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Currency

Confidence boomed after the election. The economy hasn’t.

After Donald J. Trump won the presidential election, Americans’ optimism about the economic future soared. But midway through the year, that optimism has not translated into concrete economic gains.

This seeming contradiction exposes a reality about the role of psychology in economics — or more specifically, how psychology is connected only loosely to actual growth. It will take more than feelings to fix the sluggishness that has been evident in the United States and other major economies for years. Confidence isn’t some magic elixir for the economy: Businesses will hire and invest only when they see concrete evidence of demand for their products, and consumers intensify their spending only when their incomes justify it.

The sharp rise in economic optimism after the election came through no matter how the question was asked or who answered, whether the survey was intended to capture consumer confidence or consumer comfort or consumer sentiment. It was true in surveys of small-business owners and of C.E.O.s of some of the biggest companies in the world. And the rise during the winter months in these surveys has mostly been sustained in the months since.

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But the economy is plodding along at the same modest rate it has for the last eight years nonetheless — at least when you look at “hard” data around economic activity instead of “soft” data like surveys, as analysts put it.

President Trump said on Twitter on Sunday that the stock market was at an “all-time high” and that unemployment was at its lowest level in years, both of which are true (he added that wages would start going up, which is certainly possible).

But in overall measures of economic activity, the expansion looks much as it has for years, with steady growth of around 2 percent. The Trump economy so far looks an awful lot like the Obama economy.

For all of business executives’ apparent enthusiasm, the nation is adding jobs more slowly in 2017 than it did in 2016, and investment spending by businesses is growing modestly; new orders for capital goods are up only 0.7 percent so far in 2017.

Consumers’ spending was 2.7 percent higher in the first four months this year than in the same period of 2016, adjusted for inflation — which is slower than the 3.2 percent year-over-year gain at the end of 2016.

And while the stock market has been surging and the Federal Reserve has raised short-term interest rates, long-term Treasury bond yields remain very low, suggesting that traders do not buy the idea that growth is poised to accelerate. A falling dollar suggests currency markets see improving prospects in Europe and elsewhere.

There is no sign a recession is brewing, but neither is there evidence for the kind of boom you might expect if you believe that confidence is a crucial driver of economic growth.

This is less surprising when you look at the historical record of confidence surveys.

When financial commentators talk about the economy, they often use the elusive concept of confidence as part of their narrative. It’s hard to describe what is happening in the global economy, with billions of people producing trillions of dollars of goods and services. Using a vague psychological concept is a tidy way of describing why things happen when the underlying drivers are uncertain.

To say that “the economy is slowing down because people are less confident” sounds a lot better than “the economy is slowing down for a whole bunch of complex reasons that I’m not really sure about.” Confidence has a kind of mystical explanatory power thanks to its vagueness.

But “confidence” isn’t really some psychological pixie dust that determines the economic future. Rather, it often reflects underlying fundamentals — whether consumers see job opportunities readily available, for example, and whether businesses are seeing strong advance orders.

“Confidence generally goes up when we see strong income growth or big gains in household wealth,” said Karen Dynan, a senior fellow at the Peterson Institute for International Economics whose former work for the Treasury Department and Federal Reserve included forecasting consumer spending. “You’ll typically see higher consumption spending after that happens. But it’s caused by the rise in income and wealth, not the rise in confidence.”

Sometimes these surveys can pick up on shifts in those fundamentals before they are evident in more concrete data points. But that doesn’t mean that they do a fantastic job on their own of predicting the economic future.

Since 1999, there has been a fairly strong correlation between the Conference Board’s consumer confidence index and the growth in personal consumption expenditures over the ensuing six months, just as you might expect. (And if the past relationship holds, spending levels will accelerate.)

But that chart looks about the same if you instead look at the relationship between growth over the preceding six months and the next six months. In fact, that correlation was stronger than confidence. In other words, if you had just predicted that the immediate future would be similar to the recent past, you would have done a better job projecting consumer spending during the last couple of decades than if you had relied only on a confidence survey.

Confidence surveys can make economic forecasts more accurate, according to some analysis — but only in certain circumstances, and if used correctly.

For example, Michelle L. Barnes and Giovanni P. Olivei of the Federal Reserve Bank of Boston found that forecasts are more accurate when they build in data from the Reuters/University of Michigan survey that is also used to calculate consumer sentiment. And Stéphane Dées and Pedro Soares Brinca of the European Central Bank found that confidence surveys can provide information about the future that economic fundamentals do not at economic turning points, and may be a factor in how crises spread between countries.

Those results suggest that whyconfidence shifts matters a great deal. At certain moments, ordinary consumers and businesses may instantly pick up on shifting economic fundamentals that would take time to show up in the official economic data.

For example, from July through November of 2007, consumer sentiment and confidence numbers plummeted, even as measures of consumer spending and employment were relatively steady. Credit was tightening and the housing crisis was worsening, but consumers seemed to pick up that the economy was on the verge of a recession (which began in December 2007) before it was at all clear from official data.

For every example like that, though, you can also find the reverse. Those same measures of confidence fell precipitously in September 2005, in the aftermath of Hurricane Katrina. That disaster ultimately had no major impact on the overall economy.

When confidence rises or falls suddenly, the move will predict a shift in economic performance only if something happens to the fundamentals to justify it. The early warning that confidence surveys offered on the 2008 recession was useful, but the downturn happened not because consumer confidence fell, but because the underlying forces around housing and credit that it reflected were so damaging. The post-Katrina drop wasn’t matched by any major deterioration in economic fundamentals, so it was a mere historical blip.

One clue as to which precedent applies here is in the partisan breakdown in sentiment surveys. Instead of an across-the-board improvement in confidence, it appears that Republicans became sharply more confident while Democrats became somewhat less so. That implies that the postelection confidence surge was about conservatives feeling more giddy about their side winning than about the broad mass of Americans picking up on improving economic fundamentals not yet evident in the data.

The Trump administration’s promises of major tax cuts, infrastructure spending and pro-growth regulatory policy have been slow in coming, but could conceivably change that over time.

But history shows that confidence alone won’t cut it.

Source: cnbc economy
Confidence boomed after the election. The economy hasn’t.

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