We’ve all seen the media hype about
the possibility of a U.S. recession,
some of which implies dire consequences for all Americans.
To help cut through the clutter, Smart
Business sat down with Robert Dye, senior
economist at PNC, to find out more about
what a recession is and how it may impact
companies.
What is going on with the economy?
The strong majority of recent economic
data suggest that there is increasing risk of
a recession in the first half of 2008. This
includes payroll employment data and
housing market indicators. In fact, at PNC,
we now believe that there’s a 60 percent
chance that we are currently in a recession.
But because of the time-lagged nature of
economic data, we won’t know for sure if
we’re in a recession until months after it
has started.
What makes it a ‘recession’?
Traditionally, a recession is defined as two
or more consecutive quarters of declining
gross domestic product. However, there
may be special circumstances that suggest
that we are in recession even if we don’t
meet the traditional definition. Over the
past 30 years, there have been just four
recessions in the U.S. economy, with three
of them lasting eight months or less.
Conversely, the economic expansions
between recessions have tended to last
longer.
What companies are most at risk from a
recession?
During periods of recession, demand for
goods and services for many industries
declines, investment and hiring stall, and
the unemployment rate rises. Both primary
producers and service companies, like
transportation providers, may experience
weaker demand. And as a recession gathers momentum, consumer and business
confidence typically fades, adding further
fuel to the recession fire. Industries that
have strong cyclical components are most
vulnerable, but many industries, such as education and health care, often continue
to experience solid demand.
In today’s environment, we see the greatest weakness in real-estate-related markets, including residential construction,
some manufacturing industries, including
automakers, and industries that support
residential construction and, of course,
parts of the financial services industry, particularly those financial service providers
that have invested heavily in the subprime
mortgage markets.
So what can be done to help promote economic growth?
As you may be aware, there are two
levers being pulled to help support economic growth this year. The first lever is
represented by the sizable cuts in short-term interest rates by the Federal Reserve.
The Federal Reserve has dramatically lowered its Fed Funds rate, which in turn
allows banks to lower their prime lending
rates to their best customers. In addition to
cutting interest rates, the Federal Reserve
has been very innovative in developing
new programs to shore up financial markets when they have shown signs of stress.
Among other things, the Federal Reserve has extended its lending facilities to major
investment houses and has widened the
types of financial instruments that banks
and investment houses can use for collateral for short-term loans.
The second lever soon to be working on
the economy is the fiscal stimulus plan that
was enacted by Congress earlier this year.
Under the plan, individuals with annual
earnings up to $75,000 will receive as much
as $600. Married couples earning less than
$150,000 combined will receive up to
$1,200. Businesses are able to use an accelerated depreciation schedule, and small
businesses have greater flexibility in writing off their expenses. Also, conforming
loan limits for Fannie Mae and Freddie
Mac were raised for many areas, which
makes loans for higher-priced homes more
affordable, thus stimulating home sales.
What happens next?
While the interest rate cuts and the fiscal
stimulus package are not expected to have
an immediate effect on the economy, they
are expected to lead to stronger economic
growth before the end of this year.
Together, we think these measures will
motivate both consumer spending and
business investment in the second half of
this year. And we continue to believe in the
long-term potential of the U.S. economy,
which will emerge from this period of
unsettled economic indicators stronger,
just as it has done so many times before.
The material presented is of a general
nature and does not constitute the provision of investment or economic advice to
any person, or a recommendation to buy
or sell any security or adopt any investment strategy. Opinions and forecasts
expressed herein are subject to change
without notice. Relevant information was
obtained from sources deemed reliable.
Such information is not guaranteed as to
its accuracy. You should seek the advice of
an investment professional to tailor a
financial plan to your particular needs. ©
2008 The PNC Financial Services Group,
Inc. All rights reserved.
ROBERT DYE is senior economist at PNC. Reach him at (412) 762-2116 or [email protected].