Economist Fred Carstensen is a professor of finance and economics at the University of Connecticut and director of UConn's Center for Economic Analysis.
Harlan Levy.: Where is the U.S. economy headed in light of the latest economic reports on industrial production, retail sales, and housing?
Fred Carstensen: It's very much a mixed picture. Housing seems to be slowly crawling out of a very deep hole where it's been for four or five years. Prices seem to have bottomed out and are now slightly improving. On the other hand, industrial production is showing some weakness. Retail sales are not showing the strength that we would like, and employment growth is anemic.
While the economy is showing very slow improvement, we are a long way from having a healthy recovery or a healthy economy. The Federal Reserve, in announcing Quantitative Easing, QE 3, two weeks ago, clearly believes that the economy needs additional stimulus and anticipates maintaining very low interest rates until 2015. Moreover, QE 3 gives an open-ended commitment which will end only when unemployment drops significantly.
We probably should be thinking that it's going to be another two or three years before we get out of the hole that we've been in jobs. We went into this in 2007, and it could easily be 2015 or 2016 before we get back to the level in 2007, which will mean it will have been the longest period of recovery in jobs since the Great Depression.
H.L.: The U.S. economy can't fully recover without housing. So what do you predict for that area?
F.C: QE 3 is specifically targeted at buying mortgage-backed securities. As a consequence, mortgage rates are now at 3.4 percent, the lowest mortgage rate since the introduction of the 30-year mortgage. This should provide some additional incentive for people to buy homes and to strengthen the housing market. The market is recovering, but we're living in a very unstable situation right now.
H.L.: Do you think we'll avoid the fiscal cliff in light of some Republicans and Democrats finally starting to talk about agreeing on the Simpson-Bowles plan for deficit reduction and a revenue increase, or will the deadlock in Congress between the two parties send us over the cliff?
F.C.: Whether and how we address the fiscal cliff depends very much on the presidential election. If the Romney-Ryan team is elected I would expect that the House of Representatives, assuming it remains in Republican control, would pass an aggressive budget-cutting bill, slashing Medicaid, food stamps, etc., but the Senate, in which the Democrats will still have a blocking minority, would probably refuse to accept such a budget. That would take us over the cliff.
The irony is that it probably wouldn't make much difference in terms of macroeconomic outcomes, because the House would pass such dramatic budget cuts it would probably be indistinguishable from the cuts imposed under the debt ceiling law that created the fiscal cliff.
In other words, whether we go over the fiscal cliff or get the kind of budget cuts and tax cuts that the Romney-Ryan team proposes, it would put the U.S. in a fairly significant recession.
If the Obama-Biden team wins, there probably is somewhat more hope for a compromise along the Simpson-Bowles line which would not put the economy into recession. It would depend on how the compromise was framed, as long as it would not cut government expenditures too dramatically.
H.L.: What do you predict will happen to the euro zone and the global economy?
Europe has stabilized for the moment, but there are still a lot of questions on whether the European Central Bank intervention will stabilize the euro zone. Right how the ECB has taken the leadership role in addressing the sovereign debt crisis, but it's not clear that the plan it proposed will ultimately work, because it's contingent on national governments agreeing on an austerity plan. It's not clear that will be a viable approach. They are trying to create a much more federal system with centralized authority in certain areas like banking - like in the U.S. - but they have a long way to go. The bottom line is that the euro zone crisis may flare up again in a couple of months. We're not out of the woods yet.
We also know that Britain is in a recession. Most of continental Europe is in a recession with Germany being the only exception at this point.
Also, the growth rate in China has been slowing significantly, and both India and Brazil have been having significant economic problems.
The consequence is that the global economy as a whole is experiencing only moderate growth, much below what it had been achieving over the last decade. It's not clear going forward how robust growth is going to be restored.
H.L.: How does Connecticut look?
F.C.: Connecticut's economy contracted much more dramatically that we had known. Instead of a 3 percent contraction it was a 9 percent contraction from 2007 to 2009, unlike the national economy which is back above the previous peak in output in 2007. Connecticut is significantly below the peak output of 2007. So Connecticut has a very steep hill to climb in recovering output and especially in recovering jobs. It will not achieve the employment level it achieved in 2007 for a decade. Connecticut lost 120,000 jobs. It has regained less than 40,000. Recovering an additional 80,000 jobs even in the next five years is a major challenge.
Disclosure: I am long AAPL.