The outlook for the U.S. and global economy remains uncertain at best. Despite some signs of optimism (particularly in U.S. data) there remains a number of red flags that overhang global economies. I still think we're not staring at a recession in the U.S., but I'd be lying if I said there weren't some worrisome signs. That said, here are a few of the items that really jump out at me regarding the U.S. and global economic outlook. Let's take a look at each one briefly. First the good news:
- The U.S. labor market - Better than most think and no signs of imminent collapse.
Friday's jobs report was a big surprise to markets. But if you've been following one leading indicator of the U.S. labor market, then severe deterioration wasn't expected. The temporary help index has tended to lead the economy as companies tend to shed temporary workers before firing full-time workers (and vice versa, coming out of recession). The latest readings on temp help showed continued expansion. It's certainly not an infallible indicator, but thus far it's been a prescient indicator of the labor market. And the latest readings are consistent with a labor market that remains stable (though obviously not booming).
- Citi's Economic Surprise Index is turning up.
The Citigroup Economic Surprise Index has proven relatively prescient over the course of the last few years. The index is intuitive in that it compares analyst expectations to actual readings; i.e., it shows when market participants are caught leaning too far in either direction. The latest readings show an analyst community that remains pessimistic, but is turning increasingly less pessimistic. This could mean we're in for more data that surprises to the upside.
(CESI via Short Side of Long)
- The U.S. Housing market is stabilizing.
As I mentioned earlier this year, I think housing prices have likely stabilized. But I don't think we're in for an event bottom as many have predicted. Rather, we're likely in for a long period of sideways price movement that is consistent with post-bubble periods. But the good news is that the price declines could very well be done with. That's a very positive sign as it's the price declines that can be so disruptive during a balance sheet recession. The chart below shows the 20 year Case-Shiller index. As you can see, prices are very close to turning positive on a year over year basis:
Now for the not so good news:
- The budget deficit is slowing substantially.
We all know the fiscal cliff quickly approaches as we head into 2013, but the slow slide downhill is already starting. The following chart shows the Federal budget deficit, or the amount that the Federal government is spending in excess of tax receipts. This spending has been extremely beneficial during the balance sheet recession as spending has slowed and uncertainty has increased. The government can be a very powerful tool during times like these because it can essentially keep the oil flowing throughout the machine when parts seem to start functioning improperly. This deficit has been a hugely positive factor in keeping the "flow" through the economy. As the flow slows, the private sector must carry the baton more and more. The concern here is that we'll cut spending at a rate that is too abrupt for the private sector to be able to offset. It remains, in my opinion, the most substantial recession risk in 2013.
- Corporate profit margins have likely peaked.
This is related to item 1, since we know that corporate profits can be aided enormously by government spending. This "flow" doesn't only help offset the lack of private sector spending. It keeps the bottom line of corporate America nice and fat. It's not a coincidence that we've seen record corporate profits during this time of massive government spending. The concern is that as the fiscal cliff approaches, we'll see a sharp slow-down in revenues and corporations that just don't have much fat to cut (since they've already cut so much over the years). The reduction in revenues would collapse corporate profit margins and create a snowball effect through the economy.
- The global economy remains a huge question mark.
Last week's global PMIs were a mixed bag. JPMorgan's global PMI showed a slight uptick in growth, but remains very weak. There are a lot of moving parts here (will China experience a hard landing and will Europe ever resolve their currency crisis?) that remain a cloud over the global economy.
At 51.7 in July, the JPMorgan Global All-Industry Output Index - produced by JPMorgan and Markit in association with ISM and IFPSM - edged higher from June's recovery low of 50.3, to signal a modest increase in output. The rate of growth was nonetheless one of the weakest seen during the current three-year period of expansion.