By Joshua Habben, Research & Risk Analyst

The media has been focusing on presumed green shoots and trying to call the end to the US recession for many months now. Certainly, the Federal Reserve is also focused on economic growth, and will look to act through monetary policy accordingly. Some are calling for the Fed to raise rates already or very soon as they are speculating the economy is currently turning around. An interesting question to consider is, when does the Fed normally start hiking rates compared to the end of recessions? Researching this question yields an interesting timeline of the end of recessions and when the Fed begun hiking rates. This can give us an idea of when to expect a rate hike from Fed Chairman Bernanke, which will be critical to the value of the US dollar.

This begs the question, who and what exactly determines the end of a US recession? The National Bureau of Economic Research (NBER), a government agency, is the group responsible for labeling the beginning and end of US recessions. They define a recession as “a significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in production, employment, real income, and other indicators. A recession begins when the economy reaches a peak of activity and ends when the economy reaches its trough. Between trough and peak, the economy is in an expansion.”

Unlike traders, the NBER does not speculate into the future. Their purpose is not to call the end of the recession right as it’s happening, as that would be prone to many false claims. They wait a significant period of time, using the benefit of hindsight, to where they can see the economy has reversed, before declaring the beginning or end of a recession at a certain point. For example, according to the NBER, our current recession began in December 2007, but this declaration wasn’t made until December 2008, a year later.

The Federal Reserve on the other hand needs to speculate into the future with interest rate decisions. Waiting a significant time for significant effects of inflation or deflation to occur before acting would make it very difficult to slow down those effects. The Fed has a very difficult job of anticipating economic activity and performing monetary policy with the objectives of maximum employment, stable prices, and moderate long term interest rates. So one might expect the Fed, assuming it can speculate well, would raise rates near the end of the recession or very shortly after. However, the timeline of the end of recessions and federal funds rate changes shows things differently.

Former Fed Chairman Greenspan was in office from 1987 to 2006, during which the last two US recessions occurred (not counting the current recession). Greenspan brought interest rates down very low to 1% and held them there for an extended period of time. Bernanke has likewise cut rates very low, and expressed his intent to keep them low for an extended period of time. For these reasons, Greenspan gives a better comparison to Bernanke than other Fed Chairmen like Volker, who kept rates much higher at a time when the economy was in different shape.

July 1990 to March 1991 Recession:
This recession was declared to be over on December 22, 1992, 21 months after it ended. The Fed began raising rates on February 4, 1994, 35 months after the end of the recession and 13 months after the end of the recession was announced.

March 2001 to November 2001 Recession:
This recession was declared to be over on July 17, 2003, 20 months after it ended. The Fed began raising rates on June 30, 2004, 31 months after the end of the recession and 11 months after the end of the recession was announced.

So under Greenspan, the Fed averaged a delay of 33 months between the recession ending and raising rates. There was even an average delay of 12 months between the NBER announcing the recession and the Fed raising rates. The Fed, despite its need to anticipate and act quickly, was unexpectedly behind the ball. One might wonder if the NBER would do a better job of monetary policy, but I’ll keep the focus on the timing, not the competence, of the Fed.

This data can be used to make a projection of when Bernanke will raise rates, specifically the earliest he would do so. The earliest the recession could reasonably be declared to have ended would be Q2 2009. So, under the assumption that the end of the recession occurred in June 2009, that yields the following projection:

1) The NBER will announce June 2009 was the end of the recession in February or March 2011.

2) The Federal Reserve will begin raising rates in March 2012.

The Fed not raising rates soon should not come as a surprise. The Federal Open Market Committee (FOMC) has stated time and time again, most recently on August 12, 2009, that the Fed “continues to anticipate that economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period.”

Therefore, expect loose monetary policy to continue to contribute to weakness in the US dollar for some time. Risk appetite or risk aversion may affect the demand for dollars, but the supply is unprecedentedly inflated, which means the US dollar is and will be weaker than it would otherwise.