U.S. economic outlook: Self-fulfilling forecasts?

As the saying goes, "If you ask 20 economists about the economic outlook, you'll get 21 scenarios for what lies ahead." The point is that economists famously disagree. But the slowing pace of recovery seems to have convinced a strong majority of analysts that conditions are going to be worse in the next couple of quarters, and the main arguments now center on just how bad the economy might get before it gets better. When this gloomy perspective gets repeated and amplified in the media, there are some who worry that consumer and business confidence could be so strongly affected that fears of a double dip downturn could actually become reality.

As the saying goes, "If you ask 20 economists about the economic outlook, you'll get 21 scenarios for what lies ahead." The point is that economists famously disagree. But the slowing pace of recovery seems to have convinced a strong majority of analysts that conditions are going to be worse in the next couple of quarters, and the main arguments now center on just how bad the economy might get before it gets better.

When this gloomy perspective gets repeated and amplified in the media, there are some who worry that consumer and business confidence could be so strongly affected that fears of a double dip downturn could actually become reality.

The consensus collapses

The strength of the wave of pessimism swamping economy watchers can be gauged by looking at the sharp drop in the consensus outlook reported by two credible sources, the Wall Street Journal and the national newsletter, Blue Chip Economic Indicators. Both sources calculate a consensus based on monthly forecasts from leading corporate, financial, and academic analysts.

Just three months ago (June, 2010) the Wall Street Journal consensus for growth of inflation-adjusted Gross Domestic Product this year was 3.2 percent. The Blue Chip panel was similarly optimistic, calling for 3.3 percent growth in GDP. Now, the most recent consensus figure (September) for 2010 growth from the Wall Street Journal has collapsed down to 2.5 percent, a drop of more than one-half percentage point.

The Blue Chip forecasters have reduced their consensus as well, to 2.7 percent growth in 2010. Among the more than 50 Blue Chip economists, only one forecaster predicts 2010 growth as great as 3.0 percent. All those remaining project growth between 2.0 and 2.9 percent, not nearly enough to make a dent in current high unemployment rates.

Consumers are still key

Meanwhile, consumers also have turned pessimistic. According to the regular consumer outlook report issued by the Gallup Poll on September 12, 63 percent of respondents say the economy is "getting worse." This is a larger percentage than Gallup reported last year at this time (52 percent "getting worse," September 12, 2009).

Consumer spending in the second quarter was up 1.6 percent, about one-half the average pace of 3.3 percent recorded over the past 25 years. Since consumers account for 70 percent of GDP, analysts are watching monthly reports on consumer confidence and sales closely. A double dip recession is an unusual event in U.S. economic history, usually accompanied by some sort of external shock.

The most recent example was three decades ago, and could be described as a "quadruple dip." GDP declined in Q2 and Q3 of 1980, then rose in the next two quarters. After this initial dip and rebound, GDP contracted and expanded three more times, in fluctuations that extended over six more quarters. The external force at work in the early 1980s was a restrictive monetary policy designed to break the back of inflation.

For those worried about a double dip, consumer spending is one key indicator to watch. Slow growth, even between 1 and 2 percent, is still enough to keep the economy above water. But if consumer spending declines (as happened in 2008 and into the first two quarters of 2009), quarterly GDP could dip back into the negative region again.

Looking ahead

The W. P. Carey Round Number Forecast for GDP growth in the third quarter has been reduced to 1.5 percent. Annualized GDP growth is projected to be 2.5 percent in 2010 and 2011. Looking ahead, there are no sources of strength sufficient to propel the U.S. economy forward at anything but a modest pace.

Consumers and business are troubled by a drumbeat of news about how weak the economy is. Uncertainty about taxes inhibits consumer spending and business expansion. Business additions to inventory are slowing down. U.S. exports to a growing global economy are offset by rising imports, which send dollars overseas.

Construction, usually among the first parts of the economy to recover, is in the doldrums. Somebody once said that "the best cure for recession is recession." The recession was most likely over in the summer of 2009. What is needed now is a cure for a recovery that is getting weaker, not stronger.