US Economic Stimulus
The economic underperformance of the Developed countries continues. Among the
developed countries, US continues to do well. The Q3 adopted by the US government
brought some semblance to the global markets and provided stimulus not only for the US
economy but also to other economies around the world. The global investors /corporations
were able to source low cost funds from US. The low interest loans were available to US
corporates, Households and there was a good momentum created in the construction front
in the US.
The overall competitiveness of US is improving supported by availability of cheap gas. The
government has drawn up a strategy to revive the manufacturing sector and there are many
new initiatives on the way to regain the competitiveness. The exports of consumer goods
and consumer durables from US has started going up.
The announcement that US was about to withdraw the stimulus had a global impact and
funds invested in emerging markets were withdrawn by the investors and there was a
volatility in the emerging financial markets after the announcement. This has affected the
global financial markets.
While announcing Q3 , the government mentioned that the withdrawal would depend on
two factors that is unemployment level reaching 6.5% and inflation at 2%. The government
also expected that the economic growth would be at a much higher level by adopting Q3.
There is a significant movement in all these parameters towards achieving the goals but it
will take at least a year from now to reach the targets set by the Government .
There was an improvement in Trade data reported recently which is again a good
movement towards achievement of set economic targets.
The adoption of indicator based approach during the economic crisis is a good method and
it provides an objective basis for decision making to the authorities. Looking at these
indicators, July 31st
Statement of Fed did not give any indication of any tapering by
September as many of the Analysts were predicting.
Economic growth in First two quarters was lower than expectations and the first quarter
growth number was revised down to 1.8% from 2.4%. But the growth in the second of fed
fiscal year is likely to pick up momentum.
Inflation in 2012 was at 2.1% and it is likely to come down to 1.6% in 2013 and it is expected
to be in the range of 2.2% in the next few years.
Consumer spending rose by 3.4% in the first quarter, fixed investments by 4.1% and
Residential investment by 12.1%.
All the corporates in US have a cash ( global resources )of more than $ 5 trn and non
financial companies have a cash of more than $ 2 trn. They have started investing in Capex
and many companies having high cash reserves will declare high dividends. This will increase
the dividend yield for many companies.
The corporate sector performance in Q2 is likely to be better but as per analyst estimates ,
US has one of the high P/e ratios in the history. The banks had reported very good
performance in Q2.
The government is able to move toward its target of sequestration and the budget deficit is
likely to be down to 2% by 2017.
2.2 mn new jobs were created in 2012 and 6.3 mn since the employment level bottomed
out. Wages are still growing.
Household debt to disposable income fell from 126% before recession to 104% by the first
quarter. There is a favourable trend showing a movement towards 90 – 95% under normal
circumstances. Housing starts in first quarter was 968,000 annualised in Q1, 35% higher
than the previous year.
Net wealth of US household sector has increased by nearly $ 15trn over the past three
US is not facing a short term fiscal deficit problem.
Recovery today does not look secure to withdraw the monetary stimulus immediately and it
is likely to happen by July 2014 as per the above point.
In the past six months, congress made adjustments to both spending side and taxes and the
deficit is likely to come down to reasonable levels.
At the end of 2012, Bush era income tax cuts were made permanent for low and middle
income wage earners. Taxes rose for wealthier Americans. Wealthy will pay higher dividend,
capital gains and estate taxes.
On the spending side $ 2.1 trn was identified. $ 900 bn of back loaded costs have already
been settled and underway. Other $ 1.2 trn “sequester” focuses heavily on cuts to defence
and other discretionary items. Despite there are concerns that this may not happen, there is
a high likelihood that this would be implemented.
The government is taking special management steps to stretch its resources for several
more months, putting off the real debt ceiling deadline until October.
Immigration reform would enable 12 million undocumented immigrants , to fill the job
openings . This will create income opportunities for these immigrants thereby creating
additional national income and consumer demand.
This reform would help the new manufacturing strategy of US which is based on low price
for shale gas in US. Using the availability of this gas, the government has decided to revive
the manufacturing sector and many of the imported items from countries like china will be
produced in US going forward. The imports will go down and the trade deficit will be down.
S& P price gains seven months in a row up 15.4% between Nov 12 – May 13. Earnings are
likely to beat forecasts.
YTD returns from S&P was at 12.6% by the end of June. MSCI emer markets had shown a
negative return of 10.9% and 10 year treasury yield was up by 41.5%. The UBS commodity
index was down by 10.5%.
Looking at the globe, Europe continues to be under economic pressure and the solutions are
still not in immediate site and in Middle east, the political tensions are a great threat.
Among BRIC , China is doing better but its performance levels were down compared to the
peak and there is a pressure on exports. Considering all the above and the US increasing self
dependence and better management of the economy supported by improving corporate
performance and increasing household wealth, US is becoming attractive for investments.
The uncertainty prevails on when the Economic Stimulus would be withdrawn and the
feeling is that the process would start soon from the month of September. From the present
indications it would take a few more months to achieve the stability expected by the US
government. The government’s approach to adoption of indicator based approach for
action plans should be intact. There could be a clear communication from the authorities
that the stimulus withdrawal will be based on achievement of defined targets on
Unemployment and inflation.
Whatever is said and done, one day the stimulus withdrawal has to start and the withdrawal
could be made smooth by gradual withdrawal over a period of time. From the present
indications, the whole process should take at least 2 to 3 years and the withdrawal could
start with gradual reduction of purchase of bonds. To start with, reduce the purchase size by
$ 2 bn a month and a maximum increment withdrawal in a month could be $ 5bn. When
the bond purchase programme achieves the level of $ 40 bn a month, then the Fed could
look at increase in the interest rates in phases. The incremental increase in every instance
could be 10 bps. The interest rates could be gradually increased. The programme for
withdrawal could be drawn up looking at various scenarios and how it will affect the bond
portfolio of banks and how it will affect the international financial system. The plan drawn
up could be made less painful for those segments which are going to be affected due to
withdrawal. From the present indicators, it appears that the first phase of withdrawal could
be started in the month of March 2014 and the phased programme could be implemented.