Unless you are recently estranged from Mars, you will know that there is an awful lot of economic negativity doing the rounds at the moment. But maybe all these fears are overdone, maybe, actually the economy is in good shape, and the banks, blind to the overall picture, are panicking us, needlessly. This morning, the National Institute of Economic and Social Research (NIESR) revealed its latest projections for the global economy, and its view: much of this doom and gloom is indeed overdone.
And before you dismiss this report, bear this in mind. The NIESR has a track record which is second to none in forecasting economic growth. As Martin Weale, director at the Institute, pointed out at a press conference yesterday, the NIESR was a lone voice back in 1998 saying the global economy would avoid recession – and yet, it got the call right.
This time around, NIESR is predicting growth this year of 2.2 per cent in the US, 4.4 per cent across the world, and 2 per cent in the UK. But it does see harder times falling on the Eurozone, predicting growth of 1.9 per cent.
It’s quite ironic. The US is supposed to be the country that is staring recession in the face, central bankers from Europe have been looking quite smugly at the US and have barely been concealing their contempt for the recent moves by the Fed to slash interest rates and Bush’s plan give $150bn back in tax, and yet, according to the NIESR, the US will outdo most of its main economic rivals and will enjoy faster growth than Germany, Canada, Japan, the UK, France and Italy. Once again the US is set to be the star of the G7
The NIESR said, “A careful examination of the available real indicators suggests that much of the recent panic in financial markets is not based on fundamentals.” It has also been scratching its head over the recent move by the Fed with the biggest monthly rate cut since 1994, saying this “gave the impression that it was privy to information that had not yet appeared in hard data, such as the imminent collapse of a major US bank.”
But maybe not, maybe the Fed has just made the wrong call. NIESR said, “It is possible that the Federal Reserve acted precipitately to technical fall-out from losses at Société Générale in France, which seems to have sparked much of the panic trading. The Banque de France informed the Federal Reserve of the matter in advance of their meeting scheduled for the following week. It is possible that if the Federal Reserve had waited for all the information they needed, they might not have acted, and indeed they may have damaged their credibility by their precipitate action.”
The question then is, if the economic prognosis is so much better than we had been told, how do you explain all these American banks, banks such as Merrill Lynch, saying the US is already in recession?
Maybe the problem is the banks have become so pre-occupied with their problems that they have been blind to the overall outlook. In the US, real GDP in the third quarter rose at an annual rate of 4.9 per cent, supported by sharp rises in business investment, relatively robust consumer spending and a strong contribution to growth from net trade. It appears, then, that the US really is exporting its way out of trouble.
But in parallel with this export-led recovery, it appears that, once again, the US consumer has proved to be a staggeringly resilient beast. (Just a saying, we are not suggesting American consumers are beasts.) The NIESR said, “Consumer spending remained strong in October and November, up by 2.8 per cent relative to a year earlier.”
Economic analyst Mark Twain said, “Reports of the death of the US consumer are greatly exaggerated.”
Actually, there is déjà vu with 1998. The economic crisis of that era was born in the banks, with their reckless lending, coupled with certain wildly extreme practices at some Hedge Funds, most notably LTCM. Back then the banks predicted doom, the rest of us got on with living in the real world.
And yet, if the US is going to suffer a mere soft landing, if the UK is set to follow suit – and by the way, NIESR says the declining pound will help lift the UK’s exports – how do you explain the disarray in the US housing markets?
The NIESR went to great lengths to point out there are risks with its forecasts, but perhaps the big risk is the effect falling house prices will have. As was pointed out here earlier this week, the median price of US new homes fell by 10 per cent over the last year, and there is overwhelming evidence to suggest the fall will continue. The US is a nation that has a very low savings rate. Its consumers are active borrowers, but in the event of a major US housing slowdown, it seems inconceivable this will continue.
As for the UK, NIESR predicts house price growth of 1 per cent this year, but admits that predicting house prices, just like predicting any asset price, is notoriously difficult.
Back in 1998 there was one big difference with today. Back then, house prices both in the US and UK relative to income, were modest. As these prices went up, consumers borrowed and spent, creating the economic boom. Today, it is far less certain that option exists.
But, as NIESR’s Ray Barrell said yesterday. Falling house prices is no reason to cut interest rates, after all, when house prices were rising, interest rates were not increased.
It would appear then, that even if NIESR is too optimistic with its projections, it is right to criticise the Fed. Maybe Ben Bernanke should call his helicopters loaded with dollars, back, and begin a search for the black box, which could explain why his navigation of economic turbulence has been so erratic.
