Budding Economic Growth Expected in Spring and Summer After Harsh Winter Bids Adieu
Oceanside, CA – Spring is usually a harbinger of high hopes for new growth after a harsh winter. So right on cue, early economic reports this past month provides fresh evidence of a budding rebound from the weather-induced First Quarter malaise. For executives trying to steer their organization through the fog of market volatility, uncertainty and geopolitical turmoil, the data can serve as a lighthouse pointing out the path to wise decisions.
Those who view the markets as a barometer for the economy six months to a year down the road are worried the recent volatility may foreshadow longer-term difficulties other than those caused by inclement weather. Concerns are focused on retrenching of the global economy, disappointing employment numbers, continuing uncertainty about the Federal Reserve (Fed) policy on tapering and interest rates, and a grow-ing crisis in Ukraine. These issues and the severe Winter have led financial analysts to project First Quarter earnings for Standard & Poor’s 500 companies to drop (1.6)% from the prior year, according to FactSet, a financial data provider. “This is quite a change from the start of the year, when most analysts expected a jump of 4% to 6.5%,” said Frank Chow, chief economist for Trade Show Executive Media Group. “If profits do fall, it would be only the second quarterly drop in three years.”
Looking at the global picture, Europe is struggling to exit from recession and assuring investors there is enough liquidity to overcome the sovereign debt problems facing member countries. The impact from Japan Prime Minister Abe’s stimulus policies have hit a wall unless more structural reforms are implemented. Growth in China is definitely slowing, and in turn stunting growth in commodity-rich countries reliant on Chinese demand. Throw in Russia and Ukraine and you have a potent recipe for uncertainty. A Reuters April poll of economists predicts the global economy should grow steadily at best in 2014, but any rapid slowdown in Europe or China could upset the progress.
“Europe as a region is our country’s largest trading partner, and any economic angst across the pond is a big deal,” Chow pointed out. The European Central Bank’s (ECB) is forecasting a prolonged period of low inflation and low growth, he said. However, some experts question whether the euro zone is in danger of entering a period of deflation like Japan. “In an attempt to blunt such a decline, the ECB may change its prior tactic of forced austerity measures to a form of quantitative easing (QE) similar to the U.S.,” said Chow. The ECB at an April meeting confirmed there is now “unanimous commitment” to using “unconventional instruments.” Such a modified QE program may forestall any deflation, allowing more time to enact structural reforms to rebuild their economy, Chow believes.
China’s economic fragility centers on a huge real estate bubble that may soon burst. China is grappling with mounting debt and corruption in local governments, real estate and resource sectors. So far in 2014, the country has recorded a handful of defaults on trust loans and corporate bonds sending jitters through financial markets, Chow said. Imbalances from prior excessive government stimulus necessitates structural change and slower growth to repair. Therefore, part of the cooling off was due to tighter credit and reductions in government spending. “But fiscal coffers are now loosening again with announcements of redevelopments on shantytowns, higher rail spending, small business tax breaks, and formation of development banks. As a perspective, the ‘disappointing’ 7.4% First Quarter GDP growth over the prior year would be a major miracle for the U.S.,” Chow pointed out.
However, big differences exist between the U.S and China’s situation that would serve to mitigate the damage, Chow said. First, China’s domestic savings is about 50% of GDP, resulting in new savings of $4.5 trillion each year, while the U.S. is typically less than 10%. Also, China is not reliant on foreign capital for growth due to its current account surplus. China has immature equity markets; so debt issuance is the main method to put the savings pool to work. Since most bank assets are government controlled, China has a closed capital account that restricts money moving in and out of the country.
U.S. Economy is Blooming
Meanwhile, the U.S. economy is beginning to bloom on a broader scale, especially in crucial areas of consumer spending and jobs, Chow noted. Retail sales, which account for a third of consumer spending, surprised economists by achieving the largest gain in one and a half years in March, sprouting up 1.1%. “With February’s 0.7% increase, it’s a sign the economy is on track to accelerate in the Second Quarter,” said Chow. Receipts rose in nearly all categories, led by a sturdy 3.1% gain in auto sales. Adding to the momentum, job growth averaged 195,000 a month in February and March. First-time applications for unemployment benefits in early April fell back to pre-recession levels. Here is a list of other economic indicators that improved in March and April:
- Both versions of the Institute for Supply Management’s (ISM) surveys advanced. The ISM Manufacturing Index rose to 53.7 from 53.2 due to a healthy boost in new orders. The ISM Non-Manufacturing Index, representing the larger service side, displayed a nice rise to 53.1 from 51.6.
- U.S. industrial production rose for a second straight month, jumping 0.7% after an upwardly revised gain of 1.2% in February, according to the Fed, beating economists’ expectations.
- The Fed’s Beige Book in April suggested economic activity increased modestly in most regions of the country. A total of 10 of the Fed’s 12 regions reported expansion in economic activity. Only Cleveland and St. Louis reported slower growth.
- The Philly Fed Manufacturing Index rose to 16.6 in April from 9.0 in March, stronger than expectations. However, the Empire State Index unexpectedly dropped (4.3) points to 1.3 from 5.6.
Only Major Sector Lagging is Housing
Besides the cold winter, homebuilding is being hampered by shortages of building lots and skilled labor, as well as affordability issues, noted Chow. “The housing market is under strain from higher mortgage rates and elevated house prices, sidelining potential buyers,” he said. In March, building permits fell (2.4)%, pointing to weaker starts in the months ahead. Single-family homes permits rose 0.5% but fell (6.4)% for the multi-family sector. The National Association of Home Builders/ Wells Fargo Housing Market Index rose just one point to 47 in April. “Builder confidence has been in a holding pattern the past three months,” reported NAHB Chairman Kevin Kelly.
But there is a ray of hope for a pickup, Chow said. The Mortgage Bankers Association said applications for home purchases increased 15% in March compared to February. However, mortgage applications are well below last year. Groundbreaking for single-family homes, the largest segment of the market, surged 6.0% in March, but starts for the volatile sector of multi-family homes fell (6.1)%, a five-month low. Neil Dutta, head of U.S. economics at Renaissance Macro Research, noted that purchase applications have been rising recently, and construction activity is likely to continue rising, but inventories of homes for sale remain quite low and thus, he does not expect a big rebound during the Spring Quarter.
Despite Overseas Turmoil,
U.S. Economy Will Weather the Storm
Chow remains confident that the U.S. economy can withstand any weakness from Europe and China, at least in the near-term. “Even if Russia invades Ukraine, the economic fallout will likely be mild to moderate,” he said. Many European countries have balked at tougher sanctions because of heavy dependence on Russian trade, and Washington’s response so far has been rather pedestrian, he noted.
Chow’s confidence in the U.S. economy is based on the positive trends cited earlier and the Labor Department’s Jobs Opening and Labor Turnover Survey (JOLT), which is signaling significant improvement. “JOLT is more reliable than the payroll numbers and revealed that recent hiring increased by 1.6% and layoffs declined (4.9)%,” he noted. The February JOLT report said employers posted the largest number of openings since January 2008, increasing 299,000 or 7.7% to 4.17 million openings. More encouraging, workers are leaving jobs voluntarily at a higher rate, rather than through layoffs or discharges, reflecting a sign of confidence in the labor market. Continued improvements will naturally lead to payroll growth in the months ahead.
Stay the Course
In summary, the data is saying our forecast for stronger-than-expected growth is still intact. The stock market remains sensitive to any perceived economic weakness due to the oversized 30% gains last year and the prospect of interest rates edging up. However, a sell-off of stocks in March was mostly related to high-wealth investors, mainly hedge funds, dumping high-flying momentum stocks to lock in huge capital gains, said Chow. “Such volatility may reoccur several times this year as analysts believe the bull market is in its mature stages,” Chow warns. Fed policy will likely bring higher short-term rates, but long-term interest rates may not surge as widely anticipated because inflation could be tame for a long time, offsetting the effects of tapering. Increased participation in trade shows from exhibitors and attendees is expected along with a resurgence in acquisitions of well-managed trade shows and exhibition companies.
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