Economic Recovery Continuing


What a difference a few months can make.”

Those words from Joseph Tracy, an executive vice president at the Federal Reserve Bank of New York, refer to last summer’s concerns about a possible recessionary double dip. (As recently as October 2010, Moody’s Analytics Chief Economist Mark Zandi, addressing a crowd at CBIA’s annual meeting, had put the odds of a double dip at one in three: “uncomfortably high,” he said.)

Tracy was speaking at the CBIA/MetroHartford Alliance Economic Summit and Outlook 2011 in Hartford. He was joined on a panel by Robert Triest, vice president and economist at the Federal Reserve Bank of Boston’s Research Department, and moderator Nicholas Perna, economic advisor to Webster Financial Corporation.

Double Dip? Probably Not

“There was a lot of concern about whether or not the economy was in just a soft patch, or was it in fact heading into perhaps a double-dip recession,” said Tracy.

He noted that growth in Gross Domestic Product (GDP) had slowed from 5% in the fourth quarter of 2009 to 3.7% in the first quarter of 2010, and to 1.7% in the second quarter.

The result, said Tracy, was “quite a bit of consternation, given the fact that we were in an environment where there was very little room for conventional monetary policy to provide any additional support to the economy if in fact the economy was losing momentum.”

Toward the end of 2010, several factors led economists to improve their forecasts for 2011. Among them, Tracy noted, was the extension of the Bush tax cuts, the Fed’s planned purchase of $600 billion in U.S. Treasury securities, and much-stronger-than-expected holiday retail sales.

“So at this point,” said Tracy, “it appears that concerns about whether the economy will in fact experience a double dip are quite low.”

The Fed’s Forecast

That’s good news, but will it translate into a robust economic recovery going forward? The recovery will progress, says Triest, but it will be gradual. He noted that unlike in past recessions, Connecticut’s economy tracked the nation’s in the recent downturn and that the pace of state’s recovery is likely to do the same.

Triest explained that the Federal Reserve’s Federal Open Market Committee (FOMC) expects GDP to accelerate over the next few years to a long-term growth rate of 2.4%-3%, with inflation remaining low: between 1.6% and 2%.

The FOMC also expects “the unemployment rate to be dropping in the future, albeit at a moderate pace,” said Triest. “So we’re not going to have a sudden drop in the unemployment rate, but it’s expected to occur fairly rapidly.”

The FOMC is predicting unemployment to be 8.9%-9.1% by the fourth quarter of 2011, dropping to 7%-8.7% in 2012 and 5.9%-7.9% in 2013. Beyond that, Triest noted, the forecast is for 5%-6%, “when we’re fully recovered and the unemployment rate is at a rate that’s consistent with stable inflation and normal [job] churning.”

New Normal?

Citing a pre-recession unemployment rate of 4%, Perna, the panel moderator, asked Triest if a 5%-6% unemployment rate will become the post-recession “normal.”

“There’s some degree of scarring as the result of the recession that could persist beyond 2013,” said Triest. “We know from various studies”_that the probability that somebody loses a job decreases with the length of time that they’ve been on the job. So in a very deep recession, like the one we just had, with a very high degree of joblessness, you know that going forward there’ll be more people who are fairly early in their tenure at firms than would have been the case before the recession, and those people are at increased risk for layoffs.

“When they are laid off, they go into the pool of the unemployed, and they’ll be there for some time before they get another job. So the increased risk of people going into unemployment is something that could cause the unemployment rate to be elevated above where it was prior to the recession for some period of time.”

Downside Risks

Tracy believes that one of the biggest threats to the recovery is housing, which “was at the epicenter of the shock that caused the Great Recession.”

He noted that early in 2010, it appeared that the housing market had bottomed out and then began to pick up. That, says Tracy, “was largely a reflection of the tax credits, which were supporting housing activity. So we saw housing, in fact, weaken as the year concluded.”

Housing prices declined 3.9% over 2010, and 39 states saw declines. In addition, distress sales of homes as a fraction of total sales rose to 40%, significantly above where they were at the beginning of the year.

Tracy also pointed out that efforts of the government and private sector “have been unable to stem the rise in the pipeline of foreclosures.” As a result, he believes that default rates could start rising again. “As we look over this year and the next, an increased rate of foreclosures and distress sales are going to weigh on housing prices.”

But, he said, “I think the most likely outcome is that despite the risks”_the economy will continue to strengthen and improve over the course of the year.”

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