There has been too little "good" in the economic news so far this year. The initial, or advance, estimate of economic growth for the first quarter of 2007 suggested that the economy barely made headway: inflation-adjusted GDP grew just 1.3 percent, the weakest rate of growth for the economy in four years.
Standard & Poor's still believes that a recession will be avoided this year and that the economy will only experience "sluggish growth." But the odds of a recession remain high, particularly since the balancing act necessary to achieve a successful soft landing requires the skill of well, an acrobat. In the last 50 years, the economy has landed softly three times, but has fallen into a recession eight times.
Consumer spending shows gain
On the "good" side, consumer spending, which accounts for 70 percent of GDP, gained a somewhat more robust 3.8 percent in the first quarter. Unfortunately, the consumer's feet could get cold as the year progresses and the cumulative effects of declines in housing, lackluster employment growth and higher prices (particularly at the gas pump) take their toll.
Even early in the year, some signs suggested that a slowdown in spending is imminent. For example, retail and foodservice sales in the first four months of 2007 were up 3.9 percent from the same period a year earlier, an increase that is not adjusted for inflation. With inflation up 2.8 percent from a year earlier in March, the increase in retail sales was not inspiring.
Oil and gas prices have been a major reason behind the increase in inflation. The price of a barrel of oil had jumped to more than $74 last July (2006), but then slipped to a low of just $54/barrel in January 2007. This allowed gasoline prices to move from an average of $2.97 per gallon last July to just $2.22 in January.
Gas prices continue climb
Unfortunately, that trend has reversed as crises with Iran and across the Middle East have created further uncertainty. By April, oil prices had risen to $64/barrel and gasoline prices to $2.84/gallon. In May, prices continued to climb with gas prices exceeding $3.00/gallon nationally.
The unimpressive gains in employment during the first four months of 2007 were also worrisome for the economy. The Bureau of Labor Statistics reports that 517,000 jobs were created in the first four months of 2007 (after adjusting for seasonal differences). But at this rate, just 1.55 million jobs will be created for the year as a whole well below the 2.47 million created in 2006. Because jobs mean income, income means spending, and spending is so important to the U.S. economy, this is a key concern for the economy this year.
Another obvious reason for weaker economic growth is the sharp correction now occurring in the housing market. Housing starts fell 31 percent in the first three months of 2007 compared to the same period a year earlier; single-family starts were down 33 percent during the same period. This downturn has placed a large drag on the economy. Economists estimate that housing took a full percentage point off of GDP growth in the first quarter.
Interest rates remain steady
And the Federal Reserve is in something of a quandary about what to do. Economic growth is below its long-term potential, but inflation remains above the Fed's 1-2 percent "comfort zone." As a result, the Fed can't raise or lower interest rates without serious consequences for the economy.
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