The U.S. Economic Outlook, Fiscal Issues and European Crisis October 1 Troy Davig Director of Research
Outlook themes The US remains in a moderate growth environment The unemployment rate is 8.1%, close to its value in January The recovery in the housing sector is gaining traction Core measures of inflation remain in line with % goal, with upside risk to headline measures due to food and energy Major risk factors: Europe and the fiscal cliff
Since the end of the recession, growth has been moderate Bn 5 $ (saar) 137 Bn 5 $ (saar) 137 13 17 1 avg growth:.7% q/q (saar) avg growth:.% q/q (saar) 13 17 1 117 117 11 6 8 1 1 Real GDP 11 Source: Bureau of Economic Analysis, Haver Analytics 3
The unemployment rate is little changed since January %(sa) 1 1 8 6 7 8 9 1 11 1 Unemployment rate (left) % (sa) 1 1 8 6 Source: Haver Analytics, Bureau of Labor Statistics
Gains in job openings continue to outpace gains in hiring Ths (sa) 6 Ths (sa) 6 5 5 3 3 1 3 5 7 9 11 Job openings Job hires Source: Bureau of Labor Statistics, Haver Analytics 5
Long term unemployment remains elevated % 5 3 1 6 8 1 1 % 5 3 1 Share of Long term Unemployed (7+ weeks) Source: Bureau of Labor Statistics, Haver Analytics 6
Consumers still remain heavily indebted, but have made substantial progress in deleveraging the past few years % of disposable personal income 1 % of disposable personal income 1 1 1 1 1 8 8 6 6 1976 1981 1986 1991 1996 1 6 11 Household debt Source: Federal Reserve Board, Bureau of Economic Analysis, Haver Analytics 7
Household wealth has fluctuated over the past 15 years, but remains above its level from 1985 1995 % of disposable personal income % of disposable personal income 7 7 65 6 55 5 5 65 6 55 5 5 1975 198 1985 199 1995 5 1 Household net worth Source: Federal Reserve Board, Bureau of Economic Analysis, Haver Analytics 8
Companies appear cautious about their capital spending, as orders for new capital equipment have been declining $ bn (sa) $ bn (sa) 7 7 65 65 6 6 55 Jan 11 Apr 11 Jul 11 Oct 11 Jan 1 Apr 1 Jul 1 55 New orders: core capital goods Shipments: core capital goods Source: Census Bureau, Haver Analytics 9
House prices are showing convincing signs of increasing y/y % chg 6 6 y/y % chg 6 6 8 8 Jan 1 Jul 1 Jan 11 Jul 11 Jan 1 Jul 1 CoreLogic FHFA: purchase only Case Shiller composite Source: CoreLogic/ Haver Analytics, Federal Housing Finance Agency, S&P/Fiserv/MacroMarkets LLC 1
Ths units (saar) 19 Construction of multi family housing units continues to trend higher Ths units, 3m ma (saar) 5 15 35 11 5 7 15 3 5 1997 1999 1 3 5 7 9 11 Single family housing starts (left) Multi family housing starts (right) Source: Census Bureau, Haver Analytics 11
Inflation is running a bit below % y/y %chg(sa) 5 3 1 y/y % chg (sa) 5 3 1 1 1 3 5 6 7 8 9 1 11 1 1 PCE price index Core PCE price index Source: Bureau of Economic Analysis 1
Retail gasoline prices have moved up sharply over the past month cents/gallon, avg 38 36 3 3 3 8 6 cents/gallon, avg Jan 1 Jul 1 Jan 11 Jul 11 Jan 1 Jul 1 US retail gasoline price: regular grade 38 36 3 3 3 8 6 Source: Energy Information Administration, Haver 13
Retail food prices are likely to move higher in coming months Index: Jan, 197 = 1 5 5 35 3 q/q % chg (saar) 1 8 6 5 Sep 1 Dec 1 Mar 11 Jun 11 Sep 11 Dec 11 Mar 1 Jun 1 Sep 1 S&P GSCI Agricultural & LiveStock Index (left) CPI U: Food (right) Source: Standard & Poor s, Bureau of Labor Statistics, Haver Analytics 1
Risk Factor #1: The European trilemma Sovereign debt crisis Poor fiscal management and rising bond yields in some countries threaten fiscal sustainability. Banking crisis A property bust in some markets and a decline in sovereign debt values have impaired eurozone banks. Slow growth / recession Tighter fiscal policy and financial conditions, plus uncertainty, is weighing on growth. 15
Sovereign yields have diverged % 35 3 5 15 1 5 1 Year Sovereign Yields % 35 3 5 15 1 5 7 8 9 1 11 1 Greece Portugal Spain Ireland Italy France Germany Source: Bloomberg 16
The rise in sovereign yields reflects concerns over fiscal sustainability % of GDP Fiscal Balance to GDP % of GDP 6 6 8 8 1 1 1 1 1 3 5 6 7 8 9 1 11 Germany Italy Eurozone Spain Source: Bloomberg, Eurostat 17
Euro area and US growth looked similar during the recession, though Euro area growth has now stalled y/y % chg 6 GDP Growth y/y % chg 6 6 6 7 8 9 1 11 1 Euro area real GDP US real GDP Source: Bureau of Economic Analysis, Statistical Office of the European Communities, Haver Analytics 18
A challenging negative feedback cycle Government balance sheet Banking sector balance sheet Future tax revenue Sovereign debt Decline in market value Sovereign debt Equity Solvency concerns Weak tax revenue Fiscal tightening Loans Debt Higher funding costs Real economy Slow loan growth Deleveraging pressure 19
Risk Factor #: US fiscal policy According to the Congressional Budget Office the full impact of the fiscal cliff will cause a recession in 13 If the fiscal cliff is avoided: Deficits are likely to improve in the next few years, but will remain large by historical standards Debt will rise at an unsustainable pace and further accelerate later this decade
Without Congressional action, US federal fiscal policy will tighten by about $56bn in 13 $13 bn sequestration, extended UI benefits, doc fix $15 bn Other $399 bn Expiring tax provisions and new taxes Source: Congressional Budget Office 1
The Congressional Budget Office is forecasting a recession under current law (i.e. the fiscal cliff is fully realized) %chg q/q (saar) 3 1 1 3 5 1 Q3 1 Q 13 Q1 13 Q 13 Q3 13 Q Real GDP, under CBO fiscal cliff scenario Source: Congressional Budget Office, Haver Analytics
Private forecasters project continued growth and presumably, that the fiscal cliff will be avoided % chg q/q (saar) 3 1 1 3 5 1 Q3 1 Q 13 Q1 13 Q 13 Q3 13 Q Real GDP, under CBO fiscal cliff scenario Real GDP, Blue Chip forecasts Source: Blue Chip Economic Indicators, Congressional Budget Office, Haver Analytics 3
Hitting the cliff may be undesirable in terms of growth, but would notably decrease deficits in the coming years FY $ bn FY $ bn 8 1 Projections under current law 8 1 16 16 1998 6 1 1 18 CBO baseline budget deficit Source: Congressional Budget Office, Haver Analytics
Extending existing policies will cause deficits to widen dramatically FY $ bn FY $ bn 8 8 1 1 16 16 1998 6 1 1 18 CBO baseline budget deficit CBO alternative fiscal scenario Source: Congressional Budget Office, Haver Analytics 5
Deficits could begin persistently widening sooner than 15 if growth disappoints y/y % chg 5 y/y % chg 5 3 3 1 1 1 16 18 Real GDP forecast: CBO Real GDP forecast: Blue Chip 1 Source: Congressional Budge Office, Office of Management and Budget, Haver Analytics 6
Extending existing policies will create a mountain of debt % of GDP % of GDP 5 5 Projections 15 1 5 5 197 198 199 1 3 Extended alternative fiscal scenario Extended baseline scenario 15 1 5 5 Source: Congressional Budget Office, Haver Analytics 7
Despite forecasts of rapidly rising debt levels, yields continue to decline % yield % yield 7 7 6 5 3 1 6 5 3 1 1 3 5 6 7 8 9 1 11 1 US 1y yield Source: Financial Times, HaverAnalytics 8
Forecasts of large fiscal deficits have not caused inflation expectations to rise Avg, % Avg, % 3. 3..5. 1.5 1. Chairman Bernanke JH speech.5 QE1. 6 7 8 9 1 11 1 5y5y ahead inflation rate QE.5. 1.5 1..5. Source: Federal Reserve Board, Haver Analytics 9
Final points The Congressional Budget Office forecasts that the US will experience a recession if the fiscal cliff is fully realized A fiscal tightening, however, will notably improve mediumand longer term deficit projections A grand bargain before Dec 31, 1 that smoothes out the timing of the fiscal tightening is the best option 3