The Federal Reserve is watching the “tea leaves” to determine when the U.S. economy reaches “escape velocity”.
Escape velocity is a hard-to-define level of economic activity at which growth will be self-sustaining without (aggressive) intervention by the nation’s monetary authority.
Positive fiscal intervention is nowhere to be found at this time and that’s another story, but I’ll address that issue further along in this article.
Chairman Ben Bernanke seemed to think the U.S. was approaching such a happy state when he announced in June that the Fed would begin to “taper” its bond-buying program.
As a result, some long-term interest rates rose, stock market prices retreated and Mr. Bernanke was forced to change his mind. Maybe events won’t unfold quite as quickly as he first thought.
He has assured everyone that stimulus will not be removed until it is eminently clear the economy is on a clearer, more assured track.
In other words, the Fed’s support will be there as long as it’s needed. Sounds good, but I’d rather hear that central bank help is no longer imperative.
The problem will be in finding a proper degree of reassurance. The numbers on the economy are improving, but they’re not unreservedly cheery.
At the same time, there are bound to be setbacks in some of the data as we move forward. It hasn’t been and won’t ever be a perfectly steady upward progression of good news.
It’s becoming a case of trying to separate the “noise” from the reality.
A prime example is the housing sector. In March, new home starts rose above one million units seasonally adjusted and annualized (SAAR) for the first time since June 2008, holding out the promise of sunnier times for builders, buyers and realtors.
But in April, they fell back to 852,000 units. In May, they climbed again to 928,000 units.
In the latest month, June, they’ve gone back into their shell at only 836,000 units.
Permits (an advance indicator for starts) have also been easing over the latest two months.
At the same time, the NAHB/Wells Fargo Housing Market Index has risen (in July) to its highest level since January 2006, indicating that homebuilders are much more optimistic about undertaking new single-family housing projects.
Initial jobless claims are another example. They need to fall into a range of 300,000 to 350,000 to ensure the monthly gain in employment will be close to +200,000.
The weekly numbers have been exhibiting a fair degree of instability. They fell as low as 327,000 at the end of May, but two weeks later shot back up to 363,000.
In the first week of July, they were still somewhat elevated at 358,000, but then they dropped to only 334,000 by the middle of the month. Expect continuing volatility in the weeks ahead.
(To provide perspective, the number of first-time unemployment insurance seekers was almost twice as high in the recession, spiking to 667,000 in the final week of March, 2009).
Or take industrial production. In both April and May, the Federal Reserve’s estimates of change month to month were disappointing, -0.3% and 0.0% respectively.
But in June, there was a solid increase again, +0.3%. Apparently, a “breather” was necessary to rekindle the spark of expansion.
The pauses in the progression towards upbeat data can result from a variety of factors, including inclement weather, shifts in business and consumer confidence, measurement errors (i.e., the statistics are always qualified with a plus-minus “degree of accuracy”) and government missteps.
That last item may place the future of the U.S. economy in most jeopardy.
In the presidential-election year of 2012, corrosive political posturing in Washington was a seriously inhibiting factor for the economy. The rancor culminated in cost-cutting “sequestration” early this year.
Over the last several months, the two political parties have managed to keep their fighting on the sidelines. Stronger tax revenue has contributed to the calm.
But a new budget for the next fiscal year, beginning October 1, may bring the conflict back to the fore, as might further debate over the debt ceiling later this year.
These issues threaten to act as drags on the economy’s forward progress.
What about Canada? Are we having similar problems nailing down a brighter future?
In a nutshell, the answer is “Yes”, due to weak commodity prices, doubts about our housing sector, a Keystone Pipeline expansion that’s still up in the air (awaiting a decision by President Obama) and uncertainty about other key resource projects (e.g., pipelines to the West Coast).
Stephen Poloz, Governor of the Bank of Canada, isn’t sure when the official interest rate (i.e., the overnight rate) will be raised from its current level of 1.00%.
As economic conditions “normalize”, there will also be “normalization” of the yield and the BOC’s official lending rate will gradually rise to an equilibrium level of about 3.50%. But the journey won’t even begin before the end of 2014 or early 2015.
Canada has one major step up on the U.S. Our economy is operating on top of a stronger base.
Average housing starts in the first half of this year in Canada were 185,000 units, almost exactly the figure judged to be the long-term sustainable rate.
In the U.S., home stars are from one-half to one-third below their “norm” of 1.5 million to 1.7 million units SAAR.
Total employment in Canada is 3.3% higher than at its peak before the recession. In America, the total number of jobs still trails its pre-recession summit by 1.6%.
Those percentages may not seem like much, but they represent a lot of positions – nearly +600,000 in Canada, while -2.1 million in the U.S.