Federal Reserve & Interest Rates

The Commerce Department released it’s second quarter GDP data on Friday and it showed that the economy shrank by 1%, which was better than the 1.5% many economists were forecasting.  However while many analysts now feel that the economy may be on the brink of a recovery there are some caveats.

  The decrease in real GDP in the second quarter primarily reflected negative contributions from nonresidential fixed investment, personal consumption expenditures (PCE), residential fixed investment, private inventory investment, and exports that were partly offset by positive contributions from federal government spending and state and local government spending.  Imports, which are a subtraction in the calculation of GDP, decreased.

      The much smaller decrease in real GDP in the second quarter than in the first primarily reflected much smaller decreases in nonresidential fixed investment, in exports, and in private inventory investment, upturns in federal government spending and in state and local government spending, and a smaller decrease in residential fixed investment that were partly offset by a much smaller decrease in imports and a downturn in PCE.

Since the smaller than expected fall was primarily due to increased fiscal spending by the government don’t expect any big recovery anytime soon.  Consumer spending is expected to remain flat and with unemployment expected to grow through the end of the year, it’s probably not going to feel like a recovery for many Americans.

The housing market may or may not be finally hitting it’s bottom and the stock market remains down although it did stage a mini-rally this month.  However with many businesses still struggling and continuing to cut back on their workforce to control costs, it could be at least another year before jobs start growing again.

Until there is job recovery, consumer spending which makes up the bulk of the economy, will likely remain muted.  Many Americans are avoiding spending and as a result the overall savings rate has risen to around 5.2%.

Many Americans are still worried about the job situation, so there is no wonder that consumer confidence remains so low.  While this and last year’s stimulus payments provided a small boost to consumer spending levels, that only lasts for a period of a few months before falling back down once again.

Even if the economy does show some form of growth this year, the time frame for the recovery is expected to be long and slow process.  So much wealth was lost in such a short period of time and it could take years for it to grow back to their former levels.

This week, both Federal Reserve Chairman Ben Bernanke and Treasury Secretary Timothy Geithner expressed similar sentiments before Congress in separate testimonies, that the banking system will likely need more than the original $700 billion committed to it last fall.  This year’s proposed budget already has a deficit of close to $2 trillion and the deficits for 2010 and 2011 will probably be near a trillion as well.

The nation’s debt ratio to Gross Domestic Product will rise to levels not seen since the massive deficits incurred following World War II.  Until the Treasury finishes it’s evaluation of the banking system with it’s so called “stress” tests we probably will not know how much more money it will seek from Congress.

I wonder if the government now regrets not intervening in the Lehman Brothers collapse, which intensified the current financial crisis.  It is almost to the point where it seems that they are almost willing to spend as much as it takes to keep a similar situation from happening again. 

For instance, the original terms to AIG’s initial bailout contained many provisions that it made it likely that taxpayers would lose little in the breakup of the company.  In the months following, AIG’s bailout has been revised three times now and many critics doubt the government will get all their money back once AIG finishes selling off it’s assets.

As for the banking system, many experts are say it will take at least another trillion and possibly more to free up enough toxic assets for banks to start lending again.  As weary as the government must be by now spending all this money, they have to remain committed to stabilize the banking system or we could be in for a long road to recovery.

The Commerce Department revised their estimate’s on GDP numbers for the first quarter in a report released today.   

The 0.9 percent gain at an annual pace in gross domestic product compares with an advance estimate of 0.6 percent, the Commerce Department said today in Washington. Fourth-quarter growth was 0.6 percent. Separate figures today showed the number of Americans continuing to receive jobless benefits rose to a four-year high this month.

Investors took that as a positive sign that the economy is remaining resilient despite the ongoing problems in the housing and credit markets.  Many economists have been predicting a recession for the U.S. economy and while growth has slowed considerably, it still remains in positive territory.

The unexpected rise in GDP has been attributed to the rapid growth of U.S. exports which is benefiting quite nicely from the decline of the dollar.  While the U.S. is still running a trade deficit, it’s has fallen to lowest level in six years.

Americans have also cut back on their consumption of imports, the prices of which have risen sharply over the past year.  While domestic purchases have increased, consumer spending has slowed which has dragged down economic growth.

If unemployment figures can remain stable for the upcoming quarters it may be possible for the economy to stay out of a recession.