Happy 2013 Everyone!! This is one of the best overall, well-put-together, all-encompassing synopsis for the economic outlook for 2013 that I have read yet and thought I would share this with you.
Nationally Renowned Economist Elliot Eisenberg's Economic Outlook for 2013
January 15, 2013
By Elliot Eisenberg
As much as I would like it to be the case, 2013 is not going to be the year the US economy breaks out from the slow-growth path it has been on since the end of the Great Recession and climbs to a new and higher growth plateau. There are simply too many short term headwinds to overcome. As a result, I expect full year 2013 GDP to be about 2.2% with the number progressively improving quarter to quarter.
Q4 2012 GDP will come in at a lackluster 1.25%, due to the destructive fiscal cliff debate and the generally slowing world economy, and thus offers no momentum to Q1 2013. Moreover, during the first quarter of 2013, the economy will have to swallow the end of the temporary two percentage point Social Security tax reduction for employees that had been in place for two years. That alone will drain over $100 billion out of the economy and easily knock one percentage point off economic activity keeping Q1 GDP growth flat at about 1.25%. In the second quarter, the US economy will have to digest the contractionary fiscal policy that is sure to result from the aftermath of the potentially very destructive debt ceiling and sequestration debate. And while no one knows exactly what shape the spending cuts and tax increases will take, we can be sure they will come. Thus, Q2 growth also looks to be tepid with GDP growth coming in below 2%.
However, by the time the second half of the year rolls around, Capitol Hill should have completed its budget work and businesses and households will finally be able to get on with their spending and investment decisions without an eye on DC and all the uncertainty that comes with it. Think about it, what firm wants to begin investing in new plant and equipment when a self-induced recession may be right around the corner? As a result GDP should, with a bit of luck, surpass 2% in Q3 and maybe hit 2.5% or even 2.6% in Q4.
While much of the economy will be lackluster, residential construction looks to contribute mightily to the economy and GDP growth in 2013. The strength of this sector comes from a variety of factors. The overhang of foreclosures is shrinking, the number of households that are delinquent is falling, as is the amount of REO property. Another factor in the turnaround is that inventories of new homes are at historic lows. The total number of new homes for sale, under construction, and permitted but not started, is 135,000, less than half the historic average of the last 40 years. Similarly, existing inventories are also way down. According to National Association of Realtors, the inventory of existing homes is under two million, down from over four million in 2008.
Add to this the fact that house prices, no matter how they are measured, are once again rising. While they are nowhere near where they were at the peak in 2006, the number of households that are "underwater" is headed in the right direction. Similarly, household balance sheets are improving. For example, the ratio of debt service payments as a percentage of disposable income has fallen 25% and is now back where it was in 1993 and the household debt-to-GDP ratio has fallen almost 20% from its peak!
In addition, continued steady net new employment growth is now finally translating into household formations, which were profoundly depressed the last several years. As a result, first time mortgage applications have stopped their long six year decline and are finally once again rising.
Adding to the optimism is that despite credit still being hard to get, senior loan officers are no longer systematically tightening standards for prime mortgages, consumer loans, and credit cards. In addition, new residential construction has a long way to go before it runs out of room to grow. Historically, residential fixed investment is about 5% of GDP. Now however, it is only about 2.5%. So it can realistically grow for years before returning to its long-run average. Based on recent permit and start activity, both new single-family and multifamily activity should each increase by 20% in the coming year, and in the process add about three-quarters of a point to GDP growth in 2013, while existing home sales, which did collapse like new home construction, should rise by close to 10%.
Jobs and Unemployment
On the jobs front, with the exceptions of residential construction which will do very well, automobile manufacturing which will grow steadily, state and local government hiring which should be positive for the first time since 2008 and the energy sector which is booming, 2013 is likely to largely be a repeat of 2012. That said, one particularly encouraging trend worth watching is the somewhat looser credit conditions for small businesses. While not a groundswell, if this trend continues and grows in size, it would boost hiring. However, given the broad-based headwinds during the first half of 2013, the gains in housing, autos, local government, energy and small business, will probably neutralize the losses in the rest of the economy from the combination of tax hikes and spending cuts. As a result, we will continue to see monthly job growth average somewhere between 140,000 and 160,000.
As for the unemployment rate, here I am quite bullish, but not necessarily for the right reasons. Over the past few years the unemployment rate has steadily declined from a peak of 10% in October 2009 to 7.8% today, despite job creation rarely exceeding 200,000 net new jobs a month and averaging about 150,000. While this is a conundrum to many, the reason is because the labor force participation rate (LFPR) has been declining due to changing demographics.
Simply put, baby boomers are leaving the workforce for retirement, and as there are a great many of them, the LFPR is lower than it has been in decades. Moreover, as they are not likely to return to the labor force, and because Gen Y'ers are remaining in school longer than earlier generations, I expect the LFPR to stay where it is, as most of the decline is not due to economic weakness. As a result, even with continued seemingly weak job growth, I fully expect the unemployment rate to be below 7.4% by year end.
Bonds, the Fed, Inflation and Monetary Policy
On a year-over-year basis, the CPI rose 1.8%, the CPI less food and energy rose 1.7%, and the Federal Reserve's favorite measure of inflation, core Personal Consumption Expenditure, is also running below 2%. As a result, inflation starts the year out tame, and as has been the case for the last three years, there is no imminent threat of inflation. Sure, the Fed balance sheet is exploding, and yes they continue to inject trillions of dollars into the economy, but as long as banks don't lend the money, the money supply does not grow and inflation is not a concern.
That being said, it would not surprise me to see a slight rise in inflation in 2013 as the Fed has indicated that it will tolerate an inflation outlook for the next two years of up to 2.5% as long as unemployment is above 7%. However, with unemployment as high as it is, with wage growth anemic and with slack resources throughout the economy, inflation is the least of our concerns in 2013.
During 2013, I expect the Fed to introduce no new monetary programs but rather continue with QE3 as long as the economy remains weak, unemployment remains high and inflation remains tame. If things suddenly heat up, which is highly unlikely, the rate-setting Federal Open Market Committee will reduce or halt their monthly purchases of $85 billion in Treasury and agency mortgage backed securities. Rest assured, the Fed will not reduce the size of its balance sheet or raise the fed funds rate. In 2013, 10-year treasuries will bounce between 1.8% and maybe as high as 2.1%.
Europe, China and the Rest of the World
Europe will, unfortunately, continue to be a problem and will act as a drag on global economic growth. That being said, the combination of Chancellor Merkel bellying up to bar and agreeing to have Germany pay the bills, and European Central Bank President Mario Draghi being willing to do "whatever it takes", will prevent any countries from abandoning the euro such as Portugal or Greece. As such, no catastrophic meltdowns are in the cards, and by the second half of the year, the mild recession the continent is now in should be firmly in the rear view mirror.
Japan, however, is another story. The world's third largest economy is back in recession, and despite a debt-to-GDP ratio of over 200%, the endless stop-and-go fiscal stimulus programs and inconsistent expansionary monetary fiscal policy has meant GDP has averaged less than 1.5% for a generation. Add to this a steadily declining population, and there is little reason to believe 2013 will breakout year for the land of the rising sun. That being said, the new Prime Minister Mr. Shinzo Abe, their seventh in six years, is the first to strong-arm the Bank of Japan and force them to create inflation to get them out of the destructive deflationary cycle they are in. This process bears watching but success will be slow to materialize.
As for the rest of the world, China seems to have avoided a hard landing and thus should be able to muster 8% GDP growth, which while relative to the developed world is excellent, is substantially lower than the double-digit growth they experienced prior to the global recession of 2008. The wildcard here is will China begin to shift its economy away from one based on exports and public sector investment and towards one based on domestic household consumption? If it can, China would add pleasantly to global growth and an increase in US exports. Elsewhere, Brazil is rapidly slowing and Russia's economy is unfortunately becoming increasingly reliant on energy, which is unlikely to rise in price due to recent large discoveries in the US. In sum, global demand for US products and services does not look to expand much from 2012.
The major wildcard in 2013 is how the Congress and the Obama Administration will deal with the debt-ceiling, delayed sequester, and the continuing-resolution trifecta, each of which if handled badly enough could send the economy into a recession. First a quick review: by no later than early March, the US Treasury will run out of money and be unable to pay its bills. At about the same time, automatic annual spending cuts (the sequester) totaling $110 billion that were delayed with the Fiscal-Cliff bill will kick in, and about a month later the government will shut down unless another continuing-resolution giving departments and agencies budget authority to spend is passed.
The last time the debt-ceiling was raised it was so badly botched that two out of the three credit rating agencies downgraded US debt. And, while a deal will definitely be reached, how quickly and acrimoniously it is accomplished, matters. If it's done fast and uneventfully, it will not harm GDP, but a replay of summer 2011, will do economic damage, spook credit markets, raise investor fears, damage business confidence and in the process hurt Q2 GDP growth.
Passing some sort of continuing resolution to fund all government operations after 3/27/13 will be probably be benign. This is because the delayed automatic $110 billion sequester comes due about a month before the end of the continuing resolution. Thus, the upcoming partisan battle will be over the size of the spending cuts in the heretofore delayed sequester that will then be included in the next continuing resolution. And, here is where the economy is most vulnerable. If all $110 billion in cuts take place, the economy will suffer and GDP in Q2 will remain at or about 1.25%, where it was in Q1. However, to the extent the cuts are less severe, growth will be better. How this ultimately gets resolved is anyone's guess, but it very much matters to the economy.
2013 is the year the economy will hopefully consolidate some gains and avoid several serious pitfalls. On the plus side housing, a true bright spot in the economy, should add close to 0.75% to GDP growth, this year with autos, state and local governments and energy also boosting GDP. And, if Congress can, with limited rancor, increase the debt ceiling and delay most if not all of the $110 billion in automatic spending cuts due to commence in March, GDP growth will strengthen as the year progresses. Unemployment should continue to fall despite relatively weak global growth, inflation will remain MIA and QE3 will most likely survive, in its current form, through the end of the year.
About the Author
Elliot Eisenberg, Ph.D. is a nationally acclaimed economist and former Senior Economist with the National Association of Home Builders in Washington, D.C. He is a member of MSS' esteemed panel of advisors and is a national speaker on the economic impact of homebuilding, consequences of government regulation, cost-benefit analysis, strategic business development and other current economic issues.