Hunting For Growth

12/21/2009


There’s an old joke about three economists on a hunting trip. The three come across tracks in the woods.

“Deer tracks,” says the first economist.

“No, bear tracks,” says the second economist.

The third economist gets hit by a train.

The joke contains two truths:

Ask three economists for an opinion and you’ll probably get at least three different answers.

Many economists probably felt like they got hit by a train in 2009.

Indeed, in October 2008, economists were still predicting positive GDP growth for 2009, according to Blue Chip Economic Indicators. How accurate was that prediction? Not very. It looks like actual GDP growth in 2009 will be a negative 2.5% when the final numbers are tallied.

So what are economists predicting for 2010? The consensus estimate for GDP growth is around 2.7% for the year.

How close will that prediction resemble reality?

Actually, what’s important is not so much whether economists will be right this time around. (The odds are they won’t be.) Rather, what’s important, especially from an investing standpoint, is what direction reality diverges from this prediction.

Could economic growth outpace the consensus expectation? Perhaps — and here are three reasons why:

Despite the likelihood that the Federal Reserve Board will step up its jaw-boning about inflation in 2010, the reality is that the Fed remains more concerned about the fragile economy than inflation. And that means interest rates could stay at modest levels for all of 2010. That’s a plus for economic growth if — and it’s a big if — businesses want to borrow and creditors want to lend.

So far, the government has been willing to support the economy in a big way. Reasonable people could argue whether the hundreds of billions of dollars in government stimulus and support have been misguided or off target. But it would be dangerous to assume that this big spend will not have a positive effect on the economy in the near term.

Finally, the stock market is anticipatory. To that end, the 66% advance in the S&P 500 Index from March lows might be the most significant argument that economic growth will accelerate in 2010.

And yet, there are reasons to believe that economists could, once again, be too optimistic. With unemployment still hovering around 10%, and analysts expecting the unemployment rate to rise a bit in the first quarter of 2010, one wonders how active the consumer will be. True, the market’s rally has replenished some investment and 401(k) accounts, and that improvement in the “wealth effect” could counterbalance the job insecurities and flat incomes. Still, consumer spending is not likely to be robust in 2010. According to Blue Chip Economic Indicators, economists expect personal-consumption expenditures to increase just 1.9%.

From the Forecasts’ perspective, the consumer is the key to the economy, and potentially the stock market, in 2010. Remember that while economic activity in 2009 fell well short of economists’ late-2008 expectations, the stock market still performed quite well. Despite the weak economy, corporate America was able to post better-than-expected earnings, largely through cost cuts and productivity gains. However, corporate profits are unlikely to keep topping heightened investor expectations without bona fide revenue growth in 2010. And an important player in whether that revenue growth materializes is the consumer.

Thus, while the stock market didn’t seem to care that economists were off the mark in 2009, this year could be different. Economic growth that comes in below expectations will likely reflect a consumer unwilling to loosen the purse strings. And without the consumer, revenue growth will be hard to come by, as will better-than-expected corporate profits.

 


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