A Weak Economy, Getting Weaker Through Fourth Quarter
Economic growth slowed down in the third quarter, and an even weaker performance is likely in the final quarter of the year. Indeed, NAHB currently estimates a one-third probability that the U.S. economy will slip into recession during the next several quarters. The evolving slowdown in GDP growth is now starting to show up in the U.S. labor market. Payroll employment growth contracted slightly in August, and the trend of job growth definitely has weakened since the spring of this year.
NAHB expects positive but relatively slow growth in employment through mid-2008, with the unemployment rate gravitating upward during that period. Meanwhile, financial market turbulence in August and early September prompted a series of moves by the Federal Reserve to restore order to money markets and protect the real economy. By the September 18 policy meeting, bad news on the housing market (provided partly by NAHB), together with evidence of tightening credit conditions (outside the Treasury market), compelled the Federal Open Market Committee (FOMC) to cut to both the federal funds rate target and the discount rate by a half point—taking them to 4.75% and 5.25%, respectively. The rate cuts provoked a surge in the stock market while having little effect on long-term Treasury yields. The stock market has held on to the gains, but long-term Treasury rates have since moved up by 10-15 basis points.
Despite this, the entire Treasury yield curve is low compared to early August. Meanwhile, the Fed's cut in the funds rate is helping to relieve liquidity problems in short-term credit markets. The Fed is likely to cut short-term rates further before the end of the year, choosing to buy more insurance against a dangerous shortfall in economic growth. NAHB’s forecast assumes quarter-point cuts in the funds rate target at both the October 31 and December 11 FOMC meetings, followed by an extended period of stability. NAHB is further assuming that, properly communicated, the October 31 and December 11 rate cuts will neither seriously damage longer-run inflation expectations, nor push long-term Treasury rates higher.
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