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Thursday, February 19, 2009

Calculated Risk: No Rays of Sunshine Yet

Calculated Risk isn't quite as optimistic as Atlanta Fed President Dennis Lockhart:

Fed's Lockhart sees "catalysts for the start of modest recovery". by Calculated Risk: Excerpts from a speech by Altanta Fed President ... Lockhart today:

[T]he economic outlook is not indefinitely bad. Most forecasts, my own included, see catalysts for the start of modest recovery in the second half of the year.

I think almost everyone agrees with the "not indefinitely bad" comment. But I'm interested in what Lockhart sees as "catalysts for recovery":

With production falling—and expected to decline significantly more this quarter—I expect some reduction of excess business inventories, putting producers in a position to expand output as spending returns.

Right now it appears inventory levels are too high. ... So Lockhart might be correct, but it is too early to tell if producers will reduce inventory enough in the first half of 2009 to expand output in the second half of the year.

There are signs lower mortgage interest rates are helping housing markets on the margin. The January pending sales number was up, and there has been a spurt in refinancing activity. If historically low mortgage rates can be sustained over the coming months, I expect more buyers will be drawn into the market.

Actually the most recent pending home sales number was for December and the reason it showed an increase was because of more activity in areas with significant foreclosures.

Several factors should lift consumer spending as the year progresses. These factors include the dramatic fall in energy prices, greater stability in the housing market, and improving consumer confidence.

This is very possible, but I don't see evidence of this yet.

I should mention that last week the U.S. Census Bureau reported an unexpected increase in retail sales during January. I would like to see further confirmation of the underlying strength hinted at in this report, but on its face, the pickup in consumer spending is encouraging.

This is just one month of data and could be related to gift cards, so I wouldn't read much into that small increase.

Also contributing to the upturn seen in the consensus outlook are the large and targeted fiscal, credit, and monetary policies of the government and the Federal Reserve ... The intent of these aggressive and unprecedented policy actions is to support spending and fix the dysfunction in credit markets...

Indeed, we have seen modest, but hopeful, signs that financial markets are improving. ...

I think we can start looking for some rays of sunshine, but I don't see anything yet.

And once things do stop their downward slide, however long that takes, that doesn't mean that we can sound the all clear sign, step aside, and let the things take care of themselves (and suddenly move towards, say, balancing the budget). My reading of the aftermath of financial crises in the US and elsewhere in the world is that recovery is generally a slow, drawn out process. The depth of the downturn depends critically on the timing and effectiveness of the policy response, and that is its most important function of policy, but it can also help to shorten the recovery process once things turn around. Thus, once it finally does stop raining, it's still possible that without both monetary and fiscal policy actively engaged in the recovery process, the economy could experience a long period of overly sluggish growth as the economy crawls back to its long-run equilibrium. So let's be careful not to pull back on the policy levers before we are sufficiently certain that the economy can sustain itself on its own.

    Posted by on Thursday, February 19, 2009 at 12:42 AM in Economics, Fed Speeches | Permalink  TrackBack (0)  Comments (24)

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