Economic Outlook: Cyclical Recovery, Structural Challenges
The following are my reflections on the economy after attending the Cameron School of Business Advisory Board Lecture Series featuring John Silvia, Chief Economist, Wells Fargo:
Recently, there has been talk about the recent recovery of the economy. Everyone is guessing: are we really out of the trough? Is it a steady growth? How does it affect the job market? How is the inflation in the near future?
While we see the steady trend of growth, we also recognize a healthy rebalance of output: decreasing government consumption and investment vs. the increasing private sector demand. This sustained growth, however, does not imply an immediate job market bounce back. Though we see a moderate increase in employment, much of the increment is temporary or part-time jobs. Labor productivity and real disposable income is still low compared to the 1996-2004 era, and the private sector has been increasing production with less and less jobs for human beings. The industry is expecting a structural shift of labor force between industries and from low-skill to high-tech, educated workers.
On the other hand, the tighter credit lending standards and a strengthening economy have helped to improve the credit position of households over the past three years. We see generally decreasing delinquencies in household debt, such as credit card, mortgage, auto loans; except for student loans. The housing market has also strengthened in many regions. The affordable houses, fast rising rental costs and recently eased lending standards all make the housing market more attractive. The resulting growth in home prices exceeds the mortgage rates, pushing the housing market further towards a speedy recovery.
Yet a demon always comes with all happy news – the inflation. Inflation expectations exceed nominal returns and suppressed interest rates. We still believe that the Fed will continue easy policy in 2014, with no change in the short-term rates (as seen in TV). However, we have already seen a substantial upward swing in the longer-term rates. The fixed short-term rates and jumping longer-term rates tilt the yield curve steeper, showing the market’s expectation of a high inflation ensuing. Soon we will see retirement funds and other “conservative” portfolios that are concentrated in fixed-income market start taking a loss.
So the bottom line is: the economy is growing with some structural changes; the housing market is recovering and be prepared for inflation.
Yiying Cheng, Ph.D.
Assistant Professor of Finance