Economist Nick Perna: 2015 - U.S. GDP Up Over 3%, Unless Russia, Greece Threaten Default

by: Harlan Levy

Summary

2015: U.S. GDP up over 3%, rates up in June, 250,000+ new jobs/month.

Oil prices to rise to at least $80/barrel in 2015.

Housing 2015: Improvement in new home starts, home sales, maybe not prices.

Economist Nicholas Perna is the economic adviser to Webster Bank and managing director of consulting firm Perna Associates. He has also been a visiting lecturer at Yale University.

Harlan Levy: What's your outlook for 2015?

Nick Perna: The fundamentals for the U.S. look pretty decent. We're shaping up to have a bit more growth in 2015 than we did last year. We had Gross Domestic Product growth of about 2.5 percent over the four quarters, and it should do a little better than 3 percent over the course of this year.

We've got enough momentum and tailwinds to achieve this in 2015, provided that some of the potential negatives don't get too bad, things like Russia and Greece.

Q: What could happen?

A: What could happen is that Greece, a little country, could have an impact resulting in contagion. In Greece, the people are fed up by being thrown under the bus by the other Europeans who have imposed very severe austerity on the country. Austerity has proven to be the wrong policy when economies are weak. So austerity measures simply made it much worse for the Greeks and pushed Greece into a severe recession with large declines in living standards for the average Greek family.

Now, we've got an election later this month that could determine whether the Greeks stay in the European monetary union.

If there's even a serious threat of Greece backing out of the eurozone union or defaulting on their debts, you then may start to get the contagion effect, where the vultures start flying over Italy, Portugal, all the countries that are on the edge.

It would retard economic growth in these countries and also sets the stage for financial chaos that could spread far as people start to worry about the safety of European banks.

Q: How does the Russian situation look?

A: Russia is a basket case. Largely due to the self-destructive actions of Vladimir Putin, the sanctions imposed by the West after his insane invasion of Ukraine have done a lot of damage to the Russian economy. This has been exacerbated by the collapse of oil prices, probably the single most important pillar of the Russian economy.

The threat from Russia is that it will default on its debts again, and so will many Russian businesses. It's made worse by the huge decline in the Russian ruble, which makes it more difficult for the Russians to repay their foreign borrowings, which are denominated in dollars or euros.

What we've got is a possible replay of the late 1990s when Russia defaulted. That led to the near collapse of Long Term Capital, the U.S. hedge fund, which could have provoked a global financial meltdown.

Both Greece and Russia are major question marks on the horizon.

Federal Reserve head Janet Yellen recently said she was not overly concerned about the impact of Russia on the U.S., but she was just looking at the economic trade between the U.S. and Russia. But if Russia provokes broader financial tremors then it could affect the U.S. more substantially than she said.

Q: How long do you think oil prices will remain low?

A: I'm laughing. In October, I locked in my home heating oil prices when crude oil was at $80 a barrel.

I'm betting that an $80 price will reappear again sometime in 2015. Much of what is happening reflects the highly inelastic demand for oil in the short run, so that small increases in supply will lead to very large declines in prices. Small shifts in the demand curve, as countries' economic growth slows, will also lead to large price declines.

But prices below $55 a barrel are transitory as world economic growth picks up a tad. Also, quite possibly OPEC will restrain supply a little bit.

I'm pretty sure oil prices will be rising, but under current circumstances it's impossible to predict where they'll be. In July, it was $112 a barrel. It fell to below $55 more recently, and I'm betting it will go back at least to half way in between.

Q: What about China, which is slowing?

A: First of all, why is China slowing? It's by design, largely. One intention is to cool off their over-heated real estate markets. The other is that they're in the midst of trying to make a transition from an export-driven economy to one that's more oriented to domestic consumers. It's an attempt to raise living standards, which the people want, by shifting their GDP toward domestic consumption of goods and services.

Basically, the way it's worked before is that they've exported much of their output and created much higher savings. Savings do not raise living standards, whereas consumption does. This is politics. It's a way of building consensus on their way of handling the economy.

The slowing does have an effect elsewhere. It's one of the reasons oil prices have come down, and there's always the risk that the controlled slowdown could be too severe. By putting on the brakes they could always hit their heads on the dashboard, although it's not the biggest risk right now.

Q: Back home, when do you think the Federal Reserve will raise interest rates?

A: The Fed is probably going to start raising rates around June. But as Fed chief Yellen said, it's data-determined, meaning that the Fed will look at unemployment, car sales, housing, the whole enchilada. And where we stand right now raising rates around June doesn't have 100 percent odds, but it has higher odds than any other timing I can think of.

Q: What's your take on housing, with home price gains slowing?

A: The housing market has behaved very differently this cycle compared to past recoveries. In the past, housing would start to rebound even before a recession ended. And the housing rebounds helped recessions end. This time with so many houses under water and with fairly strict lending criteria, housing hasn't played that leadership role.

However, I don't think there's anything wrong with housing right now that a little bit of income growth and confidence won't cure. We seem to be getting more jobs and the beginnings of wage growth, so 2015 should see some improvement in housing, maybe not in prices but in activity such as new home starts and home sales. The fundamentals are pointing in that direction.

Q: So you think there will be more higher paying jobs and rising wages?

A: I'm not sure of the magnitude, but what we're seeing is that a large number of states have raised the minimum wage on Jan. 1. These are starter wages, but there is some sign that the labor markets are beginning to tighten, that is, the jobless rate is getting low enough that it leads to wage increases. So more jobs and increased wages add up to increased income. We're easily capable of creating 250,000 new jobs a month. It sounds like a lot, but in an economy with over 130 million jobs it's not a lot.

We're beginning to see some self-reinforcing cyclical forces. The recovery breeds higher incomes, and these higher incomes stimulate the recovery, as people purchase more consumer goods and houses.

The only thing we have to fear is that some of the potential global problems become actual global problems.

Domestically, we're not in bad shape, although Congress has the power to mess it up as it has in the past, but I have my fingers crossed that it will do the right thing even if it's not for the right reasons.

Q: What's your biggest worry?

A: I have two. One is Greece and Russia and possibly other countries in similar plights, which could cause problems that intensify.

The second is that the Fed has big things to do starting in 2015. It said that the lift-off in interest rates will start this year, and it has ended purchases of government and mortgage-backed securities. It has to shift into a tightening stance after almost 10 years. It's entirely possible that the financial markets may overshoot while it's doing this. Long-term interest rates could rise much more rapidly than warranted as domestic and foreign investors try to figure exactly what's going on.

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