MAKING CENTS — The Economic Outlook for 2015
As we enter into the New Year, most of us can look back on 2014 and say it has worked out better than we had expected last January when we were being covered up by Snowmagadden.
At that time, we were worried about the sluggish economy, the narrowness of a market relying mostly on the performance of technology and biotechnology, the various pockets of political instability and conflict around the world and the ineffectiveness of our political process.
In spite of all those things, investors were optimistic and the S&P 500 made smallish gains through the summer.
That came to a temporary end in September and October when the index retreated back almost to its January starting point, but toward the end of the 2014, the year-over-year gain was about 14 percent.
Surprise!
There have been some surprises along the way. I don't know anyone in their right mind who thought the price of West Texas Intermediate oil would drop to $63 a barrel.
Even though the major economies of the world were slowing, most expected demand from the emerging markets to keep oil prices around beginning-of-the-year levels and there was the possibility of reduced production from the Middle East as a result of unsettled conditions there.
One development that has been celebrated in the United States has been the move toward energy independence in North America and reduced reliance on imports from Saudi Arabia and elsewhere.
Much of the increase in domestic production is a result of hydraulic fracking, which is a relatively expensive process and is raising some concerns over its environmental impact.
As the worldwide price of oil has dropped, some capital spending projects to increase fracking production have been put on hold and there is a risk that current output could be reduced because of declining profitability.
The $trong dollar
The strength of the dollar also was unexpected. After a weak first quarter the U.S. economy picked up momentum, growing almost 4 percent in the third quarter, faster than any other major economy except China. That helped the currency, but the improvement in the budget deficit and the safety of investments in the U.S. drew capital from all over the world.
Some worry that the strength of the dollar will hurt the U.S. economy going forward, but exports are a relatively small part of GDP and the continued low price of oil will be a big help to ourtrade balance.
Job growth was also relatively strong last year, with nonfarm payrolls rising more than in any year since 1999. Nonfarm payrolls were reported to have risen by 321,000 jobs in November, the largest monthly gain in nearly three years. However, one should take this large gain with a grain of salt. There is a fair amount of noise from month to month and the data are subject to revision. Still, the underlying trend in payrolls is encouraging.
Looking good
Looking ahead, there is reason to think that the present favorable trends will continue. Initial unemployment claims have been generally declining and the unemployment rate continues to move lower.
Consumer confidence is rising and retailers hired aggressively in anticipation of a strong Christmas selling season, fueled partly by lower gasoline prices.
The level of inflation remains low, which should help consumer spending. In 2015, the factors to watch are household formations and housing as well as capital spending.
Recent data showing higher paychecks for younger workers should help the former and improved small-business confidence should help the latter.
Growth for housing starts in 2014 was slow, but that just means there is more growth ahead. Demographics and household formation suggests starts will increase to around 1.5 million over the next few years. That means starts will probably increase another 50 percent or so from the 2014 level of 1 million starts.
Residential investment and housing starts are usually the best leading indicator for the economy, so this suggests the economy will continue to grow over the next couple of years.
International concerns
On the list of worries should be the possibility of Europe falling back into recession as a result of the slowdown in Germany, partly caused by reduced demand from Russia.
Hopefully, the European Central Bank will become more accommodating and provide the funds necessary to keep Europe on the modest growth path.
Japan also will need a new round of stimulus to keep out of recession.
China will require some credit expansion to stay on its desired growth path, but the recent interest rate cuts show the authorities are sensitive to the challenges facing them. China is still not rebalancing the economy toward the consumer sector, which is a necessary step toward continued growth.
The major uncertainties at this time seem more geopolitical than economic. The conflict between Russia and Ukraine remains unresolved even though a partial cease-fire is in place.
The Israel/Gaza situation continues to be tenuous, but there will be much more about that later in the essay.
There is no definitive agreement yet with Iran on its nuclear weapons development effort. The conflict among China, Japan and others over the South China Sea would appear to have quieted down for a while.
Any of these situations could erupt into a condition that would destabilize both the world economies and the financial markets.
Growing new consumers
All of you know that I like to close these columns on a positive note and this one is no exception and my good-news close this time revolves around future demographic trends. Changes in demographics are an important determinant of economic growth, and although most people focus on the aging of the "baby boomer" generation, the movement of younger cohorts into the prime working age is another key story in coming years. There was a huge surge in the prime working age population in the 1970s, 1980s and 1990s — and the prime age population has been mostly flat (and even declined a little) in recent years. The prime working age population peaked in 2007, and appears to have bottomed at the end of 2012. The good news is the prime working age group has started to grow again, and should be growing solidly by 2020 — and this should boost economic activity in the years ahead. These young workers are well educated and tech savvy. It is also highly likely that they will begin having babies and buying homes soon — good news for the green industry!
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