Economy Slows in First Quarter; Weaker Jobs Growth Likely
The following originally appeared on TheStreet.com.
The economy grew at a 3% annual rate in the fourth quarter of 2011, but first half growth is likely to disappoint, renewing upward pressures on unemployment.
Fourth quarter growth was powered by stronger consumer spending — especially on autos, substantial additions to business inventories, and stronger multifamily home construction. In the first quarter, gains in consumer spending continued, but outpaced income growth. However, unlike the boom years of the last decade, households are not able to refinance credit card debt and auto loans by further mortgaging their homes, and consumers simply have to slow down soon.
In addition, nonresidential construction spending has been disappointing. Whereas construction, overall, contributed positively to GDP growth in the fourth quarter of 2011, it will subtract in first quarter of 2012.
The economy will register growth at about 2.2% the first quarter and then slack off in the second quarter to well below 2%. The second half should see growth just above two%, and hardly enough to bring down unemployment. Those trends should continue into 2012.
Household incomes have simply not been growing rapidly enough to sustain the recent surge in consumer spending. Although the consumption component of GDP will be strong the first quarter, too much of that was tapped off to pay for imported oil through higher gas prices, and that will drag on GDP through the trade balance.
Moreover, the surge in hiring from December through February was not matched by strong improvements in wages, and if gas prices in the range of $4 a gallon continue, those will markedly affect consumer behavior through the spring and into the summer.
Recent data for new hiring and rising unemployment claims indicates the jobs market is cooling again, and that will further dampen household income growth and consumption. New hiring will be barely sufficient to accommodate labor force growth, and certainly well below the 360,000 new jobs needed each month to pull down unemployment to 6% over three years.
Housing market woes and financing problems of small businesses are not likely to change, without fundamental changes in the regulatory policies pursued by the Obama Administration.
The costs imposed on regional banks by tighter regulations for residential mortgages, and the greater concentration of deposits among large Wall Street banks — thanks to industry consolidation prompted by Dodd-Frank — make financing more easily available for multiunit developments and large businesses. Much of the recovery in residential construction has been concentrated in apartment buildings.
Overall, housing values are likely to continue falling through the spring and not improve dramatically the second half, owing to slower employment and wage growth.
Industrial production and manufacturing will continue to expand but jobs creation in those sectors continues too slowly. Simply, the failure to address currency issues with China and others, and rising protectionism in China, Brazil and others in their orbits make manufacturing using significant amounts of labor tough in the United States. Most of the gains will be in resource related sectors — e.g., oil and gas equipment — and high-tech and other durables, using minimal production labor.
Risks to Recovery
Adverse events in any one of five areas could instigate a recession.
1. China faces real challenges — falling property, questionable accounting standards and state banks stuffed with bad loans. Once again, China is turning to protectionism — increasing tariffs and suppressing the value of its currency to keep out U.S. exports. The administration has shown little inclination to confront these aggressive practices other than through piecemeal WTO complaints, which in total do not yield the systemic improvements necessary to correct the trade imbalance with China.
2. Most major U.S. banks are healing, as witnessed by the Fed’s recent stress tests. Even Citibank(C_) is likely in better shape than the Fed estimated — it over weighted the risks associated with Citibank’s large overseas loan portfolio, and failed to recognize the value of international diversification. The securitization market is showing some life, and regional and small banks are realigning around business lending as new federal regulations make conventional home mortgages too difficult to write.
After buying up smaller banks that can’t cope with new, tougher regulations, Wall Street banks control more than 60% of deposits nationally, and are driving down CD rates (essentially exploiting monopoly positions as they acquire banks in regional markets). Seniors are losing a lot of purchasing power, and Wall Street banks are less interested in making loans to Main Street businesses than were the regional banks they absorbed.
3. Oil prices appear to have plateaued, and the Obama Administration, its election year rhetoric notwithstanding, continues to stall, slow and stop U.S. oil and gas projects at every turn. That affects the economy much like a negative stimulus package — petroleum projects use the same kinds of stuff (steel, cement, construction workers) as building roads and buildings.
4. The EU is in recession and remains in deep trouble — fixes for Greece, Portugal and Ireland are inadequate and eventually will need to be reworked. Spain is teetering on crisis — a failure of its government to meet budget targets or a further spike in unemployment, already above 20%, could set off contagion affecting Italy.
European banks are highly stressed. Those have not used the grace afforded by easy credit from the European Central Banks to properly add to capital and rework loan portfolios. Rather, they have often adopted gimmicks to paint up bad loans or move those into offshore vehicles — all reminiscent of tactics employed by U.S. major backs when mortgage back securities became problematic before the financial crisis.
5. U.S. higher education loans — now more than $1 trillion– are a ticking bomb. Undergraduates are borrowing too much against future incomes, and many graduate students are borrowing to obtain degrees that will not markedly improve their circumstances.
Most education loans are not dischargeable through bankruptcy, and big debt coupled with disappointing pay will become an increasing drag on consumer spending for the next decade.
In the face of all this, the U.S. private sector is proving remarkably resilient. Neither policy missteps in Washington nor purposeful incompetence in Europe can keep American capitalism down. However, it would be a darn sight better with better government leadership on both sides of the pond.