04/05/2007
Whither the US Economy
The US economy has been growing at a sub-trend rate of growth for the last four quarters. However, there is a general expectation that growth will soon pick up to around trend and that, consequently, interest rates will hold at around present levels. How realistic does this seem?
The key to this "goldilocks" scenario is that the malaise in the housing market will shortly stabilise and that the rest of the economy will escape largely unscathed. This seems to be wishful thinking. The imbalances in the housing market are, if anything, getting worse. Inventories of unsold homes, at over 8 months, are twice the "normal" level. Cancellations, too, remain well above normal levels, and foreclosures have swelled as residents struggle to cope with high levels of repayments.
The oversupply is putting downward pressure not only on house prices, but also rents, as unsold properties are put out to rental. Housing vacancies are now at record levels (around 50% higher than in the last housing recession), which means that buyers are in the driver's seat being able to wait for a cheaper opportunity to join the market.
The crisis with sub-prime and Alt-A mortgages and the consequent tightening of lending standards has weakened demand conditions. The major house builders have all had problems and can see no imminent end to the process. In part compensation, non-residential construction activity has taken some slack, but it is a derivative of residential activity, and can be expected to soften soon.
Will the housing malaise spread? It already has. The Vice Chairman of General Motors has blamed the mortgage crisis for weak auto demand, and Home Equity Withdrawal (HEW) has slumped from over $700bn to around $150bn at the end of last year. There is a debate about how the use to which HEW is put, but it undoubtedly bolsters individuals "balance sheets". After adjusting for inflation, consumer spending went negative in March, and gas prices over $3 per gallon are squeezing consumers. Business is also affected: the NFIB (small business organisation) has, monthly, recorded worsening expectations and business investment has been softer than expected.
A painless soft landing is not "impossible", but indicators at present are suggesting a harder encounter, for the US consumer, to be a more likely outcome.
Douglas Roberts, Senior International Economist, Standard Life Investments
First published in Investment Week 14 May 2007
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