Why the Economy Isn't Quite as Bad as It Seems
Rob Silverblatt and Ben Baden

 

5 bright spots in the economic data

The wobbling housing market can barely stand on its own two feet. Lackluster job growth and depressed consumer spending are dragging down an already-fragile recovery. And across the Atlantic, a debt crisis is testing the resolve of national governments. With the economy facing a veritable laundry list of crises, the current outlook leaves little room for optimism.

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"We've got these big holes in the economy with not a whole lot offsetting it, leaving us with an economy that's improving and is likely to continue to improve, but not all that much and not all that fast," says Ken Goldstein, an economist for the Conference Board. "It's very hard to make a strong case for [the current climate]."

Meanwhile, the dramatic recovery, which saw the stock market outrun the real economy on the back of a wave of optimism, has largely petered out. As economic indicators continue to deteriorate, some have sounded the alarm that a double-dip recession could be approaching. But even as the possibility looms that the economy could slide back into recession territory, economists are still by and large betting against it. Lifted by a handful of bright spots in the otherwise bleak economic data, the prevailing sentiment appears to be that the ongoing slump is just a bump in the road.

"While there's been lots of double-dip talk here, I believe what we're really experiencing is just a soft spot," says Burt White, the chief economist at LPL Financial. "The problem is that the market can't tell the difference ... between changing speed and changing direction. ... We can't come out of a recession and go through a recovery and just keep growing faster and faster, because eventually you'd have soaring inflation and all kinds of other issues. Eventually recoveries have to moderate to more normalized growth levels, and that's what we're seeing. So we're seeing a change in speed in the expansion; we're not seeing a retraction."

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This possibility -- that the economy is normalizing as recovery slowly gives way to business as usual -- is, of course, the best case scenario in a long list of eventual outcomes. Still, there certainly are some positive factors to support it. Here's a look at five of them:

High earnings forecasts. Earnings season kicks off this week, and it's important to see if businesses are growing earnings at a rate high enough for them to begin reinvesting in things like new equipment. "Corporate earnings are critical," says Tom Higgins, chief economist at the investment firm Payden & Rygel. Analysts are not expecting some companies' earnings to be as high as they were in the first quarter, but many experts continue to have high expectations. "We're still going to see double-digit growth in the [second quarter] earnings, and that's certainly strong enough to keep business investment growing," Higgins says.

White believes we could see the highest earnings ever reported by S&P 500 companies. This could help prompt businesses, which have been stockpiling cash and are still spending at pre-crisis levels, to step on the accelerator. "Business spending is the next runner in this marathon relay race," says White. "The first runners were China, central banks, and governments. That's who has been running so far; they've got to pass the baton to the next runner."

During the recession, businesses slashed their operating costs, which put a damper on new-product creation. White expects the situation to improve in the second half of 2010 as competition forces businesses to invest in new designs. "During the recession, you went out of business if you didn't stop spending," he says. "Now you're going to go out of business if you don't start spending, because your competitors will put you out of business. The good companies are beginning to make that transition now, and it's going to force their competitors to make that transition too to keep up."

An uptick in business spending would reverberate throughout the labor market. "There's a direct correlation between that spending and more job growth," says Jim Swanson, the chief investment strategist at MFS Investment Management. "Once you expand your plant base, you've got to have people to man it and service it."

Rock-bottom interest rates. To help encourage lending, the Federal Reserve has kept the target range for the federal funds rate -- what the Fed charges banks to borrow money on a short-term basis -- between zero and 0.25 percent since December 2008. The Fed has also repeated its pledge to keep rates low for an "extended period" since March 2009. With interest rates set as low as they can go, the hope has been that companies will begin to borrow more and banks will begin to lend more. "Low interest rates are definitely a positive [for the economy]," says Adam Bold, founder of the Mutual Fund Store. "Because interest rates are low, you've got companies that are able to make investments that they wouldn't otherwise be able to make because their borrowing costs are low."

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Low interest rates should make credit more accessible to consumers and businesses. "By keeping these interest rates very low ... you really have the capability of being able to borrow money and put it to work and probably put it to work quite handsomely," says Tom Roseen, senior research analyst at Lipper. "If you can put that money to work, you can get a pretty good return." He says he doesn't believe the Fed will hike interest rates until at least the end of the year.

Fewer layoffs. To be sure, most news on the jobs front is quite dreary. In the aftermath of a recession that wiped out 8 million jobs, Americans have been anxious to see signs of robust improvement in the labor market, only to be disappointed by the tepid rate of growth. Confidence eroded even further when the government announced that more jobs were lost than were created in June. While this was largely expected -- as temporary census workers were finishing up their jobs -- it marked the first time this year that the economy had shed jobs.

Even so, the news isn't all bad. For instance, new jobless claims fell by 21,000 the week before last, beating expectations and driving the number of new claims to a two-month low. Meanwhile, the rate of layoffs appears to be slowing. Planned job cuts for the second three months of the year decreased 63 percent from the same period last year, according to the firm Challenger, Gray & Christmas. "While some may question the sustainability of this recovery, the dramatic decline in planned layoffs ... certainly suggests that the nation's employers are not anticipating a double-dip recession," the firm said in a release.

These statistics, of course, offer little respite to the millions of Americans who are already out of work. But for those struggling to hold onto their jobs, they offer some hope that the worst payroll damage has already been done.

Progress in Europe. The European debt crisis is the biggest risk in the global economy right now, according to Higgins. If the situation were to worsen, there are concerns that it could spillover to the United States. There are signs, however, that the European Union is beginning to seriously address this crisis. Greece has seen its government debt downgraded to "junk" status in recent months, which has governments around the world worried that Greece could potentially default on its debt if the government there doesn't make serious changes. To prove that they're committed to reducing their massive deficit, members of the Greek government pushed a pension bill through their parliament last week that would raise the retirement age there and cut some benefits.

To assess the stability of their financial system, European banks are now undergoing "stress tests" similar to the ones that were run in the United States last year. These tests are run to see how strong the banks have become since the worst of the financial crisis. "People in the U.S. didn't initially buy into the stress tests either, but once the results came out and there were capital infusions into the banking system, it made everyone feel a bit better," Higgins says. "That certainly improved the outlook for the financial sector [in the U.S.], so I'm hoping for the same outcome in Europe." The results of the tests are set to be released on July 23.

Exports. After an encouraging run, exports have painted a mixed picture as of late. On the one hand, a strengthening U.S. dollar has stalled exports to Europe, and the manufacturing PMI, an index that measures the health of the domestic manufacturing sector, took a hit in its most recent reading. Even so, exports are still a "net positive" for the economy, Swanson says.

Even if exporters aren't booming, they're still outperforming other segments of the economy, says Goldstein. "With an economy growing by maybe 2.5 percent, the fact that exports are growing [several] times faster than that is good news in a story otherwise devoid of very much good news," he says.

Initially, China's currency revaluation was expected to provide a solid boost to U.S. exporters, who have largely been locked out of the Asian giant's swelling economy. More recently, though, the enthusiasm has given way to a realization that China is unlikely -- at least in the near term -- to strengthen its currency, the renminbi, enough to open the door to U.S. exporters.

 

 

Why the Economy Isn't Quite as Bad as It Seems

 

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