Soft-Landing Monetary Policy, Composite Leading Economic Indicators, and Predicting the 2001 Recession

Since the late 1970s/early 1980s, the entire U.S. economy has gone through some structural changes. Outside of the technological changes, the Federal Reserve monetary policies have probably been the main force behind these changes. These policies, known as soft-landing policies, focused on a stable growth in the economy by keeping the inflation low, with the ultimate objective of removing extreme fluctuations. To cope with these structural changes, the composite leading economic indicators have gone through a series of revisions since 1996 (CLI-96) with the objective of improving its quality information for the prediction of the near term state of the economy. In this research we look at two related questions: (1) Have these revisions in CLI-96 captured all the effects of the structural changes on the state of the economy since the early 1980s, or are there still some effects left behind and not captured? (2) Given that the latter part of question (1) is true, can this new information be measured and utilized to produce a better prediction of the near term state of the economy? Our research shows that CLI-96 did not capture all the effects of the structural changes in the economy. When the probability distribution of the CLI-96 growth rates for the expansion periods since 1983 is used, the two methodologies of the classical statistical decision theory and the Bayesian have predicted the 2001 recession correctly, but the overall reliability of their predictions has deteriorated. Overall, it can be concluded that the severity of the 2001 recession is more comparable to the economic slowdowns of 1993 and 1996 than to the recession of 1990