Roubini: No chance of a V-shaped recovery

. With inventory restocking over, the investment outlook is equally bleak. Corporate sector capital expenditure, the only component of aggregate demand that grew robustly in H1, appears set to slow: The shipments and new orders indicators of the July durable goods report showed a decline across categories. Meanwhile, despite the return to marginally positive growth in Q2, investment in non-residential structures will remain anemic at best through H2, given the record-high vacancy rates in commercial real estate. As we expected, the housing sector is already in a double dip: Single-family starts fell by 4.2% m/m in July, the third consecutive month of decline, and both existing and new home sales touched their all-time lows. In summary, every component of aggregate demand—with the exception of net exports, which weighed on growth in Q2—appears set to offer a worse contribution to growth in Q3 than the previous quarter.

“The truth is that we have not had much of a recovery in the first place, which might prevent the economy from falling enough to display what many would label a double dip—although we are now assigning a 40% probability to such an outcome. Weak economic growth and labor market conditions imply that the U.S. output gap keeps widening and the employment to population ratio will continue to fall. The anemic recovery and downward trend of inflation and inflation expectations are raising concerns that the economy could not only surprise to the downside but eventually stall. A growth rate of 1% or lower (now likely for H2 2010) is a severe growth recession, as potential growth is closer to 3%.

“With growth nearly stalled, an unstable disequilibrium arises that is likely to tip the economy into a double-dip recession. The unemployment rate climbs, the budget deficit widens because of automatic stabilizers, home prices keep falling, bank losses are much larger and protectionist pressures come to a boil. Stock markets could sharply correct, and credit and interbank spreads could widen as risk aversion increases. A negative feedback loop between the real economy and the financial system could easily tip the economy into a formal double dip: The real economy reaches a near-stall speed and risky asset prices correct downward, leading to a negative wealth effect, a higher cost of capital and reduced business, consumer and investor confidence.

“Given political and fiscal constraints and banks’ unwillingness to lend, we remain doubtful of the potential for policy to prevent a double dip. Even a new round of monetary and quantitative easing can provide limited stimulus. The real issue facing the U.S. is the need for balance sheet deleveraging and repair, and that will be a multi-year process. The U.S. must brace itself for a long period of below-potential growth.”

Source: RGE Monitor, August 31, 2010.

 

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