The National Outlook
The contraction in economic output (real GDP) slowed considerably in
the second quarter and available data point toward resumption of
positive growth in the third quarter of this year. It's now likely that
the official end to the "Great Recession" lies somewhere within the
current quarter, although the decision about exact timing won't be
announced for some time.
The housing production component of GDP, residential fixed investment,
is part of the imminent swing from negative to positive economic
growth, thanks partly to the temporary $8,000 federal tax credit for
first-time homebuyers. The troughs in home sales and housing starts
occurred in the first quarter, and RFI should make a positive
contribution to GDP growth in the third quarter of the year.
Systematic recovery of consumer spending is essential to sustainable
economic expansion. Recent Federal Reserve data indicate key
improvements to household balance sheets in the second quarter, a
prerequisite to durable recovery of consumer spending. While further
deleveraging by households is in store, the drags on spending from
negative wealth effects and heavy debt burdens have begun to ease.
The labor market continues to deteriorate, even as economic output is
on the rise, and that pattern figures to persist over the balance of
the year. However, the rate of deterioration is slowing, payroll
employment growth should turn positive by early 2010, and the
unemployment rate should top out at about the same time. Subsequent
improvements most likely will be gradual, leaving considerable slack in
labor markets for an extended period.
The inflation picture continues to improve, and there's still a threat
of outright deflation in the U.S. economy. We expect key measures of
core inflation to move down further, even as the economy recovers, due
primarily to remaining slack in resource markets. Indeed, core PCE
inflation already is slipping below the Federal Reserve's apparent
target range and could even slip into the red zone by 2011.
The Fed held monetary policy steady at the conclusion of the September
22-23 FOMC meeting, maintaining the rock-bottom target for the federal
funds rate and reinforcing targets for purchases of housing agency debt
and MBS as well as Treasury securities. The Fed most likely will
maintain a highly stimulative monetary policy stance as long as
unemployment is high and inflation is low, a condition that's likely to
persist for nearly two years. And we're not overly concerned about Fed
asset sales out of portfolio in the near term, even though key purchase
programs will be winding down by early next year.
Financial market conditions continue to improve, following the
unprecedented global turmoil that erupted last fall. Key credit risk
spreads are back in normal ranges, or converging toward those ranges,
at least for high-quality private instruments. In this regard, the
spread between rates on prime conforming fixed-rate mortgages and
10-year Treasury securities still is narrowing, and we expect further
progress on that front during the next two years.
Housing market activity already is off the deck, at least in the
single-family market. However, the near-term outlook is bumpy and the
intermediate-term outlook is subdued--at least in the context of the
record-breaking contraction that bottomed out early this year. Our
projections for 2010-2011 elevate overall housing production
(residential fixed investment) to levels that prevailed just before the
unsustainable housing boom got underway in 2003.
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