-ECON 6635-01

-Pompea College of Business

-University of New Haven

-Dileep Attoor

1 Introduction

To gain a nuanced understanding of the U.S. economy, it is essential to examine both national trends and localized economic signals. In this analysis, we develop a diffusion index based on key economic indicators: employment, industrial production, and housing starts. This customized index functions as a gauge for tracking economic expansions and contractions. By comparing it with the well-known Chicago Fed National Activity Diffusion Index (CFNAIDIFF), we aim to identify significant patterns and divergences that shed light on broader economic trends and sector-specific dynamics over time. ### Data selection and Diffusion Index Construction.

The diffusion index measures economic growth and contraction by examining three critical indicators: employment, industrial production, and housing starts. These metrics collectively offer a comprehensive view of labor market health, industrial output, and construction activity, providing essential insights into the broader economic trajectory.

## [1] "PAYEMS"    "INDPRO"    "HOUST"     "CFNAIDIFF"

2 Analysis of USA Diffusion Index

The U.S. Economic Diffusion Index Over Time highlights significant patterns of economic growth and contraction. The blue line, representing the custom Diffusion Index, displays frequent short-term fluctuations, while the red smoothed line reflects the long-term trend, which remains relatively stable but shows a gradual decline over time.

During the pre-pandemic period (2010-2020), the Diffusion Index consistently stayed above 50%, signaling economic expansion. However, a gradual downward trend suggested weakening momentum leading up to 2020. The onset of the COVID-19 pandemic in March 2020 triggered a sharp decline, with the index plummeting well below 0%, capturing the widespread economic disruption caused by the crisis.

In the post-pandemic period (2020-2025), the index rebounded but stabilized at a lower level than during the pre-pandemic years. The final value of -33.33% underscores persistent economic challenges and a slower, uneven recovery. This analysis highlights the profound impact of the pandemic on the economy and emphasizes the difficulty of achieving sustained recovery in its aftermath.

3 Analysis of Chicago Economic Diffusion Index

The Chicago Economic Diffusion Index (CFNAIDIFF) from 2010 to 2025 reveals notable patterns and fluctuations in economic activity. Between 2010 and 2016, the index steadily declines, indicating a phase of economic contraction or weakness. From 2016 to 2020, it oscillates near zero, suggesting stagnation or a mild recovery. In 2020, the index shows a slight uptick, reflecting a brief rebound following the initial impact of the COVID-19 pandemic.

After 2023, however, the index drops sharply, falling significantly below zero, signaling renewed economic challenges or a return to contraction. The red box-like markers highlight frequent shifts between periods of expansion and contraction, demonstrating heightened economic volatility and uncertainty. Furthermore, the confidence band widens as 2025 approaches, pointing to increasing unpredictability in future economic performance.

Overall, the long-term trend suggests ongoing economic fragility with occasional recoveries, underscoring the need for vigilant monitoring to better understand and navigate future economic developments.

4 Stability and Volatility Compared

The U.S. Diffusion Index demonstrates a generally positive trend, with an average value of 42.1 and moderate variability (SD = 52.5), suggesting consistent national economic growth. On the other hand, the Chicago Diffusion Index has a negative average of -2.9 and much higher variability (SD = 100.2), indicating more frequent and severe economic contractions. This contrast highlights the greater economic instability at the regional level compared to the steadier national performance.

## [1] 0.0703

5 Analysis Of The Combined US & Chicago Diffusion Indices

A comparison of the custom Diffusion Index and the CFNAIDIFF offers valuable insights into their differing approaches to capturing economic trends. The custom Diffusion Index (blue line) demonstrates pronounced fluctuations, reflecting immediate changes in employment, industrial production, and housing starts. In contrast, the CFNAIDIFF (red dashed line) presents a smoother trajectory, offering a broader and more aggregated view of national economic performance.

The indices align closely during major economic disruptions, such as the 2010-2012 period and the 2020 COVID-19 pandemic, illustrating their shared effectiveness in tracking significant shifts in the economy. However, during periods like 2015-2019, they diverge, with the custom Diffusion Index exhibiting greater sensitivity to sector-specific volatility, while the CFNAIDIFF reflects a more stable, national perspective by incorporating a wider range of economic activities.

With a correlation coefficient of 0.306, the two indices show a moderate positive relationship, indicating that they generally move in the same direction but capture different aspects of economic activity. The custom Diffusion Index’s heightened volatility highlights its responsiveness to localized and short-term sectoral changes, whereas the CFNAIDIFF provides a steadier representation of overarching national trends. Together, these indices complement each other, offering a more nuanced and comprehensive understanding of the economy by balancing localized insights with a broader national outlook.

6 Coorelation

The correlation coefficient of 0.0703 between the U.S. Economic Diffusion Index and the Chicago Diffusion Index indicates a very weak positive relationship. This low value suggests that there is minimal to no linear connection between the two indices, meaning the changes in the national (U.S.) economic diffusion index and the regional (Chicago) diffusion index do not align in a consistent or predictable way.

7 Current Economic Insights

  • Slowing Growth: The economy is exhibiting signs of decelerating growth or moderate contraction.
  • Sectoral Challenges: Declines in employment, industrial production, and housing are driving this slowdown.
  • Ongoing Uncertainty: Economic volatility persists, fueled by inflation, elevated interest rates, and global challenges.
  • Localized Weakness: Although national trends seem stable, specific regions and sectors are facing more pronounced difficulties. Overall, the indices indicate that the economy remains fragile, with the potential for further slowdown if current challenges persist. Close monitoring of key economic indicators in the coming months will be essential to determine whether the economy stabilizes or continues to deteriorate.

8 Conclusion

This report developed and analyzed diffusion indices for three key economic variables in the United States, alongside the Chicago Index. By examining these indices from January 2010 to October 2024, we identified periods of both economic expansion and contraction. Both indices experienced notable fluctuations, including a significant downturn triggered by the COVID-19 pandemic. However, the Chicago Index displayed greater volatility than the U.S. Index, highlighting the importance of considering both regional and national trends to gain a comprehensive understanding of economic health, as regional dynamics can be influenced by a range of local factors.