Not too long ago, I was asked how to characterize the health of the economy and recent market gyrations. Obviously there is no simple answer since the economy is very dynamic and there are many forces at work. My immediate response was that we have and will continue to muddle through the recovery, noting that the definition of muddling is to “proceed or perform in an unsteady manner.”
This has been the pattern of the current recovery – a story of muddling. Take for instance the fact that the economy has grown, but at a subpar rate of 2.2 percent, since the recovery began in June 2009. Moreover, it has not been a steady pace but one with stops and starts. The economy has tacked back and forth, reacting to fiscal and monetary policies, energy prices, global financial crises and even the weather. Over the coming months and into 2014, I expect we will continue to “muddle forward.”
So far this year we’ve seen disappointing economic growth impacted by various forces: weak wages, salary growth, and job creation, and slower business investment. On the upside, household wealth has climbed as housing and equity prices have been supportive of spending in the economy. People who feel wealthier tend to spend more, thereby supporting their confidence about the economy and its future. If housing prices are on the upswing and homeowners feel their homes are good investments, they will make improvements. Some of this confidence has spilled over to the business sector with modest investments in structures and equipment being reported. While the wealth effect is a “plus” for the economy, the gains are not equally shared by all households. As pointed out in a recent study by St. Louis Federal Reserve economist William Gavin, “there is still a substantial gap between the peak of household wealth in 2007.”
I expect more of the same in the second half of 2013. The housing recovery will continue to play a key role in the economic recovery, but concerns over the recent rise in interest rates could put a damper on further spending on home purchases and improvements. While rising rates make financing of purchases more expensive, consumers may be able to digest them since rates are still at historical lows and substantial pent-up demand still exists.
There are several trends that can be found in recent consumer behavior that might be working toward the trajectory of the recovery. It is plausible that recent household purchases of big ticket items may be crowding out discretionary purchases, offering potential explanation of why non-housing-related retail firms saw soft sales in July. Constrained income growth over the past few years has meant limited budgets, and household tradeoffs may be occurring more than what was evident in past recoveries.
NRF CEO Matt Shay said on CNBC that we’re living in an “either/or” economy: consumers might choose to update their wardrobe or their household computer but not both.
There is some merit to this. Recent figures show that households are gaining confidence to step up borrowing for autos, homes and other items, providing ongoing economic buoyancy. Though backsliding on consumer confidence was recently reported, we still see consumer confidence readings at their highest level in years. As long as consumers spend, the economy grows. This has been the story since the recession ended.
Several policy issues continue to weigh on the nation’s economic psyche, adding to the “muddle forward” concept for this year and into 2014. The Federal Reserve’s policymakers have not made up their minds on the direction of monetary policy, and we will all be hanging on to Fed rhetoric and economic developments in the United States and overseas before the next Federal Open Market Committee considers its direction on September 18.
Americans are also facing another fiscal showdown in Washington this fall. Congress needs to decide by September 30 how to fund the federal government, and shortly thereafter decide on the legal debt ceiling. As observed in August 2011 and December 2012, policy uncertainties have the potential for disruptions and market volatility. I am hoping that we do not see a repeat of history as it could derail momentum expected in the second half of 2013.
Though growing only slowly, our economy is, in fact, also slowly strengthening. If confidence can be maintained, spending will increase and support moderate job growth in a positive feedback loop. NRF members can see all the economic factors involved in Augusts’ Monthly Economic Review.