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Instability in Europe Hampers Economy at Home

It’s hard to move forward when the headwinds are blowing strongly.  We have an election that is causing uncertainty about what shape policy will take next year.  There is a January 1st fiscal cliff where huge spending cuts and tax increases are slated to automatically take place that is also hurting confidence.  And then there is Europe, which is trying to keep things together even as Spain joined Greece in the ranks of those needing bailouts.  None of these factors are helping move things ahead. The economy continues to hang in there, but the recent data have been soft.  The modest May job gain marked the third consecutive weak employment report.  The 69,000 new positions added came on top of piddling March and April gains of 220,000 workers.  As usual, the public sector held things back but looking across the corporate world, there were few places outside health care where hiring was solid.  With hours worked and wages declining, income growth should remain weak.

Not surprisingly, the unemployment rate ticked up to 8.2%, driven by a huge jump in people looking for work.  The sharp rise in the labor force is actually a good sign as people don’t start suddenly pounding the pavement (or internet) unless they think jobs are out there.  Unfortunately, that was about the only positive in the report.

We seem to be in a “Groundhog Day” movie.  Businesses have become cautious again, a pattern we saw last spring.  At the time, high gasoline prices, a tsunami and the insanity in Washington combined to crater the economy.  By the fall, conditions had turned around.  This year, high gasoline prices, Europe and the looming end-of-year Washington insanity are playing on the minds of households and businesses.

Will we see a rebound as we did last year?  Maybe.  There were some indications that conditions are really not that bad but others that add to the worries.  On the positive side, manufacturing remains strong.  While the Institute for Supply Management’s May index of activity eased as production lagged, new orders grew more rapidly.  That usually leads to a pick-up in output which could also improve hiring.  Similarly, stronger orders helped the non-manufacturing portion of the economy grow a little faster.

The purchasing managers are at the forefront of businesses.  When they report that demand across the economy is growing, it is hard to believe that the economy is faltering.  Indeed, the ISM data raise the possibility that the hiring lull will turn out to be just that.

One big difference from last year, though, is that Europe is teetering on the edge.  The European Union is holding things together but when you have to get agreement from so many independent nations, it makes herding cats look easy.  Our exports to the Continent are down sharply and that is bad news for a manufacturing sector that has carried the economy on its back.

One good thing that could come out of the crises is that the toothless European Monetary Union will likely morph into a fiscal union. That is what happened after the Revolution when the Articles of Confederation gave way to the Constitution.  Greater stability would be created, but in the longer-term.  For now the risks of major economic and financial problems remain.

The weak labor market reports have clouded the economic outlook but a downturn is not likely. First, energy costs are dropping sharply, with gasoline prices down about 35 cents with another 25 to 30 cent decline possible.  A similar drop triggered last year’s turnaround and could do the same this year by boosting household spendable income.  With the summer upon us, people are likely to spend that added cash.

Maybe most importantly, though, economies do not simply decelerate into recession.  Downturns are caused by major shocks such as bubbles bursting or restrictive Fed policy.  Assuming there will not be a European financial meltdown, the likelihood is that we are in a spring slump not a downward spiral into recession.  I still expect the economy to accelerate during the summer, though growth is not likely to be rapid.

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Posted in Business Resources, Financial Education, Industry News.

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