Markets

Accurate economic research group using math derived from skull measurements sees slower recovery

Key Points
  • New research from State Street Associates and Massachusetts Institute of Technology indicates that the U.S. economic recovery is most likely to be "U-shaped."
  • The researchers had warned in January that the economy was vulnerable to a recession (with a 70% probability).
  • The study used a statistic called the Mahalanobis distance, which is a measure initially used to analyze human skulls.
  • A "U"-shaped recovery is one where the economy gradually climbs out of a recession environment, which typically takes up to two years.
People walk along Broadway as the coronavirus keeps financial markets and businesses mostly closed on May 08, 2020 in New York City. The Bureau of Labor Statistics announced on Friday that the US economy lost 20.5 million jobs in April. This is the largest decline in jobs since the government began tracking the data in 1939. (Photo by Spencer Platt/Getty Images)
Spencer Platt

The latest projections from economists for the shape of the recovery have quickly turned into an alphabet soup (V, U, W?), and the rising uncertainty about a coronavirus resurgence is making the task even harder. 

One research group with some unusual methods it used to predict the current recession is out with a new outlook. 

New research from State Street Associates and Massachusetts Institute of Technology indicates that U.S. economic recovery is most likely to be "U-shaped." The researchers had warned in January that the economy was vulnerable to a recession — with a 70% probability — even before the pandemic actually hit.

The study looked at the three-year paths of two economic indicators — real GDP growth and inflation, and considered six economic scenarios following a recession — "V recovery," "shallow V recovery," "U recovery," "W recovery," depression and stagflation.

To calculate the likelihood of each scenario, the researchers used a statistic called the Mahalanobis distance, which is a measure initially used to analyze human skulls.

"Effectively, we are asking: given the recent economic experience, how unusual would it be for one scenario to prevail going forward versus an alternative scenario?" the researchers said in the paper. "The measure is powerful and convenient because in a single number it characterizes the distance between two multivariate observations." 

The study concluded that a U recovery has the highest probability, coming in at 30.1%. A "U"-shaped recovery is one where the economy stays longer at the bottom of the recession in its path to recovery, which typically takes up to two years.

A shallow V shaped recovery has a 24% chance and a V recovery has a 21.5% chance. A "V"-shaped recovery means a sharp rise back to a previous economic peak, and a shallow V signals a more gradual rebound.

A stagflation scenario, where the economy experiences an increase in inflation and stagnation of economic output, bears a 16.1% chance. A W shape recovery, where the economy could hit a second downturn, has a 5.9% likelihood and depression is the least likely, with a 2.4% chance. A depression occurs when the economy suffers a severe and prolonged recession.

V shape less likely?

Many on Wall Street were hoping for a V-shaped recovery where the rebound is as swift as the slump, and that's why the stock market came back so quickly from its March lows. But now with recent spikes in coronavirus cases and fluctuations in the economic data, the market is coming to terms that the path to recovery could be long and bumpy.

The National Bureau of Economic Research, which determines recessions, said the U.S. peaked in February, ending a 128-month expansion, the longest in post-World War II history.

The economic blow from the coronavirus pandemic has been severe, to say the least. The unemployment jumped to 14.7% and nonfarm payrolls fell by 20.5 million in April, both post-World War II records. The labor market has since rebounded with May's payrolls report showing a 2.5 million increase.

U.S. GDP fell 5% in the first quarter and is likely to post the worst decline in history for the second quarter. The Federal Reserve sees GDP tumbling 6.5% in 2020 but bouncing back to a 5% gain in 2021.

Subscribe to CNBC PRO for exclusive insights and analysis, and live business day programming from around the world.