Don’t be duped about double dip

2011 was not expected to see strong economic growth.

Walter Kemmsies chief economist, Moffatt & Nichol

  Given the poor performance of the U.S. economy year to date, it is worth reviewing the 2011 outlook published last December (“Better, not great,” pages 14-17).
   The key points were:
   • “For 2011 a 2.4 percent (real gross domestic product) growth rate looks likely. This would be less than the 2.7 percent growth rate that 2010 is likely to finish with, but the lower annual growth rate masks a pattern whereby growth in the first half of the year is lower than in the second half …
   • “In short it looks like 2011 will be another story of two halves; low growth to start but accelerating as the year progresses …
   • “U.S. trading part-ners, Europe, Asia and Latin America, are also likely to see a deceleration of growth that may have the opposite pattern of the United States …
   • “However, this deceleration is not likely to keep the U.S. economy from accelerating during 2011 …
   • “This outlook bodes well for the freight movement industry. However, it seems that trucking companies will not benefit to the extent that ports and railroads will.”
   The global economic backdrop in late 2010 made it seem likely that growth would be below the long-term average rate of 3 percent.
   Since then a number of nearly simultaneous events have weighed further on growth:
   • The devastating tsunami and earthquake in Japan disrupted supply chains across a wide range of industries.
   • Severe winter and spring weather also disrupted supply chains.
   • Flooding of the Mississippi River also impacted production.
   • Emerging market economies like China and India slowed their economies to reduce inflationary pressures resulting from rising commodity prices.
   • Southern European economies have had to engage in further fiscal austerity as part of the needed restructuring of public sector finances.
   As of July, when this column was written, the consensus view among economic forecasters has been revised down from 2.7 percent real GDP growth for 2011 last December to 2.5 percent as of July. These estimates may still prove a little optimistic depending on how resolution of supply chain disruptions impact production in the second and third quarters. However, this does not mean that a second economic contraction is imminent.
   Other factors that argued for below-trend growth in 2011 were expectations for commodity price increases, oil in particular, and the likelihood that the residential real estate market is not likely to recover very quickly.
   The outlook for oil prices was for the benchmark West Texas Intermediate oil to trade in the range of $90 to $120 per barrel. Oil demand is growing quickly in emerging markets, where consumption has exceeded that of developed economies since 2008 (“Pumped up about oil prices,” April American Shipper, page 16). The demand for other raw materials such as industrial metals and agricultural products is also growing at high rates in emerging market economies. Higher oil, and therefore gasoline, prices may be acting like a tax on consumer spending.
   Existing home sales have fallen significantly in the last several years with volume levels 25 percent below the level of 1990 when the data was first published. Low interest rates, falling prices and tax incentives have helped sales stabilize at this low level. However, many people who may need to sell their home to take a job elsewhere are unable to do so because of the large inventory of unsold homes. Perhaps more damaging is the impact that the decline in real estate tax revenues has had on local and state governments. Employment at the state and local level of government has declined by 417,000 since January 2010, while the private sector increased payrolls by 1.85 million jobs.
   As in any recovery, an improving labor market is the key factor, since it impacts consumer spending, which accounts for 70 percent of U.S. GDP. Industries with improving sales are the most likely ones to be hiring. The auto industry is a good example of that. Exporting industries are an even better example. Since July 2009 U.S. exports have been growing faster than GDP and therefore have contributed to the recovery.
   Capital goods such as construction and agricultural equipment, as well as agricultural goods, have been the fastest growing export categories. This is not surprising given that China, India and Brazil have been trying to increase capital investment in their countries. Rising incomes and poor crop conditions in many parts of the world have resulted in increased demand for U.S. agriculture as well as agricultural equipment such as tractors. Besides strong demand for such goods, the decline in the dollar’s value in currency markets has helped U.S.-made goods become more competitive.
   Strong demand for capital equipment has begun to taper off. Since the beginning of the year China, India, Brazil and other emerging market economies have been trying to slow their economies because of rising inflationary pressures. This has helped slow the growth in orders for U.S. capital goods, which on top of the well known supply chain problems due to the earthquake and weather-related events has also resulted in weakening employment trends.
   Trends in Europe have not helped. The more indebted economies along the Mediterranean have had to reduce government spending as part of the restructuring of public sector debt. This has slowed economic growth in the region and consequently demand for imported goods.
   At 23 percent of world GDP, the United States is the key to sustained global economic recovery. Exports are helping the United States, but have been offset by weak trends in the real estate and labor markets. Given that it will take some time for those sectors to improve, it is reasonable to expect economic growth to remain below its long-term average. Even if the second half of 2011 turns out to be better than the first half, the specter of a second recession is unlikely to dissipate very quickly.
   However, all things considered, the recovery has been quite resilient. It is more reasonable to expect the economy to continue to recover than to expect a second downturn.