters the final stage of this business cycle.
Average Annual Gains in GDP, Business Investment, Consumer Spending on Durable Goods and Housing Investment Over the Three Years Prior to the Last Three Recessions
| Measure | Preceding Year +2 | Preceding Year +1 | Preceding Year |
| 1987 Q3-1988 Q2 | 1988 Q3-1989 Q2 | 1989 Q3-1990 Q2 | |
| GDP | 4.50% | 3.75% | 2.43% |
| Business Investment | 5.88% | 5.10% | 1.70% |
| Durables | 6.90% | 4.00% | 0.80% |
| Housing Investment | 6.20% | – 3.15% | – 4.00% |
| 1998 Q2-1999 Q1 | 1999 Q2-2000 Q1 | 2000 Q2-2001 Q1 | |
| GDP | 4.83% | 4.23% | 2.35% |
| Business Investment | 10.23% | 10.60% | 3.88% |
| Durables | 15.10% | 14.90% | 2.33% |
| Housing Investment | 9.50% | 3.60% | 1.50% |
| 2005 Q1-2005 Q4 | 2006 Q1-2006 Q4 | 2007 Q1-2007 Q4 | |
| GDP | 3.15% | 2.60% | 1.98% |
| Business Investment | 6.05% | 8.15% | 7.33% |
| Durables | 2.43% | 7.20% | 4.45% |
| Housing Investment | 5.28% | -15.03% | – 21.03% |
| 2016 Q4-2017 Q3 | 2017 Q4-2018 Q3 | 2018 Q4-2019 Q3 | |
| GDP | 2.35% | 3.05% | We’ll see |
| Business Investment | 5.33% | 6.88% | We’ll see |
| Durables | 6.35% | 5.80% | We’ll see |
| Housing Investment | 9.20% | 0.95% | We’ll see |