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A slowdown in U.S. economy, yes, but a mild one

Many economists say the stimulus plan and rate cuts will help soften the downturn.

from the February 27, 2008 edition

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For all the focus now on recession, the US economy has become known for another "R word" in recent years: resilience. Between a flexible job market and robust markets for capital and credit, the economy has been able to weather many storms. It takes a lot – often a mix of bad monetary policy and shocks such as high oil prices or a housing bust – to knock growth completely off track.

But challenging times have arrived.

On Tuesday alone, news reports highlighted falling home prices, rising foreclosures, and rising prices for wholesale goods. And in the consumer confidence survey, America's outlook for the future hit a 17-year low.

Some economists say much now depends on credit conditions.

After a heady expansion of lending, which fueled the housing boom, lenders have been tightening standards for new loans. In some cases, trading by investors in entire classes of complex debt securities has frozen up. On Monday, fears of a meltdown among bond insurers – companies that provide insurance to investors against bond default – were eased as the firms were able to retain a high credit rating.

But the big question is how bad credit conditions will get on Main Street.

It is already harder to get mortgage loans. Credit card companies are tightening up, and some are raising rates.

"Everywhere, the lenders are a bit skeptical," says Rajeev Dhawan, an economist at Georgia State University in Atlanta. "They are really restraining credit [for consumers]…. If it spills over into business loans more than we expect, then you can expect a deep recession."

In a recent survey of small businesses, the National Federation of Independent Business found that access to credit was the top concern for only 4 percent of employers.

Mr. Dhawan expects no recession, which is often defined as a period of contraction in economic activity and employment. But he sees a protracted period of below-normal growth. By contrast, many economists expect that the stimulus packages and Fed easing will spur a recovery in the second half of 2008.

"I don't see the light at the end of the tunnel until late 2009," Dhawan says, citing a credit squeeze as the key problem. He expects unemployment to peak at about 5.8 percent.

The consensus of forecasters has proved wrong before. Some economists say deep recession is now likely as both banks and consumers struggle to "deleverage" after a period of easy credit.

Even the more optimistic economists see downside risks. "It's to some extent uncharted territory," Bethune says of the credit situation. But Fed policymakers are "aware of these risks, and they're taking out this insurance [by lowering interest rates]."

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