Economy: Muddling along might have to be enough for now
America is getting good at muddling through.
That was the economy’s disheartening growth story in the first half of 2011. Things may not look much different in the second half.
It’s hard to concede as much, this being the world’s largest economy. We don’t want to muddle. We want to soar, like in the old days.
Federal Reserve Chairman Ben S. Bernanke doesn’t want the U.S. to be doomed to muddling, which is why he had the Fed create $600 billion from thin air in the last seven months to buy more Treasury bonds.
The money was supposed to stimulate the economy. Here’s what we got for it: real annualized gross domestic product growth of 1.9% in the first quarter and probably somewhere in that same vicinity in the second quarter.
At the start of the year many forecasters were expecting growth of double that pace or more for the $15-trillion U.S. economy.
“We don’t have a precise read on why this slower pace of growth is persisting,” Bernanke said at his news conference last month.
But then he added: “One way to think about it is that maybe some of the head winds that have been concerning us, like, you know, weakness in the financial sector, problems in the housing sector, balance sheets and deleveraging issues, some of these head winds may be stronger or more persistent than we thought.”
Well, exactly. And it’s difficult to believe that the Fed really is surprised by any of this.
Certainly, the jump in oil prices last winter, as social unrest in the Middle East exploded, cost the U.S. some growth. So did Japan’s terrible earthquake in March, which led to bottlenecks in the global industrial supply chain, particularly for autos and tech equipment.
With oil down from its spring highs and Japan ramping up production, those factors will be less of a drag on the economy. And the money the Fed pumped into the financial system, which mostly still is sitting at the banks, may start to trickle into the real economy via loans.
Once again, many analysts see growth reaching 3% to 4% rates in the second half.
But even as stocks surged this week on renewed optimism, Friday’s batch of economic reports gave mixed signals. An index of U.S. factory activity in June showed a surprising upturn. But consumer confidence fell more than expected last month and U.S. construction spending in May slid for a sixth straight month.
With housing still severely depressed, state and local governments continuing to slash spending and many consumers pinned down by huge debts piled up in the last decade, a ticket out of Muddleville doesn’t seem likely soon.
Struggling along at a low growth rate is an unsatisfying scenario, except for the far worse fate: falling back into recession.
Muddling “isn’t great, but it’s not the end of the world either,” said Barry Knapp, stock market strategist at Barclays Capital in New York.
And if you consider all of the obstacles the economy faced in the first half (oil, housing, Japan, Europe’s debt debacle, etc.), muddling actually sounds like an achievement.
For investors, the challenge now is to be realistic: not overly optimistic, but neither too pessimistic.
As the second half of 2011 gets underway, here are three economic themes that may be useful in putting muddling into perspective:
The haves vs. the have-nots. The social divide in America has widened dramatically since the recession. Fourteen million people are unemployed, millions more are underemployed. Almost 11 million homeowners carry mortgages worth more than their homes.
It’s easy to look at numbers like those and see a nation still deep in recession, or worse.
How can we be growing at all? In an economy with 140 million people working, the suffering of the have-nots can mask the spending power of tens of millions of people who still have well-paying jobs and aren’t crushed by debt.
“The haves are spending money,” said Ed Yardeni, an economist and head of Yardeni Research in New York.
If we assume that the agonizingly slow pace of job growth since 2008 will continue indefinitely, the gulf between the haves and have-nots will widen further. It’s a sad commentary, but it doesn’t mean the economy will collapse.
It probably does mean, however, that the Fed isn’t going to tighten credit any time soon. That’s another benefit for the haves (and the stock market) while doing very little for the poorest of the have-nots.
More clout for big corporations. They have global reach, they’re highly competitive, they benefit from the falling dollar and many of them have large cash hoards. U.S. blue-chip companies have the real heft in this economy.
Wall Street believes that that heft will translate into continued earnings growth this year and into 2012. That explains why, despite the U.S. economy’s weak growth rate in the first half, the Standard & Poor’s 500 index managed to gain 5% in the period — and an additional 1.4% on Friday.
Operating earnings of the S&P 500 companies surged 19.7% in the first quarter from a year earlier. Analysts’ estimates peg second-quarter growth at 15.6% and third-quarter growth at 16.9%, according to S&P.
We’ll know soon if that second-quarter estimate is too optimistic. But one reason earnings have been so strong since 2009 is that hiring hasn’t. Shareholders win, but at the expense (again) of the have-nots.
Shares of companies including Du Pont Co., IBM Corp. and Johnson & Johnson are priced at 12 to 14 times estimated 2011 earnings per share. The market’s resilience in the first half suggests many investors are content to hold on at these price levels. “No one feels that they have to sell good-quality stocks” at those valuations, said Jim Swanson, investment strategist at MFS Investment Management in Boston.
Fast growth is a foreign story — and that’s also the risk. While the U.S. economy muddles, governments in rapidly growing economies including China, India and Brazil are tightening credit, trying to cool their own growth rates to combat rising inflation.
The fear is that they could succeed too well. On Friday, indexes of June manufacturing activity in China, India, Taiwan and South Korea all showed slowing production.
In part those exporting nations are being hurt by weaker demand from the U.S. and Europe. But that also makes it more crucial that they don’t kill off homegrown demand.
Likewise, the inflation-wary European Central Bank is expected to raise short-term interest rates next week, despite the risk of worsening the Continent’s government-debt crisis.
If the U.S. stays stuck in muddle mode, we will become more dependent on overseas demand. In terms of economic policy, decisions made in Beijing, New Delhi and Berlin now may matter as much for the U.S. as those made in Washington.
