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July 2014 Economic Overview

US Economy

There’s no doubt that we are in confusing times economically. Home sales are up for the month, but down for the year. Inventory is coming back, but not at the low end of the market. Negative equity is falling, but is still extraordinarily high in many areas. The market is moving from defined by distortions including high negative equity and constricted inventory to one defined by fundamentals like household formation rates, employment numbers and income growth. Unfortunately, some of these fundamentals are still fairly weak. This is a multi-year process that we are far from done with. This ride is not for the faint of heart, but we are slowly getting back to normal.

GDP actually fell in the first quarter at a rate of 2.9 percent. That’s the worst decline since the first quarter of 2009, when output fell 5.9 percent. Housing rates remain a conundrum, rising mortgage rates have spooked buyers, sales have trailed off and the ranks of renters have swelled. Twentysomethings must leave their parents’ basements.

The tone of general business activity has been good and is getting better. The current quarter may grow by 3% and maintain a 2.5 to 3% pace for the rest of the year. Easy credit, surging auto sales spearhead the advance. Increases in consumer spending have lowered personal saving to low, unsustainable levels but these consumer bubbles may continue, longer than seems reasonable. Homebuilding and business investment in capital goods are likely to continue rising, though less rapidly than hoped. Inflation may accelerate a bit, but not alarmingly.

deja-vu

Eurozone

Annual euro zone inflation stayed at 0.5 percent in June compared with last month, the European Union’s statistics office Eurostat said on Monday. Core annual inflation – excluding energy, food, alcohol and tobacco – inched up to 0.8 percent. This was slightly unexpected after annual inflation in Germany rebounded to 1.0 percent in June, which suggested a widening of the range of inflation rates between the core and the periphery.

Overall, euro zone inflation remains far below the ECB’s medium-term target of just below 2 percent and has been stuck in what ECB President Mario Draghi has called the “danger zone” of below 1 percent for nine months in a row.

The ECB is worried that the euro zone’s growth prospects will suffer if inflation stays too low for too long. This year marks the third straight year that developing economies would expand by less than 5 percent, a factor that has contributed to rising debt-to-GDP ratios that could make those economies more vulnerable. Although the situation in developing countries is pretty good … it isn’t the kind of growth they’re going to need if they’re going to make the very solid inroads into poverty that we’re hoping.

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