Are We Headed For Another Recession?

Posted on Sunday, 31st July 2011 @ 03:12 PM by Text Size A | A | A

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The Bureau of Economic Analysis (BEA) released their preliminary report on economic activity on Friday, July 29th and it was expectedly dim at 1.3%.  Typically, we want to see economic growth of at least 3% and this is far short of that figure.  What was surprising was their revision of 1st quarter economic growth, which was much lower than expected with revised estimates tracking actual economic growth of an anemic 0.4%, instead of the previously reported 1.9%.  Given recent disappointing job numbers and uncertainty regarding our U.S. fiscal picture, it is not surprising that economic activity wasn’t bustling during the months between April and June, but new developments suggest that a double-dip recession is very possible now.

U.S. economic activity is measured by four components:  personal consumption expenditures (consumer spending), gross private domestic investment (business investment), net exports of goods and services, and government consumption expenditures and gross investment (government spending).

As for the large downgrade of first quarter economic activity, the main reason involved the BEA seriously underestimating business investment.  Initially, it was believed that this component grew by 12.4%, but in actuality, it only grew by 3.8%.  It is extremely difficult to accurately track the millions of transactions that take place in our multi-trillion economy, but it is disappointing to see such a drastically different figure.

Consumer spending represents the largest portion of economic activity and it was very low at 0.1%.  This suggests that individuals were hesitant in opening their wallets due to concern over the economy.  While net exports was high, I believe most of that was due to declining imports as American consumers curtailed their spending habits.

As for business investment, there was improvement across the board in 2nd quarter.  This figure is often volatile from quarter to quarter, so economists do not place as much emphasis on this data on a quarter-to-quarter basis.  If there is a consistent period of decline or improvement over multiple quarters, then more formative conclusions can be made there.

Government spending continues to decline, but it was at a much slower pace than the previous quarter.  Particularly, state and local spending has contracted at high rates due to rising budget deficit problems.  Since many states face constitutional requirements to balance their budgets, they do not have the same flexibility as the federal government to maintain spending levels when the economy declines.  Federal spending actually increased by 2.2%, but that was due to boosts in national defense spending.  Nondefense spending has declined for two consecutive quarters and at a faster rate this quarter.

Any resolution to the debt ceiling will almost certainly involve cutting government expenditures at the federal level.  Unless negotiations involve stalling meaningful cuts into the future, one would expect further decline in government spending.

While most economists initially believed that a double-dip recession would not occur, this latest data suggest that could be a reality, especially if the debt ceiling is not raised.  Weakening labor markets, sluggish consumer spending, and declining real estate prices are a recipe for a recession.  Let’s hope the trend changes soon.

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