• Home ::
• Fundamental ::
• Analysis Reports

• Send
• Print
• Add To

Monthly Economic Outlook

01c27990-9698-40de-9b40-6b0bec67b3fd

24

3

A Serious Recession Has Set In

Thu, Nov 13 2008, 08:11 GMT
by Wachovia Research Team

Wachovia

U.S. Overview

A Serious Recession Has Set In

While the NBER will not likely get around to declaring when a recession began until late January or early February, there is little doubt a serious recession has set in. Real GDP declined at a modest 0.3 percent pace in the third quarter and more recent data have been decidedly more negative. Nonfarm payrolls fell 240,000 in October, following a much larger-than-initially-reported 279,000 job loss in September.

Not only has the pace of economic decline intensified but it has also broadened considerably. Both the ISM manufacturing and non-manufacturing surveys fell well-below their key break-even level of 50 in October. The pace of layoff announcements has also picked up, as has the list of firms announcing earnings disappointments.

While lending among banks has improved, the credit crunch is still abundantly evident virtually everywhere else. Underwriting criteria for home mortgages and consumer loans remain exceptionally tight and terms are far less generous than they have been anytime this decade. Lending for commercial real estate has all but dried up and the list of delayed and canceled projects has skyrocketed. Even state and local governments are scaling back.

We expect policymakers to continue to work to offset this weakness, with a new stimulus package; likely to be passed during the lame duck congressional session. The Federal Reserve will also likely cut the federal funds rate another half point, bringing it to 0.50 percent by early next year.

International Overview

Economic Policies Turn Expansionary

Most major economies likely experienced modest declines in real GDP in the third quarter, and recent data suggest that the pace of contraction has probably quickened in the current quarter. In response to the deteriorating economic situation, macroeconomic policy in many countries has turned expansionary. The Fed has cut rates by 425 basis points since last September, and major central banks have recently accelerated their own pace of monetary easing. For example, the Bank of England slashed rates by 150 basis points on November 6.

Fiscal policy has also turned expansionary. Not only is the U.S. government contemplating another fiscal stimulus package, but China, Germany and Japan have each announced their own stimulus programs. Although monetary easing and fiscal stimulus have shown up too late to prevent many economies from experiencing recession in the near term, expansionary policies should help to limit the severity of the looming global downturn.

Despite the gloomy outlook for the U.S. economy, the greenback continues to appreciate. The dollar’s strength reflects the recent deterioration in foreign economic fortunes. Looking forward, the dollar should continue to trend higher as major central banks cut rates more than the Federal Reserve. In addition, the significant narrowing in the U.S. current account deficit that likely will transpire will exert fewer headwinds on the dollar.

This Recession Has Quite a Bite to It

We have lowered our expectations for fourth quarter real GDP growth and scaled back our estimates for the following two years. The recession is now expected to be deeper and longer than previously thought and will likely rival the 1973-75 and 1981-82 downturns in terms of its severity and longevity. Real GDP is now expected to decline at a 3.6 percent annual rate in the fourth quarter and is not expected to move back into positive territory until the second half of next year.

In terms of GDP, the recession does not look all that severe. Assuming the NBER dates the start in July or August, we would have three consecutive quarterly declines producing a cumulative drop in real GDP of 1.6 percent. While that is well short of the 1973-75 and 1981-82 recessions, the bite is expected to be every bit as bad. Domestic demand, as measured by final sales to domestic purchasers, is expected to fall for five consecutive quarters, a cumulative drop of 2.4 percent. Even this drop, however, likely understates the severity of the downturn. Past recessions have seen significant downward revisions to the data and we expect the same this coming year.

Households and consumer-related businesses are more heavily affected by this recession than any other downturn since the 1981-82 recession. Job losses have accelerated in recent months and, with the pace of layoff announcements increasing, are expected to remain at problematic levels well into 2009. We now expect the unemployment rate to top out at 9.0 percent in late 2010, reaching a peak about a year after the recession ends.

Rising unemployment will keep a tight lid on consumer spending for the next several quarters. Spending would be reined in significantly if consumers only had to worry about the job and income prospects. Today, however, it is only one of several concerns. Declines in home prices and equity prices are expected to shave $9 trillion in household wealth over the next several quarters. Even using a conservative assumption of the wealth effect, this loss in wealth will slice more than $300 billion off of consumer outlays. As if this were not enough, consumer credit is also harder and more expensive to get today, which means many households will have to find a way to live within their means, whether they want to or not.

Residential construction will also continue to decline well into 2009. While building activity has already plummeted to near zero levels in many of the most problematic areas, national builders have recently ratcheted down starts in many markets that had been holding up well. Apartment construction also ground to a halt in October as many developments had trouble securing financing.

Commercial construction will likely be the next area to see a dramatic slowdown. An extremely large number of projects have been delayed or postponed recently, again victims of the credit crunch. Other areas of nonresidential construction also suddenly look less attractive. The slowing economy has caused many utilities to scale back plans for new power plants and lower energy prices have led to a cut in energy exploration and development.

State and local governments have seen a dramatic slowdown in revenues in recent months and many have had to cut programs and employment. Outlays are expected to decline throughout most of 2009.

We expect policymakers to remain busy. A stimulus package, including extended unemployment benefits, aid to state and local governments, and new dollars for infrastructure development should quickly make its way through the Congress. We also expect some sort of aid to be made available for the domestic automobile industry. The Federal Reserve will likely nudge interest rates lower at both their December and late January meetings.

• Download Full Monthly Economic Outlook

Published on  Thu, Nov 13 2008, 08:11 GMT