U.S. Review

Growth & Credit: On the Road to Singapore (Recovery)

  • Economic growth and finance are both in recovery mode as evidenced by the gradual upturn in jobs and the gains in leveraged loan issuance. Yet, like Bing Crosby and Bob Hope, the economy never seems to be able to reach the happy land of Singapore.

  • This recovery is still subpar for housing and the consumer as the pace of recovery still leaves many homeowners underwater in certain areas and many workers underemployed or unemployed. Skies are getting clearer but we remain far away from a sunny day.

In their most famous “road picture,” Bing Crosby and Bob Hope vow never again to repeat past mistakes and head off to Singapore. Of course, they do repeat their past mistakes and never do get to Singapore. For the U.S. economy the pace of improvement appears maddeningly slow and yet there is improvement.

Employment losses have steadily declined over the past six months. In fact, private sector jobs (ex-construction) have risen over the past two months. There is a cyclical recovery in private sector jobs while the structural problems in real estate limit the recovery. Job gains have also appeared in manufacturing sectors such as machinery, primary metals and electrical equipment. Meanwhile the index of hours worked has risen over the last three months, consistent with sustained economic growth. Combining hours worked and average hourly earnings, our income proxy has broken into positive growth territory. This suggests positive income and therefore spending gains in the months ahead.

Structural—Not Cyclical—Challenges to Employment

While the employment data suggest cyclical recovery, there are also suggestions of structural challenges that will limit our progress on the road to Singapore. We see this clearly in the unemployment rate by education and the duration of unemployment data. The stark reality of the unemployment situation is that higher education levels are associated with lower unemployment—and vice versa unfortunately. Unemployment for college graduates is 5 percent—for high school drop outs the rate is 15 percent. Meanwhile, the average duration of unemployment remains high at 30 weeks. There is a significant skills mismatch in the U.S. economy. It is not as though there are no jobs. More precisely, there are no jobs for many willing workers who do not have the skills to compete in the 21st century workplace.

Yes, Financing is Available—the Evolving Financial Marketplace

Financial markets are evolving as is the labor market. In recent month we have witnessed a sharp upswing in equity market offerings and the backlog of offerings is also rising. Leveraged loan issuance picked up in September and has risen sharply this year. Investment grade corporate spreads have declined from over 500 basis points a year ago to just 150 basis points now. High yield bond spreads have also declined.

These improvements suggest that many firms are financing economic activity and this further supports for our outlook for trend-like three percent growth for this year. Finance and real economic growth go together as we have witnessed in the recession and now are witnessing in the recovery. This recovery, however, is still different in character and in strength relative to prior recoveries and that will continue to disappoint many—as long as politicians don’t take up the patty-cake routine of Bing and Bob.


Global Review

Chile: Slow Reaction to the Disaster

  • The earthquake has shown how easily an emerging economy can fall prey to nature’s unpredictability. Early estimates on the cost of the earthquake are approaching $30 billion or about 19 percent of GDP.

  • We expect the Chilean economy to grow by 2.7 percent during 2010, down from our previous forecast of 4.4 percent before the earthquake.

  • President Bachelet of Chile was not fond of bringing the military to help because of her own misgivings regarding the institution.

Michelle Bachelet, the outgoing president of Chile is, together with Lula da Silva, the president of Brazil, one of the most admired exponents of the South American political left, having managed to garner the support of a majority of Chileans even at the end of her presidency. However, it seems that her initial reaction to the severe earthquake and tsunami that followed has started to tarnish her hard-earned reputation.

Several days after the earthquake struck, the administration is suffering from what many see as a reluctance to bring in the military and declare curfew in the most affected regions. President Bachelet was not fond of doing that because of her own misgivings regarding the military. Her father died at the hands of the military and she was abducted and tortured during the Pinochet dictatorship. After the first misgivings it seems that reality has made her change her mind.

Furthermore, the earthquake has shown how easily an emerging economy can fall prey to nature’s unpredictability. While the Chilean economy has been one of the most successful stories in bringing its poor up the income ladder, this disaster has shown how fragile and how much farther the country has to go before it can become an advanced economy.

However, Chile is in a position to come out of this tragedy strengthened. The country’s macroeconomic management has led to a debt burden that is only about 6 percent of GDP, one of the lowest in the world. Therefore, the country will be able to tap either domestic or international financial markets to help on the reconstruction. Furthermore, with copper prices so high during the last decade the country has built a “rainy day” fund that stands at more than $11 billion and can be used to help in the effort.

Thus, we remain bullish on the Chilean economy. As it is the case in almost any disaster’s aftermath, economies benefit from the new construction and the reconstruction efforts even though current production is hindered. It is certainly going to be expensive but Chile can overcome this new challenge.

While early indicators on the country’s productive capacity tend to indicate that GDP will be negatively affected during the first and second quarter of the year, the reconstruction effort will bump GDP during the second half of the year. Early estimates on the cost of the earthquake are approaching $30 billion or about 19 percent of GDP.

We expect the Chilean economy to grow by 2.7 percent during 2010, down from our previous forecast of 4.4 percent before the earthquake. We estimate the largest impact to GDP to be allocated to the second quarter of the year and then envision relatively strong growth during the third and fourth quarter of the year. While inflation may be an issue for the central bank due to scarcity of products across the economy we should expect central bank policy to remain accommodative for the first three quarters of the year.