August 19, 2008 / 3:06 PM / 11 years ago

Risk of recession rising as stimulus fades

WASHINGTON (Reuters) - The economy is increasingly likely to slide into recession in the coming months as the recent drivers of growth — strong exports and government stimulus checks — fade, while the job and housing markets worsen.

A worker manoeuvres a lift as financial headlines play across a ticker in Times Square, New York, January 22, 2008. REUTERS/Jeff Zelevansky

Recession worries ran high at the start of 2008 due to a real estate crash and soaring consumer prices. However, booming overseas economies created record demand for U.S. exports, which, combined with government pump-priming, helped generate relatively strong 1.9 percent growth in the second-quarter.

A recent strengthening in the dollar and an unexpectedly rapid slowdown in many overseas economies is widely seen as a restraint on exports just as the last of the rebate checks the government mailed out trickles to a halt.

Of the 50 economists polled by the Blue Chip Economic Indicators newsletter earlier this month, 55.8 percent say the economy will enter a recession this year, up from 54.5 percent in July, although still below the May peak of 60 percent.

“There is a high chance of a recession in the second half of the year,” said Lena Komileva, head of G7 market economics for Tullett Prebon in London, partly because there is so little to bolster spirits.

“With government paychecks behind us, consumers’ focus will return to negative housing equity, soft labor markets and falling real incomes,” she said. “Housing will remain in contraction until mortgage markets stabilize. These are the type of dynamics that recessions are made of.”

Some economists look for an upward revision in second-quarter gross domestic product, possibly by more than 0.5 percentage point, because of stronger exports and a buildup of inventories. However, that could prove to be the high-water mark for growth this year.

In particular, consumer spending that fuels two-thirds of the economy likely will subside as consumers squirrel away the balance of the $91 billion of rebate checks sent by the U.S. Treasury.

Economists have also grown more pessimistic as aggressive interest rate cuts have done little to spur an economy that’s unable to overcome mounting job losses, a flagging housing market and tightening credit.

Some analysts and a regional Federal Reserve bank president forecast the economy will contract beginning in the fourth quarter, after a third quarter in which modest growth is sustained at a slower pace by exports and diminishing effects from tax rebates.

The range of estimates for fourth-quarter performance currently runs all the way from contraction at a 1.5 percent annual rate to growth at a 1.2 percent pace.

Dallas Federal Reserve Bank President Richard Fisher told the Dallas Morning News recently that the economy was in for prolonged slow growth and could shrink later this year.

“I expect that in the second half of this year we will broach zero growth,” Fisher said on August 12, adding that the outlook was for “a sustained period of anemic growth.”

On July 31, the Commerce Department revised down its GDP measures for both the first quarter of this year and the fourth quarter of 2007. It said the economy contracted at a 0.2 percent pace in the fourth quarter and moved ahead at a meager 0.9 percent rate at the start of this year.

A troubling sign came in the government retail sales figures showing business edged down 0.1 percent in July as consumers strained to keep spending up amid rising prices.

In addition, the Federal Reserve’s monthly “Beige Book” survey found weak or sluggish economic activity in many areas of the country and a closely watched quarterly survey showed banks further tightened lending standards, especially for consumer loans.

The U.S. central bank has now moved to the sidelines after reducing key interest rates by a cumulative 3.25 percentage points since mid-September 2007 to 2 percent.

The Fed is widely expected to hold rates steady at 2 percent for some time, possibly for the rest of the year to try to spur a flagging economy.

One difficulty is that policymakers have little ammunition left to aggressively warding off a slowdown, with government deficits soaring and interest rates already are well below the rate of inflation.

“A recession — if it happens — could be expected to be longer and deeper than normal because it is accompanied by both a credit crunch and a severe house price decline,” said Morgan Stanley in its Global Outlook.

Reporting by Nancy Waitz; Editing by Tom Hals

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