Last week I wrote:

The economy was not in recession in the third quarter, which means the backward looking data flow through this month will not be particularly dire.

Consistent with this prediction, the September employment report painted a picture of an economy still wading through knee-deep mud, but not in economic collapse. That said, prior to the report, Barry Ritholtz offered some wisdom regarding individual data points versus trends:

What does matter is the overall vector of a given economic sector. Vectors include the rate of acceleration or deceleration, persistency, direction etc. Think overall “trend” and changes thereto. For employment, this means: Are we seeing an increase in the factors that lead to hiring? What is the ratio between hires at big firms vs small firms? Are Wages increasing, staying flat, or decreasing; Temp workers getting hired, total hours worked etc. What are the likely data and modeling errors? Collectively, those factors all add up to an issue of the employment situation roughly improving, maintaining a stability, or getting worse.

Hence, each data point should be looked at in terms of whether it is continuing the overall trend, or suggesting a reversal in trend. Everything else is noise.

With trends in mind, the data did little to dispel my concern that private sector hiring rolled-over earlier this year, especially when combined with last week’s read on employment via the ISM nonmanufacturing report:

Trends notwithstanding, Bloomberg offers up some optimisim on the outlook:

A string of stronger-than-projected statistics — capped by the news on Oct. 7 of a 103,000 rise in payrolls last month –has prompted economists at Goldman Sachs Group Inc. and Macroeconomic Advisers LLC to raise their growth forecasts for third quarter growth to 2.5 percent from about 2 percent. That’s nearly double the second quarter’s 1.3 percent rate and would be the fastest growth in a year.

“The U.S. economy doesn’t look like it’s double-dipping at all,” said Allen Sinai, president of Decision Economics Inc. in New York. “But it is a crummy recovery.”

The article offers up the usual caution on Europe and increasingly tight fiscal policy when the New Year begins. But the bottom line is correct – on the basis of existing data, the recession call looks like a long-shot.

Getting to the recession call requires generally ignoring the incoming data on the real economy and instead focusing on financial markets. Then recognize that in recent experience, financial distress leads to broader economic distress. Moreover, at the moment, the slowdown in US economic growth coupled with the possibility of sovereign default in Europe are combining in such a way as to expose the inherent vulnerabilities in a still-under-capitalised global financial system. See Edward Harrison here.

And although there is optimism the European situation can be resolved in three weeks, they seem to be walking a very fine line between attempting to recapitalize the banking system without undermining sovereign debt ratings while maintaining what effectively amounts to a pegged exchange rate system that is fundamentally inconsistent with the economic needs of more than one nation. In addition, they have an odd situation where every nation needs to issue Euro-denominated debt, but no nation can actually print Euros as a backstop. It’s as if each nation issues only foreign-denominated debt, with ultimately no lender of last resort on a national level. Of course, the European Central Bank could fill this role, but will they?

My experience is that when a financial landscape is as ugly as we see here, there is no rescue plan. Things tend to get much worse before they get better. That seems to be what financial market are telling us.

With that cheery thought in mind, I offer another distressing correlation. While I generally find monetary aggregates difficult indicators in the best of time, this caught my attention:

Since the end of the 1990′s, there has been a negative correlation between M2 growth and industrial production growth. It appears that financial market disruptions of the current magnitude are sufficient to drive substantial changes in spending. If this correlation continues to hold, then I need to rethink my belief that any recession in the near term will be relatively mild considering the lack of rebound from the last recession. Perhaps underneath today’s seemingly comforting data something very ugly is brewing. Which means enjoy these big rallies on Wall Street while you can.

This post originally appeared at Tim Duy’s Fed Watch and is reproduced with permission.