Wednesday, January 16, 2008

Economic Outlook for 2008

Robert Barr, an economist in Washigton, D.C. says we're in for more rough sledding well into 2008. Even the chairman of the Federal Reserve has announced that he expects the economy to "slow noticeably." Still, it doesn't appear that we'll skid into a recession in the coming six to nine months as the economy continues to go through some critical realignments, but the mood will likely hang heavy until at least next summer. Let's take a look at what the economy is having to battle.

  • High oil prices. With prices nearing $100 a barrel as of mid-November 2007, consumers are seeing higher prices at the pump, and $4 per gallon during 2008 isn't out of the question. For consumers, the higher price acts like a tax hike, leaving less to spend elsewhere.

  • Housing market problems. Home values are in retreat after many years of forceful increases. The most adversely affected may be those homebuyers of the past couple of years who really couldn't afford the loan's terms and were counting on higher home prices to help them refinance when it came time for the monthly payments to readjust. Oops. Foreclosures are up dramatically, especially on exotic loans to borrowers without strong credit records. Still, the problem is relatively contained - if you don't need to sell or refinance your home over the next year, any declines are only on paper (and, for the most part, follow years of strong gains).

  • Credit market recalibration. The credit markets are now trying to determine just what the right price is for a given pool of underperforming mortgage loans. With appraisals in question and foreclosures on the way up, these loans are far riskier than Wall Street had previously reckoned. The uncertainty has endangered many home lenders and mortgage investors in general. Wall Street is working through a credit realignment that will take several more quarters to resolve.

  • Low dollar. The dollar has weakened significantly, which is driving up the cost of imports. This is good news, generally, for American domestic manufacturers and the domestic tourist industry (American tours are cheaper for overseas visitors). Floral buyers who purchase foreign-grown flowers will likely find little relief from the low dollar this year.

  • Falling stock market. Equity values are struggling, having given up a lot of ground in November 2007. Consumers feeling less wealthy because of shrinking investment portfolio values and declining property prices can't be expected to keep spending at the rates seen during the last several years.

So, why not a recession in 2008? Because the economy remains fundamentally strong. Productivity growth toward the end of 2007 was strong, and employment growth remains decent. The Fed loosened monetary policy in the fall of 2007 and is expected to make more significant easing moves during the first half of 2008. This will make the high-profile economic realignments easier to manage.

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