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Sunday, April 10, 2011

Economic Outlook and Downside Risks

by Calculated Risk on 4/10/2011 02:45:00 PM

Summary for Week ending April 8th
Schedule for Week of April 10th

Just an update: My general outlook for 2011 remains the same ...
• GDP growth slightly above trend and strong than the 2.9% growth rate in 2010 (although Q1 2011 will be sluggish).
• Payroll employment growth to be better in 2011 than in 2010 (940 nonfarm payroll jobs added in 2010, 1.17 million private payroll jobs). My forecast is private payrolls will increase 2.4 million in 2011, although total payroll growth will be less because of state and local government layoffs. With 7.25 million fewer payrolls jobs than before the recession, this is still disappointing payroll growth.

I also watch the downside risks carefully. Here is a brief update to a list from last month with my view if the risk to the economy is increasing or decreasing:

1) Higher oil prices and a possible supply shock. Risk increasing.

U.S. oil prices have risen to $112.79 per barrel. At the moment this appears to the be the top risk to the U.S. economy. With gasoline prices over $4 per gallon in some areas, this has to be starting to hurt.

2) Possible Federal government cutbacks (even shutdown). Risk increasing.

Although there was a budget deal reached on Friday, the fiscal cutting rhetoric has increased. There is even the possibility (remote) of the first default in history because of political ideology. The "debt ceiling" debate is just political grandstanding, but you never know what will happen. Even assuming the debt ceiling is raised, it appears there will be more cutting than originally expected - and that will be a drag on U.S. growth this year.

3) U.S. Housing Crisis. Same.

House prices are at new post-bubble lows and still falling. And there will be many foreclosures and more distressed supply coming on the market. But it does appear the excess supply is being absorbed (based on falling vacancy rates), but there is still a long way to go.

4) The European financial crisis. Same.

Portugal finally requested a bailout. That was expected. From Dow Jones: IMF Will Join In Assessment Of Portugal Tuesday

"Following a request by the Portuguese authorities, IMF experts will join European Commission and European Central Bank teams for a technical assessment of the current situation of the Portuguese economy," the statement said.

The assessment will serve as the basis for policy discussions scheduled to begin April 18, the IMF said.

European authorities are planning a bailout for Portugal. They are trying to close a deal by mid-May ...
If another European country, in addition to Greece, Ireland and Portugal, requests a bailout - or any of those countries default - the situation could get worse. Also the second round of bank stress tests might reveal additional problems.

5) State and local government cutbacks. Same.

6) Inflation (a two sided coin). Same.

Although I think core inflation will remain below the Fed's target in 2011, it is possible that inflation could pick up more - or that policymakers will overreact.

7) Risks from the earthquake in Japan. Risk Diminished.

This was a horrible tragedy for the people of Japan, however it appears the risks from the nuclear and supply disruption issues have diminished.

Overall the downside risks have increased over the last few weeks - especially from oil prices and government policy.