US Economy: muddling through

We estimate that real GDP grew at a 3.5% annualized rate in the fourth quarter; a tad higher than our view in the latest Nordic Outlook. Moreover, the economy clearly has momentum and the fiscal headwind is actually less severe than previously forecasted, at least in the very short term. But while the U.S. economy gives off the allure of a country that has decoupled, we are concerned about the tightening in financial conditions as well as the lagged effects from the recession in Europe. That being said, our forecast is that the U.S. economy is winning the beauty price in the ugly contest. We forecast 2.3 per cent and 2.2 per cent GDP growth in 2012 and 2013, respectively. Core inflation is peaking and should start to decline this year. The last couple of readings have been muted and according to our forecast core inflation will fall to 1.2 per cent by the end of 2012. The December labor market report was strong, and the unemployment rate managed again to drift lower, to 8.5 per cent from 8.7 per cent in November. A year ago, the unemployment rate was sitting at 9.4 per cent. The rapidly declining jobless rate has surprised us; the drop is much bigger than suggested by the Okun relationship. A flyin-the-ointment is that decline in the labor force has helped pull the unemployment rate lower. Since GDP is growing at around the potential rate in 2012-13, we expect the unemployment rate to hold steady at its current level. The Fed will start publishing forecasts for the fed funds rate after the January 24-25 FOMC meeting. Not only that, but there will be a text as well describing the key factors underlying those assessments as well as qualitative information regarding participants expectations for the Federal reserves balance sheet. We expect the text to reveal that several FOMC participants look for the balance sheet to increase in 2012, thus affecting market expectations. Our forecast is for another round of asset purchases (QE3) this summer. Mattias Brur, +46 8 763 85 06

TUESDAY 10 JANUARY 2012 Growth

Inflation

Labour-market

Key data Percentage change

2010 2011 2012 2013 GDP* Unemployment** Inflation* Government deficit*** Fiscal tightening**** 3.0 9.6 1.7 -10.3 -0.3 1.8 9.0 3.2 -9.2 0.6 2.3 8.4 1.7 -8.4 1.2 2.2 8.4 1.3 -7.5 1.3

* Percentage change, ** Per cent of labour force, *** Per cent of GDP **** Change in structural balance as a percentage of GDP Source: SEB

Economic Insight

GDP AND ACTIVITY INDICATORS

U.S. economic data has surprised to the upside, and we have bumped up our Q4 real GDP forecast to 3.5 per cent. Inventories provided a sizable boost in Q4; underlying growth (final sales) was around 2 per cent. But there is a strong near-term momentum, and the H1 GDP forecast was too pessimistic in the November Nordic Outlook. We expect real GDP growth slightly above 2 per cent both this year and the next. The recession in Europe is preventing a classic bungee-jump recovery. Our Financial Conditions Index is on a rising trend, although the tightening today is nowhere near that after Lehman. Our Credit Constraint Index is rising too, but current index levels are still consistent with ongoing, albeit low, growth. In the eleventh hour Congress extended the payroll tax cut and the unemployment insurance, but only for a couple of months. Our forecast assumes that legislators ultimately extend the stimulus measures for the entire year, but it is likely going to be a messy process. Fiscal austerity still is a headwind both this year and the next. Meanwhile the Fed is taking actions to support the recovery and we look for another round of large-scale asset purchases later this year. We have collected a variety of macro indicators in the two charts on the bottom of the page. The first chart takes off in June 2011, whereas the second chart takes off in September. Compared to six months ago, the housingrelated indicators have risen firmly. It is noteworthy, however, that consumer expectations are lower today than six months ago. Compared to three months ago the consumer has emerged from the dead, presumably reflecting both the better jobs market and lower gasoline prices. But the improvement is broad-based; only industrial production and ISM services have basically flat-lined since September.

Economic Insight

CONSUMER SPENDING AND THE LABOR MARKET

The trend in real consumer spending is pointing slightly downwards, and our indicator model suggests no pick up in the near term. Real disposable income actually is deflating, which means that a major pick up in consumer spending looks unlikely. In year-on-year terms, real average earnings (both on an hourly and a weekly basis) are deep into negative territory. Arguably the key is the labor market; our hunch is that the current unemployment level will limit wage growth. From July to November, the U.S. economy managed to generate 653k new jobs on net, and yet real personal disposable income fell in four of those five months and at a 1 percent annual rate. However the large drop in initial claims indicates that the labor market improvement will continue, unless, of course Europes problems get in the way. Households are still focused on reducing their debt levels rather than increase borrowing. But the fact that the household debt service ratio has dropped to its lowest level in 15 years is telling us that ongoing deleveraging will not be the last straw that breaks the camels back. The 60 cent drop in gasoline prices since last summer supported consumption, as did the drop in the savings rate from 5 per cent to 3.5 per cent while household net worth, if anything, is suggesting that savings should rise.

Economic Insight

INFLATION INDICATORS
Reflecting the drumbeat of positive U.S. economic news, the dollar index has risen to its highest level in 16 months. The stronger dollar may eventually put pressure on the trade and current account deficits. The current account deficit has been moving sideways over the last two years. Meanwhile the growing economy in combination with a touch of fiscal austerity has pushed the budget deficit in right direction. Core CPI inflation was 2.2 percent in November in year-on-year terms. Several factors, such as higher demand for rental housing units and the supply-chain constraints in the auto industry may have contributed to the rise. Core CPI inflation is close to its peak, and our forecast is that it will fall back to 1.2 per cent by the end of 2012. The market expects lower inflation too; breakeven inflation rates are muted. The output gap is shrinking, but it is still huge in a historical perspective.

Breakeven inflation
(Constant Maturity Inflation Indexed bonds)
3 2 1 0 -1 -2 -3 03 04 05 06 07 08 09 10 11 12 3 2 1 0 -1 -2 -3

10Y

5Y
Source: Reuters EcoWin, SEB

A proxy of the food/energy shock

Headline less core inflation
4 3 2 1 0 -1 -2 -3 -4 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 4 3 2 1 0 -1 -2 -3 -4

US

Euro zone
Source: Reuters EcoWin, SEB

percentage change