By Walter Kemmsies
Call at (212) 768-7454 or e-mail
It’s time to review forecasts for economic and trade trends for 2012 published in December 2011.
In June of every year there is enough data published to allow for a reasonable revision. By reasonable it is meant taking into consideration that much of the data is often revised for months and in some cases years after first being published. For example, U.S. Gross Domestic Product data is published one month after the end of a quarter, and revised until the “final” estimate is published two months later.
Given the weakening headline data over the last few months, at this point it‘s hard to diagnose the state of the economy much less develop forecasts with any level of confidence. Nonetheless the “tea leaves” have to be read and here it goes.
Story remains intact.
The expectation as of last year was that Europe would spend 2012 in a recession and underdeveloped economies would grow more slowly because of their dependency on exports to developed economies.
The important question was whether the U.S. recovery would gain sufficient steam to offset the impact of the European recession on underdeveloped economies. The jury is still out on that. China, India and Brazil are sputtering along while Mexico appears to be doing better than expected. This may be due to the near-sourcing of U.S. manufacturing, a trend that has been developing for several years (see “Outsourcing, near sourcing and reverse sourcing” in May 2010 issue).
The global outlook is even more dependent on the United States than expected last December. An anti-restructuring faction in Greece has gained political support, which could lead to an exit from the euro. Something that’s not expected but shouldn’t be ignored (see the January issue’s “10 things we do not expect but could happen”). Financial capital is already fleeing Greece and other peripheral economies, which is weakening banks’ ability to make loans in other struggling economies such as Spain and Portugal. The next step in this drama is either nationalization of banks in the periphery countries or an outright exit from the euro.
The problem in Europe is that the periphery countries had historically higher inflation than the core countries, Germany in particular. For these smaller economies to be able to join the euro, they needed a severe contraction of money and credit supply, such as what the United States had to do in 1980-82, to contain structural inflation. Unfortunately, neither the periphery countries nor the European Union have taken these harsh but necessary steps.
The main risk of recession in Europe is that it slows economic growth in the United States. In the grand scheme of things, the recession in the periphery countries is of little consequence to the United States and Asia since they represent 5 percent of world GDP. However, the recession in the periphery countries is most likely to spread to the core countries, increasing the drag on global growth.
In this emerging scenario, growth in the United States becomes even more critical to the global outlook, a trend that has been frequently discussed in this column.
Growth in the U.S. economy is literally all that stands between the current situation and a global recession. Although growth in U.S. economic activity has slowed, that does not mean that a recession is inevitable. Companies have not been quick to hire, as indicated by the current 8.2 percent unemployment rate, while consumer expenditures have already recovered to a level that exceeds the previous peak in 2007. Companies in industries that lead U.S. exports, such as agriculture, energy and capital goods, are investing in plants, property and equipment. Commodity prices, oil in particular, have declined from their recent peak levels, which allows consumers to spread their spending across a wider range of goods.
For now it is the outlook in the United States that matters most and there is nothing in the published data to indicate the country is headed into a recession in 2012. U.S. GDP growth has slowed from 3 percent in the fourth quarter of 2011 to an estimated 1.9 percent in the first quarter of 2012, however, the composition of GDP growth is healthy in that consumer spending accelerated which offset a decline in inventory building. Data shows that employment in the private sector has slowed from the 216,000 average job gains between September 2011 and February 2012 to a 105,000 average job gains in the last three months. However, it should be noted that many workers who had been on temporary payrolls have moved to permanent positions, which does not show up in the data. The key indicator is automobile sales which continue to improve.
An emerging concern among U.S. corporate executives is the potential effect of automatic fiscal budget cuts and tax increases in 2013. Absent congressional action, automatic spending cuts will occur in early 2013, and the 2001 and 2002 tax reductions will be allowed to expire at the same time. The Congressional Budget Office estimates the combined impacts of these two actions will be significant and negative on both employment rates and overall economic activity—likely pushing the United States into recession.
While the global outlook depends on trends in the United States, it’s important to recognize that thanks to globalization (global production and distribution operations) the world economy is more integrated today than it has been at any other time since at least 1917. Exports as a percentage of GDP are higher today than they have been at least since the end of World War II. Policymakers around the world are aware of this and before predicting the worst possible growth scenario one needs to consider how they will react.
There are two sets of policymakers. The first group is the national representatives, such as senators and members of parliament, as well as prime ministers or presidents. They dictate fiscal policy, government spending and taxing decisions. Worldwide this group is divided into those who believe all government debt is bad and those who think government handouts are the solution. Both are wrong. As the situation in Europe indicates, austerity worsens matters when economies are trying to recover. In fact, austerity at this point would worsen federal deficits since companies that depend on sales to the public sector would lay off workers. These workers would pay less in taxes and receive unemployment insurance, thus worsening a government’s budget deficit.
A better policy response was discussed last month (see “The fork in the road — Part 2”).
The second group of policymakers is the central bankers. This consists of the Federal Reserve, European Central Bank, Bank of Japan, etc. They have lowered interest rates to their lowest levels since World War II. That effort may have helped because this lowers the cost of financing investments in expansion projects. In the United States, investment in plant, property and equipment has been rising. The central banks have been buying government bonds to keep public sector borrowing costs, and therefore budget deficits, low. Many policymakers who believe in austerity want this practice halted even though that could increase the government’s cost of borrowing and therefore worsen budget deficits.
The effect of mistimed austerity policies is fairly obvious, but somehow difficult for policymakers to avoid.
Policy, economic and trade outlook.
|Sources: U.S. Department of Commerce, World Trade Organization, Moffatt & Nichol.
Given the trends in place in the United States, the recession threat in Europe and the slower pace of growth in emerging markets, expectations of U.S. GDP growth in the 2.5- to 3-percent range in 2012 are revised down to 2 to 2.5 percent. Current estimates for first quarter GDP are for 1.9 percent, which could be revised up or down by 0.2 percent by the end of June. If the current trends in employment and consumer spending hold up, GDP growth would end up in the 2- to 2.5-percent range.
In terms of trade flows, both export and import growth forecasts have been lowered but exports are still expected to grow faster than imports. New forecast levels will be covered next month.
By then, we will know if Congress can muster the discipline to pass the only short-term measure to reduce uncertainty and provide some small measure of employment stability through a reauthorization of the federal surface transportation programs, popularly known as the “Highway Bill.” This action, or inaction, will help us to prepare growth forecasts next month.
Kemmsies is chief economist of Moffatt & Nichol, a marine infrastructure engineering firm. He can be reached at (212) 768-7454 or by e-mail.