INSIGHT: US confidence wanes, GDP slows and fiscal crisis looms

23 August 2012 16:15  [Source: ICIS news]

US middle class losing confidence in the economyBy Joe Kamalick

WASHINGTON (ICIS)--Despite hopes that the wobbly US economic recovery might strengthen in the second half this year, new reports indicate further weakening in consumer confidence, more GDP slowing and perhaps a sharp recession in 2013.

Because household spending accounts for as much as 70% of all US commerce and production, consumer sentiment is a crucial harbinger for what might be on the economic horizon – and it doesn’t look sunny.

According to a new survey and analysis issued this week by the Pew Research Center (PRC), confidence in the nation’s economy has fallen sharply among members of the US middle class, and their expectations for their own futures also have declined.

“Since 2000, the middle class has shrunk in size, fallen backward in income and wealth, and shed some – but by no means all – of its characteristic faith in the future,” said the PRC report.

“Fully 85% of self-described middle-class adults say it is more difficult now than it was a decade ago for middle-class people to maintain their standard of living,” the analysis said.

“Their downbeat take on their economic situation comes at the end of a decade in which, for the first time since the end of World War II, mean family incomes declined for Americans in all income tiers,” Pew said.

While net earnings declined for all income tiers during what PRC calls “the lost decade”, the report notes that only the middle class – defined as households with annual incomes roughly between $40,000 (€32,000) and $120,000 – actually shrunk in size.

In 1971, according to US Census Bureau data cited by Pew, 61% of all adults were middle-class, but that had fallen to 51% by the end of last year.

About half of the adults who left the middle-class income tier moved up into a higher income bracket, and the other half slipped to lower earnings levels.

And where the US middle class commanded 62% of the nation’s income pie in 1970, that middle tier of income earners now gets only 45% of the country’s cash flow.

That lowering of middle-class incomes is critical for the US economy going forward, because historically it has been the great American middle class that has driven the nation’s economy, buying children’s clothing, household appliances, cars and lawn mowers.

Although the Great Recession ended three years ago in June 2009, Pew said its survey shows that “most middle-class Americans are still feeling pinched”.

“About six in ten (62%) say they had to reduce household spending in the past year because money was tight, compared with 53% who said so in 2008,” the report said.

On the level of confidence, Pew said that “Only about one in ten (11%) say they are very optimistic about the country’s long-term economic future ... and 41% are somewhat or very pessimistic”.

Those figures do not argue well for any near-term significant increases in consumer spending.

Also this week, the Federal Reserve Board said that it was again lowering its outlook for the US economy for the rest of this year and into 2013.

In the minutes released this week of the Fed’s 1 August economic conference, the central bank’s top economists said that their “near-term projection for real GDP growth was revised down somewhat”, citing a slower pace of consumer spending since Fed analysts last met in June.  In that June session, the Fed lowered its GDP growth forecast for 2012 from 2.5% to 2% or less.

Data developed since the June meeting, said the minutes, suggested to Fed analysts “that economic activity had decelerated in recent months to a slower pace than they had anticipated”.

In addition, the central bank financial gurus “expressed concern about the persistent headwinds restraining the pace of the recovery, including the weak housing sector, still-tight borrowing conditions for some households, and fiscal restraint at all levels of government”.

Many of those in the Fed’s 1 August meeting also judged that a high level of uncertainty about the ongoing eurozone financial crisis and the outlook for US fiscal and regulatory policies “was holding back household and business spending”.

In the often stilted language of what is known as Fed-speak, the analysts also “saw the possibilities of an intensification of strains in the euro area and of a sharper-than-anticipated US fiscal consolidation as significant downside risks to the economic outlook”.

In plain language, they’re scared.

The “sharp US fiscal consolidation” referred to by Fed economists was spelled out in detail by this week’s mid-year outlook from the Congressional Budget Office (CBO).

In its dire analysis, the CBO warned that the US economy will tumble into a new recession early in 2013 unless Congress acts soon to resolve automatic tax increases and mandated budget cuts that are scheduled to kick in with the new year.

The CBO said that more than $600bn in tax increases and federal spending cuts that will begin to take effect on 1 January – the so-called “fiscal cliff” – will leave consumers with less discretionary income and withdraw federal funds from the economy.

That in turn will cause the US economy to plummet in the first half of next year, contracting by nearly 3% by July 2013 – a whopping six points below what would be normal US annual GDP growth of 3% to 3.5%.

The CBO analysis says that the second half of next year would see growth of around 1.9%, enough to offset in part the predicted 3% first-half contraction, meaning a full-year 2013 GDP decline of around 0.5%.

Those tax increases and spending cuts, said the CBO analysis, will sharply reduce the federal budget deficit in fiscal year 2013, cutting the federal red ink figure to about $641bn compared with this year’s estimated $1,100bn deficit.

But the consequences of taking about $600bn out of the economy, said the CBO, will be sharp reductions in consumer spending, business activity and production and a resulting downturn in GDP – a new recession.

In that scenario, the CBO says that US unemployment, now at 8.3%, would rise to 9% or more by the end of 2013.

Congress and the White House may yet find some common ground on a budget fix that would keep the economy from falling over the fiscal cliff in January, but no such compromise is expected before the US national elections on 6 November, and possibly not until the new Congress convenes in January.

In the meantime, business owners and households concerned about the gathering fiscal storm will husband their resources and cash, reducing spending still further and consequently accelerating the decline that has them worried.

($1 = €0.80)

Paul Hodges studies key influences shaping the chemical industry in Chemicals and the Economy

By: Joe Kamalick
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