The bond market’s been arguing with the stock market in recent months about where the economy’s headed. On the fixed-income side, the outlook has been one of relative pessimism for 2007. Stocks, by contrast, see a brighter future for this year. By one economist’s reckoning, the stock market has won the debate.
So said Nariman Behravesh, chief economist for Global Insight, at a Dow Jones-sponsored conference in New York this morning. Behravesh opined that U.S. economic growth is stronger than some assumed it would be. Corporate earnings growth in 2007 will be “decent” after all. Slower than in ’06, he acknowledged, but still fairly robust. “There’s a lot of strength in the U.S. economy,” he said.
One of the smoking guns that leads him to this relatively rosy forecast for 2007 is the strong upward revision in the monthly employment reports of late. Consider September’s original estimate of 51,000 new nonfarm jobs created, he asked the audience of journalists in attendance. The revised numbers eventually showed that the economy tacked on additional 203,000 new jobs that month–four times higher than the initial estimate. Upward revisions overall have been typical, he added.
There in a microcosm has been the story for the economy of late, Behravesh suggested. Growth is more resilient than some have recognized. As a result, the Fed isn’t likely to cut rates any time soon and may even raise them a notch or two later this year.
What caused so much pessimism in weeks past? A focus on housing, which has clearly been stumbling. But overemphasizing housing’s slump has been fraught with risk in terms of projecting what comes next for the economy. Behravesh said that housing represents all of 6% of the economy. That’s not insignificant, but neither does it mean that housing controls America’s economic destiny.
In any case, the spillover effect from housing’s correction hasn’t been anywhere as destructive as some thought it would be. In fact, Behravesh said that demand for housing is already showing signs of making a comeback. Yes, there’s still excess supply to work off, but the fact that demand has faded away encourages the notion that the worst is past,
as Alan Greenspan observed back in November.
All of this is already reflected in the bond and stock markets, or so one could argue. The yield on the 10-year Treasury bond, as we write, is roughly 4.80%–up 40-plus basis points from early November. In other words, bonds (whose prices move inversely to yields) have taken it on the chin lately. Stocks, by contrast, have gone from strength to strength. The S&P 500’s rally since last summer has slowed somewhat this year, but it’s clear that the buyers are still running the show. In fact, the S&P 500 this afternoon is near its highest since the all-time peak in 2000, and even that former pinnacle may soon be taken out if the recent momentum keeps up.
Optimism that the economy will keep chugging along quite nicely is, again, in the air. The year may pale compared to the recent past, but the odds of an outright recession are now looking dim. Of course, that leaves some unanswered questions, starting with, what to make of the inverted yield curve?