The Many Flaws of Leading Economic Indicators
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The construction of the leading indicators has many flaws, but one of the more visible and bigger ones is the three series for new manufacturing orders. The leading index includes two dollar-based new orders series and one diffusion measure. A diffusion measure captures the breath of change, not the magnitude of change. In other words, it does not distinguish between the size of the gain or decline. Yet, dollar-based series are more important in determining economic growth since the economy runs on dollars spent.
In May, the leading index fell 0.7%. The ISM new orders index posted the most significant decline (1.4%) of any indicator, overwhelming the small gain in the other two order series (0.1% and 0.2%, respectively).
Today, the Census Bureau reported that new orders for durable goods, a dollar-based series, rose 1.8% in May. And excluding the volatile transportation sector, new orders rose 0.6%. The latest data will result in an upward revision to the dollar-based series in the leading index, but not enough to wipe out the negative contribution of the ISM New orders index.
How can anyone trust the signal from the index of leading indicators when the dollar-based new orders for durable manufactured goods (excluding transportation) posted in May, their most significant gain in over a year, and yet the sum of the three orders series in the leading index is negative because of a sharp decline in diffusion-based series? The economy runs on dollars.
Joseph G. Carson
AuthorMore in Author Profile »Joseph G. Carson, Former Director of Global Economic Research, Alliance Bernstein. Joseph G. Carson joined Alliance Bernstein in 2001. He oversaw the Economic Analysis team for Alliance Bernstein Fixed Income and has primary responsibility for the economic and interest-rate analysis of the US. Previously, Carson was chief economist of the Americas for UBS Warburg, where he was primarily responsible for forecasting the US economy and interest rates. From 1996 to 1999, he was chief US economist at Deutsche Bank. While there, Carson was named to the Institutional Investor All-Star Team for Fixed Income and ranked as one of Best Analysts and Economists by The Global Investor Fixed Income Survey. He began his professional career in 1977 as a staff economist for the chief economist’s office in the US Department of Commerce, where he was designated the department’s representative at the Council on Wage and Price Stability during President Carter’s voluntary wage and price guidelines program. In 1979, Carson joined General Motors as an analyst. He held a variety of roles at GM, including chief forecaster for North America and chief analyst in charge of production recommendations for the Truck Group. From 1981 to 1986, Carson served as vice president and senior economist for the Capital Markets Economics Group at Merrill Lynch. In 1986, he joined Chemical Bank; he later became its chief economist. From 1992 to 1996, Carson served as chief economist at Dean Witter, where he sat on the investment-policy and stock-selection committees. He received his BA and MA from Youngstown State University and did his PhD coursework at George Washington University. Honorary Doctorate Degree, Business Administration Youngstown State University 2016. Location: New York.