Is the Economy Already Beginning to Stumble Again?

As it has in each of the last three years, the economic recovery in the U.S. stumbled this summer, prompting the Federal Reserve to provide another round of stimulus, QE3, in September.

For the last several months it seemed like it wasn’t needed, as subsequent economic reports for August and September indicated the economy was recovering nicely on its own.

The revival of the housing industry was most noticeable with home sales, home prices, and home-builder confidence rising, while the inventory of unsold homes and backlog of bank foreclosures shrank.

The jobs picture brightened considerably with monthly new job creations almost doubling. Consumer confidence rose sharply in recent months, as did retail sales and small business confidence. The main drag seemed to be continuing pessimism on the part of large corporations, seeing their sales and earnings affected by the global economic slowdown.

As for consumers, the gloom of the summer months in the U.S. was replaced by optimism, the main lingering concern being uncertainty over the looming fiscal cliff.

But was the economic pick-up only temporary, the optimism premature?

This week’s economic reports are not encouraging.

Those reports include that the Chicago Fed’s National Activity Index (CFNAI) unexpectedly fell sharply in October, its 3-month moving average plunging very close to the level the Fed says it considers “an increasing likelihood that a recession has begun”. Durable Goods Orders were reported to have been flat in October after an encouraging increase in September. New home sales fell 0.3% in October, and more discouraging, the previously reported sales for September were revised down by a big 5.1%. The Fed’s monthly ‘beige book’ report was that all 12 national Federal Reserve districts unexpectedly reported slowing manufacturing activity this month.

And on Friday the Commerce Department reported that Consumer Spending fell 0.2% in October, after rising 0.8% in September. It was the first decline in five months. Not a good omen considering that consumer spending accounts for roughly 70% of the U.S. economy.

Hopefully analysts are right in saying the reports for October were significantly impacted by the effect of hurricane Sandy, which stormed ashore in the Northeast in the final days of October. But the Commerce Department says it can’t determine that, and October was pretty much over when Sandy came ashore on October 29. Its main impact will probably show up in November numbers.

The week’s reports are a reminder of how important it is for political leaders to reach an agreement that will either avoid the fiscal cliff, or at least kick it further down the road, given that not resolving it practically guarantees the economy would fall into another recession next year.

However, contrary to apparent popular belief, solving the fiscal cliff will not mean clear sailing for the economy. All avoiding the cliff would do is maintain the status quo by preventing additional serious drags from being dropped on the economy.

But will that be enough to allow the economic recovery to remain on track?

This week’s discouraging economic reports for October raise doubts about that, especially since any agreement is sure to include some of what both sides insist on, some increase in taxes, and some cuts in government spending, resulting in some additional drag on the economy.

I still expect an agreement on resolving the fiscal cliff will be achieved. And that the relief will bring a return of optimism to consumers and investors that will encourage a resumption of consumer spending for several months, and produce a typical ‘favorable season’ rally in the stock market through the winter.

But if this week’s economic reports are any indication of the fragility of the economy, new economic worries will arise in the first few months of the new year.

Investors will need to remain alert, enjoy any rally, but not get caught up in a buy and hold strategy just yet.

About the Author

Sy Harding

Street Smart Report