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Why the Economic Recovery is So Slow

FORECASTS & TRENDS E-LETTER
by Gary D. Halbert
September 21, 2010

IN THIS ISSUE:

1.  Latest Economic Forecasts Don’t Look Great

2.  The Economic Recovery Has a Long Way to Go

3.  Consumer Spending Faces Strong Headwinds

4.  Americans Living in Poverty Hits New High

5.  Lastly, My Thoughts on Inflation & Gold

Introduction

The outlook for the US economy at this point is fraught with question marks.  For example, is the economy slipping back in to what could be a double-dip recession?  Or will it continue in a subpar recovery with continued very high unemployment, as some economists suggest?  The truth is, no one knows for sure, and this is one reason why business owners are hesitant to expand.

On another front, Federal Reserve Chairman Ben Bernanke recently said the Fed is prepared to engage in more quantitative easing (ie – printing money) if it looks like the economy is slipping back into recession, but would it really help?  The same question can be asked about the latest round of stimulus programs put in place by the president and Congress.  Again, no one knows.

What we do know is that US federal debt is spiraling out of control with no end in sight and trillion-dollar deficits as far as the eye can see.  Most of us know this can’t continue forever, but our leaders in Washington don’t seem to get it.  It will be interesting to see what happens if there is a Republican landslide in November.  But have the Republicans learned their lesson? 

With these unanswered questions (and many others), let’s now delve into some thoughts and forecasts on the economy over the next year or so and what may lie ahead.  We’ll start with the latest consensus outlook from a leading forecasting firm that condenses the predictions from 50 leading economists on the economy and other key indicators.  This should be very interesting.

Following that, we will explore the prospects for consumer spending making a much-needed rebound.  Consumer spending accounts for apprx. 70% of GDP, and some forecasters believe we are about to see a significant rebound on the part of consumers.  I will argue otherwise as there are some strong headwinds that are likely to keep consumers on the defensive.

Next, we will look at the alarming rise in the US poverty rate, which is very sad.  And finally, I will give you my thoughts on the prospects for the inevitable rise in US inflation, and when that trend might begin to show its ugly face.  That discussion will also include my thoughts on the runaway bull market in gold and what you should be doing now.

That’s a bold agenda for one weekly E-Letter, so let’s get started. 

Latest Economic Forecasts Don’t Look Great

The research firm Blue Chip Economic Indicators (“BCEI”) conducts a monthly survey of 50 well-known economists and forecasters and gathers their views on a variety of economic gauges.  BCEI reports not only the 50 forecasters’ views individually, but also an average of all their responses to the questions.  Their latest report was published on Friday, September 11. 

Not surprisingly, BCEI’s latest consensus outlook for economic growth for the rest of this year fell for the third consecutive month.  As I have reported in recent weeks, most of the economic data over the summer has been disappointing, and the latest consensus among the 50 forecasters is a reflection of that.

As a quick reminder, let’s review the quarterly numbers of Gross Domestic Product over the last year, and then we’ll go into more details on BCEI’s latest report.  A year ago, the economy finally turned higher with a 3Q GDP number of +1.6% (annual rate) after falling for the previous four quarters during the recession.  Then 4Q GDP rose 5.0% followed by +3.7% in the 1Q of this year.  Then in the 2Q of this year, GDP disappointed with a gain of only 1.6%   

According to BCEI’s latest report, real GDP growth in the current July-September quarter is projected to come in at an annual rate of 1.8%, little better than the disappointing 1.6% in the 2Q.  We won’t get the government’s first estimate of GDP growth for the 3Q until late October. As for the October-December quarter of this year, the latest BCEI consensus among the forecasters calls for GDP growth of only 2.3%.

As everyone reading this is well aware, the US economy has recovered from every recession since the Great Depression.   Since then, recoveries from recessions have been quite robust.  Typically, the more severe the recession, the stronger the recovery has been.  Based on that, the US economy should be growing by 5-6-7% by this point in the recovery.  But we are not growing at even half that rate.

The recession of late-2007 to mid-2009 was no garden-variety recession.  It was accompanied by the worst credit crisis since the Great Depression and a much higher than expected spike in the unemployment rate.  At the same time, we had the housing crisis and the real estate bust.  Bank lending plummeted and has yet to recover.  This is why many call it the “Great Recession.”

The Economic Recovery Has a Long Way to Go

Many economists focus on how long it takes GDP to return to its previous high during periods of recovery from recessions.  According to the Commerce Department, the peak in US GDP actually occurred in the 3Q of 2008 when Gross Domestic Product topped out at $14.4 trillion.  It subsequently fell to a low of $12.8 trillion in the 2Q of 2009.  By the 2Q of this year, GDP had only recovered to $13.2 trillion.

Obviously, this is a very slow recovery, and we still have a long way to go to get back to the peak of $14.4 trillion in 2008, and even more to exceed it.  This outlook means that the current recovery from the Great Recession – assuming it continues – will be the longest in the post-World War II period by a wide margin.  

The last two recessions remotely comparable to this one occurred in 1974-75 and 1981-82, and the recoveries took, respectively, three quarters and two quarters before the expansion reached a new high in GDP.  This recovery, by contrast, is expected to take at least twice as long.   

The recent recession officially began in December 2007, according to the National Bureau of Economic Research, the government’s arbiter of when recessions begin and end.  Yesterday, the NBER reported that the recession ended in June 2009.  Thus, this recovery has already lasted  almost five quarters, and GDP is still nowhere near a new peak.

With that in mind, let’s now look at BCEI’s consensus forecasts for GDP growth in 2011.  The BCEI consensus among 50 forecasters is for GDP growth of only 2.5% in the 1Q of 2011.  They expect a continued, but slow, expansion where 4Q GDP reaches 3.2% at the end of next year – when GDP might exceed the previous high of $14.4 trillion in 3Q 2008.

With consumer spending accounting for apprx. 70% of GDP, let’s take a look at BCEI’s consensus outlook for personal spending.  The forecasters, on average, expect inflation-adjusted consumer spending to equal or exceed the previous peak in the 4Q of 2007 by the end of this year (2010).  This forecast may surprise you, but keep in mind that the US population has grown by six million people since late 2007, or about 2%.  So, while overall consumption may reach or exceed the peak in late 2007 by the end of this year, spending by the average household is still down.

One reason that the consumer spending rate remains suppressed is the significant increase in the personal savings rate.  According to the Commerce Department, the US savings rate fell to a low of around 1% in 2005, on a seasonally adjusted basis.  But as the credit crisis unfolded, the savings rate moved rapidly higher in 2008 and reached over 7% in the 2Q of 2009. 

As of the end of the 2Q of this year, the national savings rate still stood at 6% as households continue to deleverage.  The consensus answer to BCEI’s question on the savings rate is that it will remain at a relatively high level throughout 2011, and that it will not fall back to the 2% level in the foreseeable future.

As for the unemployment rate, the BCEI consensus is that the current unemployment rate of 9.6% will hold steady through the end of 2010.  Of course, given the complicated way the Labor Department calculates the headline number, it could fluctuate slightly up or down during the remainder of this year.  The point is, the forecasters believe the unemployment rate will remain high for quite some time.

As for 2011, the BCEI consensus is that we will see a gradual decline in the unemployment rate to 9.0% by the 4Q of next year.  Even the 10 most optimistic forecasters of the 50 surveyed expect the rate of joblessness to be at 8.4% by the 4Q of next year, which is still quite high. The 10 most pessimistic forecasters believe the unemployment rate will still be running at 9.6% by the end of next year.  

The 50 forecasters were asked for their views on the likelihood of a “double-dip” recession.  On this question, apprx. 20% of the forecasters said we could well see at least one quarter of negative GDP, while apprx. 80% said that the recovery should continue over the next year, albeit at a slow pace.  Even the 10 most pessimistic weren’t betting heavily on a double-dip recession, putting the odds at a bit better than one in three.  The 10 most optimistic put the odds at a bit better than one in 10.  I wish I were so optimistic!

Finally, as you are probably aware, Fed Chairman Bernanke stated in August that the Fed would not hesitate to implement more “quantitative easing” (ie – printing money) if the US economy looked to be falling back into recession.  The BCEI forecasters were asked, if the Fed were to buy another $1 trillion in Treasury securities, what effect would that have on the economy?  Only 4% of respondents said it would have any significant effect.

Consumer Spending Faces Strong Headwinds

As I mentioned earlier, consumer spending accounts for apprx. 70% of the US economy.  Thus, it makes sense that the economy is not likely to come roaring back until consumers are confident that they can again spend more money.  Unfortunately, there are some significant headwinds to increased consumer spending that will make this a difficult task.

First, high unemployment will continue to be a drag on consumer spending.  As more and more families exhaust their unemployment benefits, consumer spending will likely suffer, especially for discretionary items not needed for basic survival.

There’s also a question as to whether consumer spending will rebound even if unemployment drops significantly, which isn’t expected anytime soon.  I have seen numerous articles discussing how families are rearranging their priorities and focusing less on spending and material things and more on quality of life, both now and in retirement (more about that later).

If you have ever talked to anyone who lived through the Great Depression, you may get an idea of what future consumer spending may be like.  Many of the people I know who weathered that period of time as adults are often adamantly opposed to debt and are much more into saving than consuming.  There always seemed to be a fear that things could get bad again, so you needed to save for a rainy day.  I’m hearing some of the same comments now coming out of the mouths of much younger adults.

Another headwind to consumer spending is the continued rise in poverty rate in the US.  The Census Bureau announced last Thursday that the number of Americans living in poverty reached an all-time high in 2009.  I will address this sad finding in more detail below.

Another headwind to consumer spending is the need to save for retirement.  A recent study published by Boston College’s Center for Retirement Research found that American households are $6.6 trillion short of what they need to have to assure a comfortable retirement.  This “retirement deficit” study based its findings on projections of retirement and income for Americans ages 32 to 64.

In the financial planning world, if a client has a “retirement deficit,” the most typical advice is to increase savings.  That process, in turn, automatically reduces the amount available to spend on consumer goods and discretionary items.  Multiply that by the tens of millions of Americans who have not saved enough for retirement – or whose nest eggs were decimated by the two bear markets in the last decade – and you have another major headwind to consumer spending.

Obviously, the points made above are not the only headwinds to consumer spending, but they are the most likely forces to come into play in the near future, in my opinion.  As always, there are a number of economists who are always optimistic and expect consumer spending to return to “normal” and continue to power economic growth on into the future. 

I guess they are assuming that Americans will exhibit their typical short memories and resume their old bad spending habits.  This time, I don’t think they’re going to be right.  This time around, I think that American households are going to be more like those that weathered the Great Depression where cash was king and savings was an obsession.  We’ll see.

Americans Living in Poverty Hits New High

The Census Bureau reported last Thursday that the US poverty rate surged to 14.3% last year, the highest since 1994 on a percentage basis, as the recession took its toll on incomes.  The actual number of Americans counted as living in poverty was the highest on record.

In 2009, the official poverty level stood at $21,954 for a family of four, based on a government calculation that includes only cash income before tax deductions.  It excludes capital gains or accumulated wealth, such as home ownership, which were virtually non-existent for most American families in poverty over the last two years.

Apprx. 43.6 million Americans were living in poverty last year, the highest number ever recorded,  the Census Bureau said late last week in its annual report on the economic well-being of US households during President Barack Obama’s first full year in office.  By comparison, the poverty rate in 2009 climbed from 13.2%, or 39.8 million people, in 2008. 

The latest 14.3% poverty rate, which covers all ages, was actually lower than the estimates of many demographers who were bracing for a record increase based on the skyrocketing rate of unemployment over the last couple of years.  Many forecasters had predicted that the poverty rate would climb to a rate of 14.7% to 15%.

Analysts cited the increases in Social Security payments in 2009 as well as federal expansions of unemployment insurance benefits, which rose substantially in 2009 under the economic stimulus program, as the main reasons the poverty rate didn’t rise even more.  With the additional unemployment benefits, workers were eligible for extensions that gave them up to 99 weeks of payments after a layoff.

Another likely factor in the poverty number coming in slightly lower than expected was the record number of working mothers last year, who helped households by bringing home paychecks after the recession took the jobs of a disproportionately high number of men.

Poverty rose last year among all race and ethnic groups, but stood at higher levels for blacks and Hispanics.  The number of Hispanics in poverty increased from 23.2% in 2008 to 25.3% last year, and for blacks it increased from 24.7% to 25.8%.  By comparison, the number of whites in poverty rose from 8.6% to 9.4% in 2009.  Sadly, child poverty rose from 19% in 2008 to 20.7% last year.

The official Census Bureau poverty rate takes into account the effects of some “stimulus programs” in 2009, such as extended unemployment benefits, as well as jobs that were supposedly  ‘created or saved’ by government spending, as President Obama likes to cite.  But it does not factor in non-cash government aid such as tax credits and food stamps, which have surged to record levels in recent months.

At the end of the day, the question is: Why have US poverty rates soared at a time when the government is spending trillions of dollars and extending unemployment benefits to record levels (currently 99 weeks)?  Obviously, a big reason is that we’ve just been through the worst recession/credit crisis since the Great Depression.

But it could also mean that spending trillions and trillions of dollars, as we have done in the last few years, and exploding the national debt, is NOT the answer.  Interestingly, we are seeing more and more Keynesian advocates in Washington coming to agree that massive spending is not the answer, and it will be very interesting to see how this plays out after the November elections.

I will have more to say about this after November.  For now, let’s switch to another topic.

Lastly, My Thoughts on Inflation & Gold

My guess is that just about everyone that reads my weekly E-Letter would agree that we will have a serious bout of inflation at some point down the road, what with trillion-dollar budget deficits as far as the eye can see.

For now, however, deflation seems to be the greater concern.  As noted above, the Fed is prepared to print a lot more money to buy up securities if the economy starts slipping back into recession.  But what the Fed is really most concerned with is deflation.  I discussed the issue of deflation at length in my August 24 E-Letter, if you care to look back at that discussion.

The question that just about everyone asks me is: When do you think inflation will really kick in?  No one knows for sure, but a large majority of BCEI’s 50 forecasters believe that inflation will not be a problem at least until the end of 2011 – barring some major surprise.  Among the various other sources I read, I find almost no one who believes inflation will start to kick up in a meaningful way before the second half of 2011.

One of the other most common questions I get these days is: What do you think about gold?  My pat-answer is: I don’t think about gold.  With gold near $1,300 per ounce, there’s not much reason to think about it – unless, of course, you already own it and you’re wondering whether you should stay invested or take profits.

The only gold I own outright is my reserve store of gold coins that I don’t ever intend to sell.  What I tell people who are in the gold market now, on a speculative basis, is to keep in mind that gold is really a small market as compared to many other commodities.  It can turn on a dime!  And when it does top-out, it almost always falls off a cliff.

Another thing that bothers me is, you can’t turn on a radio or TV program without hearing or seeing multiple ads for gold.  Maybe gold is on its way to $2,000 an ounce as the promoters tout.   I don’t pretend to know.  But the idea of buying into gold now, near $1,300 an ounce, is beyond me!  Especially with the US economy on the edge of deflation.

I would instead be thinking of taking some profits off the table on this run.  Or at the least, make sure you have some type of “stop-out”mechanism to get you out should the price fall below a certain point.  Don’t rely on your emotions to get you out!

Finally, as most of you know, my company, Halbert Wealth Management, continually searches the universe of professional money managers, and we recommend those that pass our due diligence scrutiny to our many clients across the country.  Interestingly, we have never found a manager with a successful, long-term track record trading gold mutual funds.

We are still looking, of course, but this is another indication of how difficult it can be to navigate the gold market successfully.  If you are fortunate enough to be sitting on some big gains in gold, maybe you should consider taking some profits.

That’s all for this week.

Very best regards,

Gary D. Halbert

SPECIAL ARTICLES:

Recession ended in June 2009, but the recovery has been very slow
http://news.yahoo.com/s/nm/20100920/bs_nm/us_usa_economy_nber

John Hussman: Why the Economy is Weak and Likely to Stagnate
http://www.benzinga.com/10/09/483972/hussman-why-the-economy-is-weak-and-likely-to-stagnate

Democrats chose the wrong time for big government.
http://www.realclearpolitics.com/articles/2010/09/21/democrats_chose_wrong_moment_for_big_government_107242.html


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Forecasts & Trends E-Letter is published by ProFutures, Inc. Gary D. Halbert is the president and CEO of ProFutures, Inc. and is the editor of this publication. Information contained herein is taken from sources believed to be reliable but cannot be guaranteed as to its accuracy. Opinions and recommendations herein generally reflect the judgement of Gary D. Halbert (or another named author) and may change at any time without written notice. Market opinions contained herein are intended as general observations and are not intended as specific investment advice. Readers are urged to check with their investment counselors before making any investment decisions. This electronic newsletter does not constitute an offer of sale of any securities. Gary D. Halbert, ProFutures, Inc., and its affiliated companies, its officers, directors and/or employees may or may not have investments in markets or programs mentioned herein. Past results are not necessarily indicative of future results. Reprinting for family or friends is allowed with proper credit. However, republishing (written or electronically) in its entirety or through the use of extensive quotes is prohibited without prior written consent.

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