July 31, 2012 falconadmin

US Economy

The US economy is in a tender state. Being led by an inventive private sector, the economy is reinventing itself. Old weaknesses remedied and new ones discovered. News headlines give credence, however, to Nouriel Roubini’s perfect storm in 2013 scenario: stalling growth in the US, debt troubles in Europe, a slowdown in emerging markets, particularly in China and military conflict in Iran.


While growth prospects for the rest of the economy are dimming, the housing market is showing feint signs of life. New residential construction is at its highest level in nearly four years and prices too are lifting slightly. Consumers have cut debt to a manageable 114% of income. Exports are dynamic, helped by a weaker dollar. China is now the US’ third largest export destination. High value service exporters such as engineering and financial services and our ‘App” economy which employs over 300,000 have joined our traditional exporters. Unemployment will remain inordinately high. We must settle a credible long-term debt plan that will require tax hikes. And entitlements will have to be cut. Ahead is the threat of an euro break up, a slow growth in China and in India; a withering year-end combination of tax increase and spending cuts. A perfect storm did you say, Dr. Roubini?


The poor performance opens additional room for criticism of President Obama by challenger Romney. But slow growth has typically been enough to carry incumbents to victory. President Obama can point to performance in other large economies. The UK, and the Eurozone are in recession, emerging markets are slowing. That should add to reasons for the Fed to be more activist in shielding the US economy from the ill winds blowing from abroad.

Euro zone
The Euro crisis seems trapped in an endless cycle of financial debacles and policy quick-fix remedies. Optimists argue that things are improving ever so slowly, but improving nonetheless. Pessimists claim things are so bad that no resolution is possible. The only practical solution to this dilemma revolves around making the euro rescue vehicle into a bank.

Then any financial remedy would be at least regulated. There would be no blank check for borrowers. Europe still needs growth. That would give time to the periphery euro countries to get their houses in order. Rising inflation must be managed. Meeting these periodic financial outbreaks must be met with flexible and aggressive commitments to act quickly and decisively. The creation of a credit insurance vehicle, similar to the FDIC would be helpful. The pace of legislative reaction must also be raised markedly.


Need I say more? The ticking bomb…

The neatest and most logical solution would be to turn the ESM into a bank, giving it access to ECB liquidity and thereby dramatically expanding its firepower. The ultimate resolution hinges on a simple concept. For the euro to succeed, risk in sovereign bonds and banking systems has to be mutualized across the entire euro area.

Spain is falling apart. Its regions are going bankrupt. Bond yields are an unsustainable 7.5%. Spain’s stock market is down 30% this year and things are looking worse. A mix of recession, sinking property values and public profligacy made worse by cronyism and corruption is rife. Greece remains in the headlights too. The European Commission warned that Greece has only a few weeks to put its economic reforms on track. Italy, in the name of Sicily, 5.5% of Italian GDP might default.


If Spain fails, yet another new plan for the euro zone will be needed, as Spain’s woes means three sets of existing ideas have been exhausted. First, Spain has already received the short-term treatment that was supposed to save it. A €100 billion bailout has already been set up, and approved last week by Germany. Second, another favored response—booting out the head of government, to put in place a more market friendly leader—isn’t really justified. Since taking over in December 2011 Spanish prime minister, Mariano Rajoy, has worked hard to talk up its debt position and its banks; he has also largely put in place the policies demanded by Brussels. Third, other potential boosts to the Spanish economy—things like productivity enhancing structural.

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