U.S. recovery might not feel like one

NEW YORK (Reuters) - The United States is on the verge of economic recovery but it's not going to feel like much of a rebound, Brian Fabbri, chief U.S. economist at BNP Paribas, said on Tuesday.

With the effects of the worst recession in decades lingering, the United States will enter a period of below-potential growth in the second half of 2009 that could last for years.

"I think we're going to wind up with an anemic decade," Fabbri told the Reuters Investment Outlook Summit in New York.

The economy, along with much of the developed world, will lapse into deflation in 2010, but the weak growth outlook will at least dampen rising U.S. bond yields, a concern among many in financial markets.

Still, the economy is better off now than when it entered a tailspin last autumn, when the spectacular failure of Lehman Brothers revealed just how vulnerable the financial sector was after the debt-fueled credit bubble of the last decade.

Indeed, Fabbri said there is a sense that the economy is nearing the end of that decline phase, with slowing rates of deterioration, and will now resume growth, however timidly.

"I do think that recovery is around the corner," said Fabbri.

Fabbri said second-quarter data would still show "another sizable reduction in GDP" and a recovery would start in the third or fourth quarter.

IT'S ALL ABOUT CONFIDENCE

The key turning point was the stabilization in the financial sector, due in large part to the government's so-called stress tests -- which assessed the adequacy of banks' capital levels to protect against potential losses -- that managed to bolster investor confidence enough to help banks raise capital.

"I think the way in which the stress test was ultimately handled turned out to be a home run for the Treasury," Fabbri said. "The most important aspect of the stress test is that it demonstrated just how valuable confidence is in financial markets."

Fabbri acknowledged the skepticism many have expressed over the stress tests -- mainly that the economic assumptions were benign compared with the potential obstacles to growth while banks continue to strain under the weight of bad loans.

But, he said, financial markets perceived it positively.

"As the events unfolded the stress test just happened to be one of those watersheds, and the financial markets bought it," Fabbri said. "But I don't think the stress test ever meant to give you the impression that there wasn't more to write off."

On the economy, Fabbri said growth would amount largely to businesses rebuilding inventories they let run down during low-demand recession months, not an expansion of operations.

Unemployment will remain high, languishing at 11 percent in the second quarter next year and leaving consumers with little extra money to spend, he said.

Ultimately, weak conditions globally will raise risks of a deflationary cycle of falling prices, wages and economic activity.

"We forecast that the United States, Japan, Europe, UK will experience a period of deflation beginning somewhere next year and lasting for a year or two," said Fabbri.

"Only a year or two because we think that monetary policy globally will have to do something about that, otherwise we really will experience the Japanese problem for years and years and years."

(Editing by Leslie Adler)