U.S. Economic Recovery: Yes, but….

Thursday, 07 April 2011 01:00

I attended a recent conference concerning the asset management sector held by Moody’s Investor Service. Its chief capital markets economist, John Lonski, presented an excellent macro picture of financial markets. In Lonski’s view, the US is making progress in economic growth, though it is tentative and not yet clearly sustainable.

There are several factors suggesting that domestic conditions are improving. First, the unemployment rate has been falling. According to government data released on April 1, the rate has fallen to 8.8%, the lowest in two years. Payroll employment rose by 216,000 workers in March, after a gain of 198,000 in February. If such gains of 200,000 plus per month can be sustained for, say, six months, then both consumer and business confidence measures should also show significant improvement.

Unfortunately, a large percentage of workers have stopped looking for work, which is not reflected in the official unemployment rate, a measure only of those actively seeking jobs.

Lonski also highlighted improvements in capacity utilization — a measure of the use of our productive capacity—which is running about 83.5% versus a recessionary low of about 68%. More normal capacity utilization should lead to higher business profits, which can allow companies to reduce their debt and improve their balance sheets.

This would be favorable for the fundamental quality of the corporate bond sector and particularly for high yield bonds.

But there are some troubling factors that could endanger an economic recovery. The first is sharply rising energy prices. One measure of affordability is the ratio of gas station sales to employment income. In February, this ratio reached 6.2%. Recessions began after this ratio reached 7% in 1980-81 and 2008. Crude oil is currently trading (West Texas Intermediate quality) at about $108.30 per barrel, versus a recessionary low below $40 (nominal prices), an enormous increase.

Lonski emphasized the centrality of residential housing in understanding the relatively anemic recovery that is underway in the United States. The collapse in residential home prices has cut homeowners’ equity by $5 trillion, or 45%, versus the average level during the period between 2003 and 2007. This is not merely a sense of lesser wealth.

Owing the increasing importance of equity lines of credit to consumer spending, this contraction in home values directly impacts the ability of homeowners to make purchases.

A favorable factor is that home affordability measures have been improving nationally, and affordability should be a leading indicator of recovery in home values. Weakness of credit availability is compounded by the long-term aging trend of the U.S. population; older workers tend to spend less as they anticipate a lower level of income after retirement.

Lonski also expressed caution about the ongoing crisis in continental Europe.

There is a great danger, he thinks, if the credit difficulties of Spain and Italy, large countries, approach those of Greece, Ireland and Portugal.

Because the unemployment rate remains relatively high, housing remains weak, and energy prices are high, Lonski doesn’t see a major risk of inflation in the U.S. economy at this time.

Indeed, under certain conditions, we run the danger of falling back into recession.

Andrew Szabo is Managing Director of Greenwich financial Management Inc.. Securities offered exclusively through Choice Investments, Inc., member FINRA/SIPC. Questions, contact This e-mail address is being protected from spambots. You need JavaScript enabled to view it .

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