Empirical verification of the CMI model main principles
All conclusions for the CMI-model theory (see “The CMI model main principles” section) were empirically confirmed using the USA economy (Fig.1,2) as a pattern of a highly developed country. A period of Empirical verification of the CMI model is more than 50 years (1970-2020) or seven empirical business cycles in a row. Also, we tested our model using the Ukrainian economy (1987-2010) (Fig.3,4) as a pattern of the emerging country that proves the CMI model to be general.
Empirical verification of the CMI model
Figures 1 and 3 present the theoretical scheme of the CMI model, which was built in real time for the US and Ukrainian economies, correspondingly. They present the dynamics curves of the calculated “natural” price index (P0) and actual market price index (P) according to official statistics.
Figures 2 and 4 present real GDP dynamics for the US and Ukrainian economies, correspondingly, which were marked by critical points of the CMI model. These critical points are determined from Fig. 1, and 3, and then they are laid over the dynamics of real growth rates of the U.S. economy in Fig. 2 and the Ukrainian economy in Fig.4.
Greyed vertical columns for all the Figures here represent periods of the recession durations according to the official dating.
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Fig. 1. CMI-model of macroeconomic dynamics built up for the US economy in real-time Vertical black lines are the CMI model signals for the US recession starting points. P – actual market price index (http://www.bea.gov/); P0– natural price index (calculated by author); ∆P = (P0 – P) – cumulative market imperfection. Grey columns – official duration of the US recessions (www.nber.org)
Fig. 2. Real GDP growth rate for the US economy (http://www.bea.gov/) dated according to critical points of CMI-model. Vertical black lines are the CMI-model signals for the US recession starting points, which were retrieved from Fig.5. Grey columns – official duration of the US recessions (www.nber.org)
Fig. 3. CMI-model of macroeconomic dynamics built up for the Ukrainian economy in real-time.
Vertical black lines are the CMI model signals for the Ukrainian recession’s starting and ending points. P – actual market price index (https://ukrstat.gov.ua); P0– natural price index (calculated by author); ∆P = (P0 – P) – cumulative market imperfection. Grey columns – official duration of Ukrainian recessions (https://ukrstat.gov.ua).
Fig. 4. Real GDP growth rate for the Ukrainian economy (https://ukrstat.gov.ua) dated according to critical points of the CMI model. Vertical black lines are the CMI model signals for the Ukrainian recession starting and ending points, which were retrieved from Fig.5. Grey columns – official duration of the Ukrainian recessions (https://ukrstat.gov.ua).
Comparing Fig.1 and Fig.2, as well as Fig.3 and 4, we can make the following conclusions:
- The CMI model is general, i.e. it would be applied to all kinds of market conditions and for any economy (country);
- The value of ∆P is a common and universal indicator that characterizes the initial driving force of macroeconomic dynamics (business cycle) for all market conditions and for all moments of real-time. If ∆P > 0, then there is economic growth, if ∆P < 0, then there is a recession. The points where ∆P = 0 are the turning points of the business cycle;
- We can separate external shock that leads to a recession from a shock that will be absorbed by an economy without a recession. While the value of ∆P remains positive, any internal or external shock can be absorbed by an economy without recession initiating. However, if ∆P < 0, the economic growth rate will be permanently falling and even a small shock would initiate a recession. In particular, we are able to identify for every period of real-time, whether the current regulation policy is enough to avoid recession;
- The main distinctive feature of the CMI model is that starting (ending) points of the recession can be identified well in advance before their statistical confirmation, i.e., with “the time lead period”. This period is the time between the CMI model signal about starting (ending) of the recession and its official dating. Its duration is about 6-12 months that provides enough time to use all possible instruments to regulate an economy or business;
- The greater the value of ±∆Р, the smaller the rate of economic growth is observed. The condition for maximizing the rate of economic growth (real GDP) is the approximation of the ∆Р value to zero.
Mostly, we can see economic growth deceleration just before the point of ∆Р→mах and its acceleration just after this point. The value of ∆P determines fundamental macroeconomic trend that can be strengthened (weakened) by occasional events (external or internal shocks) that makes the business cycle asymmetric in spite of a single driving force of macroeconomic dynamics;
Also, these conclusions are the competitive advantages of CMI-model. Using this model, we can decrease ambiguity and incompleteness of information used for decision making, and, in particular, to increase the accuracy of recession forecasting.
How to read the ∆P index value?
How to read the ∆P index value?
Fig.1 Dynamics of our ∆P index marked by critical points (from 1 to 12) of the CMI model. Blue areas are the official duration of the US recessions. Vertical black lines are the CMI model’s recession signals (starting and ending points).
∆P INDEX VALUE
The ∆P index value is a comprehensive measure of economic activity that reflects the performance of all sectors of the US economy simultaneously. It is an essential indicator of the economy’s overall health and is used as a key metric for analyzing business cycles. As an investor in the US, it is important to keep an eye on this index, as changes in ∆P can signal shifts in economic activity trends. By monitoring ∆P, investors can better understand the current state of the economy and make more informed decisions regarding their investments.
What does ∆P value change mean?
The ∆P index value reflects changes in the prices of various goods and services. This index is a reliable indicator of market imperfections, as it reveals how prices change for different groups of products based on their availability and demand.
According to the model, the driving force behind any business cycle is the difference (∆P) between market and “natural” price indices (which are the subject of our calculations). This difference forms the stimulus for economic growth (recession), which allows us to predict this growth before the release of statistical data about it. Since the market price includes all possible market conditions, monitoring a single ∆P indicator allows us to unambiguously assess the situation in the economy.
Table 1. ∆P Index value interpretation
Critical points of ∆P | Impact on the economy or economic trend (It may be strengthened or softened by Fed monetary policy actions or external factors) | Point’s number, intervals | |
∆P = 0 |
| Points 1, 3, 5,7,9 | |
∆P < 0 | Recession phase of the business cycle | Between points 1-3, 5-7, 9-11 | |
∆P > 0 | The economic growth phase of the business cycle | Between points 3-5, 7-9, 12+ | |
+∆P = max | Inflection point (changing of economic growth trend). Economy slowdown just before this point (quarterly GDP may reach even negative numbers but with no recession as ∆P>0) and we can see a sell-off for financial indexes. Then the economy accelerates just after this point and we can see short-termed rapid growth for the stock market indexes. | Points 4,8,9,10 After points 4, 8, 12 | |
-1 < ∆P < +5 | Economy acceleration with its peak at ∆P → 0 (Boom phase). Stock market indexes may reach their peak before the financial crisis, as support to financial markets from the real economy is maximum. | ||
∆P > 20÷50 | Low economic growth phase (maybe stagflation). Stock market indexes are growing. This phase of the cycle corresponds to aggressive incentives from Fed (quantitative easing monetary policy, for example). | ||
from ∆P < -1 to -∆P =max | Recession. Financial crisis | From point 1 to 2, from 5 to point 6, from 9 to 10 |
What does ∆P index value understanding give to investors?
By understanding the ∆P index, investors literally can gain valuable insights into periods of most economic shocks. This knowledge can help investors make informed decisions about their investments and reduce risks. It may make economic shock periods as most profitable ones.
As historical statistics demonstrate, economic crises are always accompanied by financial crises that can result in asset price declines, such as housing or stock prices. In such cases, borrowers may default on loans, leading to significant losses for financial institutions that hold those loans.
Furthermore, understanding the critical points of the business cycle and their impact on the financial cycle can help investors reduce risks when investing in financial assets. By taking into account the timing of these cycles, investors can make more informed decisions about when to invest and when to avoid certain financial assets.
Read also our article The US financial indices comparison. It is about how the ∆P index value correlates with Financial indexes.