A slowdown in U.S. economy, yes, but a mild one

In the backdrop of grim economic reports, a silver lining stands out: Most forecasters say that a slowdown this year will be relatively mild.

In essence, they argue that rescue efforts, such as a stimulus package recently signed by President Bush, will help to offset – and contain – the fallout from housing and credit challenges. Americans in general will hang onto their jobs and keep spending their paychecks.

In a survey released this week, the consensus forecast among professional economists is for 1.8 percent growth in the US economy this year. Even the most pessimistic forecasters see a flat economy – with a period of recession but not an outright contraction for the whole calendar year.

To some extent, all this is cold comfort. When growth falls below normal, such a cooling has broad negative impacts even if it's not an official recession. The latest evidence came Tuesday, as Americans registered their lowest level of consumer confidence in five years in the monthly Conference Board survey.

Still, the scenario of a mild recession would mean that businesses and consumers are navigating their way, however slowly, through 2008's maze of mortgage defaults, $100-a-barrel oil, and lenders who no longer want to lend.

"The odds of a mild recession [rather than a deep one] are high," says Brian Bethune, an economist at Global Insight, a forecasting firm in Lexington, Mass. "The fiscal stimulus package … is clearly going to help."

The mild slump scenario, while not shared by all economists, hinges on a range of factors in addition to the fiscal stimulus, with its centerpiece of tax-rebate checks for consumers:

•The economy doesn't revolve only around housing and complex debt products sold on Wall Street. Those distressed areas have been focal points of media coverage. The bigger picture is how many people have jobs. In the survey of economists, released by the National Association for Business Economics, the consensus forecast is for only a modest rise in unemployment, to 5.2 percent for the year.

•Some headwinds may begin to ease. Although many analysts say the housing market will remain slow for several years to come, the vast majority of homeowners are still "above water," with mortgages they can afford and homes worth more than their loan balance. Much of the weakening in construction activity, following the boom years, has already happened.

•The country's central bank is on the case, alongside Congress and the White House. The Federal Reserve has been cutting interest rates and many analysts expect the Fed to continue easing monetary policy. The easing, over time, promises to help calm roiled credit markets, revive a stagnant housing market, and stimulate spending.

"The policy response here has been very significant," Mr. Bethune says, "both from a fiscal and monetary point of view."

His firm reckons that the US has recently entered what will be a short and mild recession. The firm sees growth of 1.4 percent for the calendar year, whereas the economy normally posts growth of 3 percent or so.

For all the focus now on recession, the US economy has become known for another "R word" in recent years: resilience. Between a flexible job market and robust markets for capital and credit, the economy has been able to weather many storms. It takes a lot – often a mix of bad monetary policy and shocks such as high oil prices or a housing bust – to knock growth completely off track.

But challenging times have arrived.

On Tuesday alone, news reports highlighted falling home prices, rising foreclosures, and rising prices for wholesale goods. And in the consumer confidence survey, America's outlook for the future hit a 17-year low.

Some economists say much now depends on credit conditions.

After a heady expansion of lending, which fueled the housing boom, lenders have been tightening standards for new loans. In some cases, trading by investors in entire classes of complex debt securities has frozen up. On Monday, fears of a meltdown among bond insurers – companies that provide insurance to investors against bond default – were eased as the firms were able to retain a high credit rating.

But the big question is how bad credit conditions will get on Main Street.

It is already harder to get mortgage loans. Credit card companies are tightening up, and some are raising rates.

"Everywhere, the lenders are a bit skeptical," says Rajeev Dhawan, an economist at Georgia State University in Atlanta. "They are really restraining credit [for consumers]…. If it spills over into business loans more than we expect, then you can expect a deep recession."

In a recent survey of small businesses, the National Federation of Independent Business found that access to credit was the top concern for only 4 percent of employers.

Mr. Dhawan expects no recession, which is often defined as a period of contraction in economic activity and employment. But he sees a protracted period of below-normal growth. By contrast, many economists expect that the stimulus packages and Fed easing will spur a recovery in the second half of 2008.

"I don't see the light at the end of the tunnel until late 2009," Dhawan says, citing a credit squeeze as the key problem. He expects unemployment to peak at about 5.8 percent.

The consensus of forecasters has proved wrong before. Some economists say deep recession is now likely as both banks and consumers struggle to "deleverage" after a period of easy credit.

Even the more optimistic economists see downside risks. "It's to some extent uncharted territory," Bethune says of the credit situation. But Fed policymakers are "aware of these risks, and they're taking out this insurance [by lowering interest rates]."