Can the U.S. Talk Itself out of a Recession?
According to the accompanying table and graph, North America’s major stock markets have not given up on the U.S. economy yet, despite all the talk in the media about a possible upcoming recession. The major indices are down a little (-6.0% to -7.0% from 52-week highs), but not a lot, and they remain +5.0% to +10.0% ahead of year-ago levels. While a number of leading economic indicators are pointing to a weakening of U.S. economic growth, there are still many reasons to be optimistic.

There seem to be two major negatives that are being put forward by those advancing a negative economic prognosis: (1) declining house prices in many regional markets are leading to a drop in consumer and business confidence that is spreading to the rest of the economy; and (2) there may be still-unknown problems in financial markets that threaten stability and liquidity beyond the already-known subprime mortgage mess.

Stability is Returning to Housing Markets
With respect to residential markets, several developments are already taking place to reintroduce stability into the U.S. housing sector. President Bush, working with the American Securitization Forum, has arranged an agreement with lenders to freeze rates on subprime mortgages for up to five years, when there is an imminent danger of foreclosure. While this will require a further re-evaluation of assets by financial institutions, it does remove the short-term threat of market losses in 2008 similar to 2007. This will help to restore some confidence in financial markets.

Furthermore, some regional housing markets are starting to stabilize. Housing starts in the Northeast and Midwest are either at, or approaching, levels similar to last year. Also, the significant fall in value of the U.S. dollar versus the Euro and some other key currencies is creating interest among foreigners in acquiring U.S. real estate. This is becoming apparent in the high-rise market in Las Vegas and may well spread to resort communities along the southern Atlantic coast.

Finally, more prospective buyers will soon be responding to the opportunities inherent in current low house prices, as set out in an earlier Reed Construction Data story entitled, “What Halts Home Price Deflation? Fear of Losing a Bargain”.

Two More Good News Stories
Two further developments are good news for the economy. A further cut in the federal funds rate is anticipated on December 11th when the Federal Open Market Committee (FOMC) next meets. Also, the just-released November report on U.S. labor markets recorded surprising strength. The national unemployment rate remains at 4.7%, which is nearly full employment (usually taken to be 4.0%), and the number of new jobs created in the month was 94,000, a more than respectable figure.

Plastering over the Cracks
As for financial markets, there may be some debt instruments, particularly in the area of collateralized debt obligations (CDOs), that are of questionable origin. However, a blanket statement that financial markets are set to implode, as some commentators have been saying, is a disservice and a distortion.

The whole financial system depends on a measure of faith. Collective trust and confidence is what keeps the wheels of commerce grinding on. A twenty dollar bill is only worth twenty dollars, or an equivalent barter amount, because it is convenient for all of us to go along with the convention that it is.

A better outlook for the economy as a whole will go a long way towards plastering over some of the cracks in the system. In the meantime, financial institutions are tightening their credit standards and working to improve the integrity of their balance sheets.