U.S. on the Edge of Recession

Robert Hsu, February 20, 2008

Several sets of economic data were released last week and most were on the weak side. Let's talk about each set. The first one was the Reuters/University of Michigan index of consumer sentiment, which fell to 69.6 in February from 78.4 the previous month. The most recent index number is the weakest consumer sentiment indicator since February 1992. February's number was quite a bit lower than what experts were expecting–economists had forecast the measure would fall to 76.

The decline in consumer confidence indicates that promises of tax rebates and lower interest rates have failed to ease Americans' concerns about falling home and stock prices and rising unemployment. Last week, President George W. Bush signed a $168 billion stimulus package, including tax rebates for more than 130 million households. Clearly this stimulus package isn't having its intended effect.

The second important economic number is the industrial output figure. The Federal Reserve said total industrial output increased 0.1% for a second straight month, matching economists' forecasts for sluggish industrial operations. Production was held up by unusually cold weather that spurred utility use. Fortunately, exporters helped keep manufacturing from a deeper slump.

Thirdly, the Federal Reserve Bank of New York's general economic index fell to –11.7 from 9.0 in January. This is the first negative reading since May 2005. Readings below zero for the so-called "Empire State Index" suggest contraction in general economic activities.

Meanwhile, the housing slump continues. Builders broke ground on only 1 million homes at an annual rate in December, the smallest number since 1991. The National Association of Realtors said January sales of existing homes fell more than forecast in December, while prices of single-family homes posted the biggest annual drop probably since the Great Depression.

These reports further reinforce my belief that the U.S. economy is slowing sharply and is near the brink of a recession. I think, however, that much of this economic slowdown has already been factored into current stock market prices. That's why weak economic data is no longer driving stock prices down. Some might even argue that weak economic data is good for the stock market because weak data will force the Fed to cut interest rates by at least a half-point at the upcoming March 18 FOMC meeting.

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After the sharp sell-off we've seen over the past five weeks, Asian stocks advanced for the first week this year. The MSCI Asia Pacific Index gained 2.8% last week. Despite the recent gain, the index is still down 8.3% this year amid concerns that mounting losses tied to U.S. subprime mortgages will hurt the global economy. I believe that Asian stock markets will continue to outperform the U.S. market because of their stronger economic growth. (Japan is the exception to this rule. As we talked about last week, I'm bearish on Japan's struggling economy.)

On the positive side, China is importing more raw materials after experiencing its worst snowstorms in 50 years, which is driving up prices of coal and iron ore. Asia's insatiable demand for natural resources–and China's in particular–has fueled a worldwide boom in commodities. You've probably seen the wealth that this demand has created. Copper, nickel, iron ore, wheat, coal and oil have all tripled and quadrupled in price over the past five years.

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