March 8, 2010

Economic update

Is U.S. headed for a double-dip recession?

ALEX CARRICK

Chief Economist, CanaData

The big question in the U.S. concerns whether or not a double dip recession is in the cards. The main contributors to the speculation are the jobless nature of the recovery so far and both weak new home sales and low home prices. These problems spill over into many other areas.

The first is a relatively new phenomenon as far as recoveries go. Firms have been slow in hiring back workers at other times, but new technologies make the need for re-staffing less imperative than in the past. Furthermore, new production is only now beginning to ramp up, with stockpiles becoming depleted. The fact that inventories are bottoming out added to the latest GDP numbers. It’s a seeming quirk of the statistics that a lower negative number for inventories lifts GDP.

The housing sector problems relate to weak job markets and the credit crunch. Sub-prime mortgage foreclosures started the ball rolling on home price declines. Then job losses have made the monthly mortgage repayment problem spill over into prime mortgages as well. Formerly affluent unemployed workers can’t keep up their monthly payments. Augmenting everyone’s anxiety is the estimate that 10 million Americans are carrying mortgage principal amounts that exceed the current values of their homes. The degree to which this cuts into confidence is vast.

Elsewhere in the world, Japan has just experienced its largest increase in employment in the past 30 years (+540,000 jobs in January). The unemployment rate has dropped to 4.9%. This compares with Europe at 9.9%, the U.S at 9.7% and Canada at 8.3%. Helping to explain the increase in jobs, Japanese export sales also grew the most in 30 years in January. The source of the strength was China’s economic miracle.

Japan’s piggy-back ride on China’s juggernaut is one more measure of the degree to which China’s economy is the leader among nations with regard to world economic growth. Again, there is talk about Beijing raising further the reserve requirement for banks in order to achieve some order and sustainability in the nation’s growth prospects.

Australia is another country that has hopped on board China’s express train. The Reserve Bank of Australia (RBA) has just raised interest rates for the fourth time in five rate-setting meetings (to 4.00%). The Australian dollar has climbed 42% versus the U.S. dollar since March of last year. Not only is the Australian government undertaking stimulus spending, but resource firms in the country are also carrying out major expansions to satisfy Chinese demand for raw materials.

In Europe, Greece is proposing another $6.6 billion in restraint to stave off a debt default. The hope is that this expression of a firmer commitment to reduce the deficit will reassure creditors and allow the country to stay within the Euro, backed by German government lending and letters of reassurance.

EU members want Greece to cut its deficit-to-GDP ratio from 13% to 9%. Chief among the measures to rein in the deficit will be an increase in the value-added tax and 30% spending cuts to holiday bonuses usually paid to public-sector employees.

Canada’s economy grew 5.0% in Q4 09 and the inflation rate is almost right on target at +1.9%. Despite this evidence of an economy that may be heating up too fast, the Bank of Canada in early March has chosen once again to keep its target overnight rate at almost zero percent (0.25%). This is not really a surprising call, when one considers factors outside the nation’s domestic economy. An increase in the official bank rate would likely elevate the value of the Canadian dollar versus the U.S. dollar, providing a further barrier to U.S. export sales.

Export sales to the U.S. are hard enough, given that the level of absolute demand in that nation remains low. For example, Canadian year-over-year light vehicle sales in February (+25%) considerably outpaced the growth rate in the U.S. (+13.2%). Due to severe winter storms in the U.S. NE, the month-to-month change in motor vehicle sales was negative at -3.7%. The ongoing uncertainty about U.S. labor markets and consumer confidence continues to inhibit optimism.

For more articles by Alex Carrick on the Canadian and U.S. economies, please see his market insights. Mr. Carrick also has an economics blog. His personal blog is at www.alexcarrick.com

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