US economy's gloom expected to begin lifting by late '09

Until then, employment, output, and housing prices will keep falling.

By , Staff writer of The Christian Science Monitor

The economic storm that has engulfed the United States – and the world – is expected to continue for most of 2009.

If there is a silver lining, it is that as the year progresses, economists expect the rate of decline in the economy to start to slow – with some modest growth possible by the last quarter of the year.

Before the skies brighten, however, unemployment will rise, business bankruptcies will accelerate, housing prices will continue to fall, and consumer confidence will remain low, according to most forecasts.

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"It's a struggle to say there is an upbeat outlook," says Richard DeKaser, Washington-based chief economist at National City Corp. "We would not call the forecast for 2009 optimistic."

Indeed, the worst of the economic news may be just arriving, economists say. Consumer spending for the holidays will be the worst in years, even with all the store promotions. Stores will continue to offer bargains into 2009 in a desperate attempt to unload inventory. Weak consumer spending will be one of the major reasons the economy as measured by the gross domestic product (GDP) will shrink by as much as 4 to 6 percent on an annualized basis in the fourth quarter.

Lagging economic growth at year-end is not a good sign for the New Year. "You try to get a push off into the next year, and if you don't, it sets the tone," says Dan Meckstroth, chief economist at Manufacturers Alliance/MAPI in Arlington, Va.

By the end of March, the economy, as measured by GDP, will shrink another 4 percent on an annualized basis, estimates IHS Global Insight, an economic forecasting concern in Lexington, Mass. By the second quarter, the annualized rate of decline will slow to 1 percent, according to Global Insight. Then the economy will grow by 1 percent in the third quarter and by 2 to 3 percent in the final quarter of the year.

"You can't stop the economy from contracting in a big way in early 2009," says Nariman Behravesh, chief economist at IHS Global Insight.

Few areas in the US will escape the downdraft, says Mark Zandi, chief economist at Moody's Economy.com in West Chester, Pa. "It will be touching every industry, every occupation, every corner of the nation."

For example, Moody's now estimates that the economies of 33 states are in recession, with most of the others close to shrinking as well. Less than 22 percent of the nation's metropolitan areas are experiencing job growth, says Mr. Zandi. "That's the smallest percentage since 1975 and I wouldn't be surprised if it falls to a new low in the months ahead," he writes in an e-mail.

The shrinking economy means that unemployment will continue to rise through most of 2009 even if the economy shows a modest gain by year-end. The unemployment rate, currently 6.7 percent, could rise to 8 to 9 percent of the workforce. From peak to trough, Zandi estimates the economy will shed 5 million jobs, mostly likely the worst performance ever.

It could be worse. Even though business is trying to cut expenses, some companies are trying to do it creatively, says Mr. Behravesh. "Some senior executives at places like Federal Express and Caterpillar are taking big pay cuts, and some workers are taking time off without pay," he explains. "As companies have learned, it's expensive to fire workers and then retrain them again."

One of the areas likely to be worst hit is manufacturing. Economists consider industrial production to be one of the best gauges of the sector. Mr. Meckstroth estimates it will fall 1.4 percentage points on an annualized basis this year. Next year is worse, with a drop of 4.2 percent. "If you don't include high tech, then industrial production will fall 6.3 percent," he estimates. "Most of that decline will occur in the first half of 2009."

A good portion of the decline in industrial production is from falling business investment. "Business is cutting spending as fast as it can," he says.

The auto sector, in particular, is expected to shrink, even with bailout money from the government. For example, Meckstroth says Chrysler is expected to merge with another automaker. "They have pretty much admitted they don't expect to operate on their own," he says.

However, once the economy starts to improve, he anticipates that the automakers will benefit. "We are seeing building pent-up demand," he says. "The automotive fleet is getting older and repairs cost so much it's cheaper to replace vehicles."

The weak economy means consumers are likely to continue to get a break at the gas pump. The Energy Information Administration is estimating regular grade gasoline will average $2.03 a gallon, down from about $3.27 a gallon in 2008. "That will convert into a 1 percent tail wind for the economy in 2009," says Mr. DeKaser.

Before the economy turns around, Congress is expected to have passed a two-year fiscal-stimulus package that could be close to $800 billion. Zandi estimates some of it might be some form of tax cut that moves into the economy right away. The same would be true of an increase in food-stamp eligibility and perhaps an increase in Medicaid funds to the states.

The incoming Obama administration, which has set a goal of creating 3 million jobs in two years, is also expected to ask for a sharp increase in infrastructure spending.

"If they do shovel-ready infrastructure, that can be spent pretty quickly," says Alice Rivlin, a senior fellow at the Brookings Institution in Washington. "But it would be ill-advised to do too much of that."

Instead, she would like to see Congress spend some time planning the types of spending the nation needs. "For example, there are new things like medical technology where the money does not get spent right away, but it's an investment in the long-run rate of growth of health spending. It's not conventional stimulus."

The sharp rise in government spending may come at a cost to the economy, worries Axel Merk of Merk Hard Currency Fund in Palo Alto, Calif. "It will make it more difficult for the corporate sector to raise money," he predicts. "There is a huge amount of corporate debt to be rolled over next year."

Mr. Merk says banks' aversion to making loans will continue into 2009. As the year ends, corporate bond spreads – that is the difference between Treasury bills and investment-grade corporate debt – are at a record high. "I think financial institutions are in a survival mode and that will continue," he says.

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