Not Quite Out of the Woods, Yet
Advisors Capital Management
By Charles Lieberman
October 31, 2011
Enormous progress was made last week, as Europe outlined how it would defuse its credit problems and domestic growth was resoundingly non-recessionary. Critics pointed out the flaws and they are correct that more progress is needed. Europe’s banks must now raise capital and the market must become more comfortable that financial support will be provided to sovereign borrowers while they make progress towards reducing their deficits. Domestically, more job growth is needed to provide the income gains needed to finance spending gains. Indeed, all of the weaknesses in the economy would be addressed if job growth improved. And then, there’s that upcoming deadline for the “Super committee” that must find a basis for compromise over the budget deficit. So, there will be plenty of reason for caution, although weak growth is likely to continue for a while. Markets should also perform better, as the major risks have declined.
Europe’s leaders accomplished more than the market expected last week. Greece’s 50% debt write down is significant and should help the country get closer to a budget balance sooner. Now Greece needs to sell off state assets to reduce debt further and to deregulate to promote economic recovery. They have a tough road ahead of them.
European got their arms twisted until they shouted enough, or more specifically, 50% off. Now, they must raise capital to replenish their losses. The faster they do so, the sooner they can relieve market concerns. Similarly, the enlarged EFSF should provide considerable support for sovereign borrowing, but what will really calm markets is any effort to reduce budget deficits. Despite tough domestic politics, Italy can really help if they demonstrate that they are serious about reducing their deficit sooner rather than later and, possibly, never.
Domestically, the economy entered the fourth quarter with some momentum. (Who expected that? It certainly was not the sexy story of forecasting another recession.) However, household income grew very little, so spending improved by drawing down the savings rate. That’s not sustainable. So a pickup in job growth is really necessary to finance future spending gains. Contrary to popular impressions, housing construction is beginning to recover. Housing has been a small contributor to growth in three out of the last four quarters. Its recovery should continue, adding to spending and employment. Until this kicks in, growth will remain on the soft side.
(c) Advisors Capital Management
