Has the US economy staved off a recession?

Anyone watching last week's the telecast of the Democrats convention on television must have got the impression that the world's biggest economy is also the worst performing, at this moment at least. Speaker after speaker eloquently and movingly described the plight of ordinary American citizens struggling to make ends meet, pounded as they are from all sides by the housing slump, job losses, expensive fuel and so on.

Stories and analyses in the international media over the last one year have also been no different. The Americans are losing it, most argued. Even as the oil sheikhs and Russian oligarchs buy up American assets, Americans themselves continue to rely on foreign money to finance their consumption. Dozens of books have been written in the last year alone about this shift in global power and influence away from America.

To make it even worse, the storm season promises to be quite active this year. Though Hurricane Gustav did not cause as much damage as feared, other storms Hanna, Ike and Josephine are waiting in queue. That is not exactly great news for those regions on the US east coast still recovering from the damage caused by Katrina, some years back.

But the hard numbers tell a completely different story. US GDP expanded at an annual rate of 3.3 per cent during the April - June quarter, way above the earlier estimate of 1.9 per cent. That follows the first quarter expansion of 0.9 per cent, which means for the first half of 2008, the US economy has grown at over 2 per cent. Not bad for an economy which is widely perceived to be in a recession!

It doesn't end at that. Most forecasts for the third quarter expect GDP growth to be between 1.5 per cent and 2 per cent. So, even if economic activity comes to a standstill in the last quarter, aggregate growth for the year will still be close to 2 per cent. That is not significantly lower than the US economy's long term average growth, or what economists call potential growth, of around 3 per cent. This doesn't quite look like the Second Great Depression many have been talking about, does it?

US stocks did react positively to the strong economic data. The S&P 500 index managed to eke out a very marginal gain for the second quarter, which made US the best performer among the top 10 markets for the quarter.

Exports drive the surprising growth numbers
The general perception is that the emerging markets take the lion's share of globalisation's benefits, while the rich countries end up losing. Economic growth in emerging countries appear to be at a much faster rate and the visible global trends like migration of jobs from the developed countries and rapid consumption growth in China and India all help to strengthen this belief.

To prove that globalisation is not a zero-sum game for the developed world, look no further than the recent performance of the US economy. The biggest driver of economic growth in the US these days is exports. Now American manufacturers are supposedly struggling, like most manufacturers in the developed world, because of the emergence of China as a manufacturing powerhouse. Some analysts even say China will soon overtake the US in aggregate manufacturing output. That may turn out to be true, but American manufacturers do not seem to be losing any sleep over that.

During the second quarter, American exports jumped more than 13 per cent. The buoyancy in exports is not a new story. Helped by sustained demand growth in other parts of the world and, more importantly, the weak dollar which made their goods and services more competitive in the world market, American exporters have been doing quite well in recent quarters. Even then, the acceleration in export growth in the second quarter was surprising. The rest of the world, especially Europe and Japan, has slowed down substantially while the dollar has strengthened. In such a scenario, the rise in export growth is commendable.

Meanwhile, imports into the US actually declined during the last quarter. It is not a fall in domestic demand that led to lower imports, but higher cost of imported goods. Confirming this, American manufacturers have reported increased demand from the domestic market as well.

Economic stimulus plans do work
When the US government announced tax refunds to individuals and tax breaks for businesses earlier this year, the sceptics saw it as a desperate but futile attempt to help the economy survive the after effects of the credit crisis. The $168 billion stimulus plan was dismissed as too little and too late for such a large economy.

But, the refund cheques received by taxpayers may have helped consumer demand to hold up even as pessimism about the economic outlook deepened. Consumption growth nearly doubled to 1.7 per cent during the second quarter from just 0.9 per cent in the first. That is a significant enough increase for an economy, predominantly driven by domestic demand.

Another factor which helped sustain consumption growth is wage growth. Again, despite all the fears and reports of job losses, average wages in the US have not declined. Yes, higher fuel bills might be upsetting household budgets, but the moderate increase in wages helps to offset that, at least partly.

Then why this pessimism?
When the going is apparently not all that bad, we would have expected Americans to put on sunnier lives and get on with their lives. But, that is not yet happening. Not if the mainstream media, which is still choke full of stories of economic woe, is to be believed. The polls among Americans public also show that the struggling economy is still the biggest issue.

There are two reasons - the continuing slump in housing and the still expensive fuel prices. Home ownership is a strong psychological factor for most Americans, much more than in any other large economy, and a major barometer of financial wellbeing. So, it is quite natural that Americans will fell pessimistic when home prices are weak. In cities like Las Vegas and Miami home prices have slumped nearly 30 per cent each over the last one year. Worse still, there seems to be no sign of the market bottoming out.

Fuel prices, which went close to $5 per gallon in some areas, have declined. But, average petrol prices are still close to $4 per gallon which is very expensive for most Americans. For an economy which is overly dependent on personal transport, fuel prices can make a substantial difference to sentiment. When people are forced to drive less because they cannot afford fuel, as Americans have been doing in recent months, it is hardly surprising that they are not very cheerful about their economic prospects.

Can this growth sustain?
While the bleaker forecasts for the US economy are being revised upwards, it is also unlikely that growth will continue to surprise on the upside in the coming quarters. The same factors which drove growth in the past are showing signs of weakening.

Growth in Europe and Japan may continue to slip and Europe may formally enter a recession anytime now. The commodity price correction will affect growth in Russia, Brazil and the oil exporters in the Middle East. Prospects for China and India also appear to be weaker, though both economies will continue to outrun most other large economies in growth rates.

Slower global growth will push down demand for American goods and services and remove one of the few legs the US economy is standing on now. If the dollar strengthens further, which appears likely, it will further dampen US export growth. Stronger dollar in turn may drive up imports into the US and drag down overall economic growth.

Much has been said about the resilience of American consumers, even on the face of higher fuel prices and the drop in home values. After dropping steadily for many months, consumer sentiment seems to have stabilized in recent months if the surveys are to be believed. But, any slowdown in manufacturing activity because of lower export growth will affect the labour market. In the absence of further fiscal stimulus plans, this may result in further weakening of consumer sentiment.

So, it is not that the US economy is suddenly out of the woods, the recessionary fears have all disappeared and the credit crisis is history. It is just that, when compared to other developed economies, the American economy seems to be in a better shape and better prepared to face the global slowdown. The US economy may be closer to the bottom than other large economies, though the beginning of the next growth phase may still be many quarters away.