Can the Economy Recover in 2011?

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Before you get too excited, I'm not planning on throwing my hat in the ring with my own predictions for the economy next year. I find plenty of ways to be wrong, and that is the kind of make-me-look-silly opportunity that I'm more than happy to pass on.

Of course if that's what you're looking for, plenty of other more daring (foolhardy?) individuals have provided guesses. Jan Hatzuis at Goldman Sachs (NYSE: GS  ) , for instance, pegs U.S. GDP growth at 3.4% for 2011. Mohamed El-Erian and the folks over at PIMCO see growth in a range of 3% to 3.5%. And Nouriel "Dr. Doom" Roubini has predicted a 2.7% growth rate.

In lieu of adding my own guess to the mix, I thought I'd look at three areas that will be keys for the economy in the year ahead: The consumer, employment, and banking.

The consumer
As we're all-too-well aware, consumers make up roughly 70% of the U.S. economy. While consumption spending actually tends to be a more stable economic contributor, the hefty contribution is worrisome during a recession -- like this one -- where consumers get the America's Funniest Home Videos whiffleball bat in the groin treatment.

If you ask consumers how they're doing, they're not going to give you a terribly encouraging answer. Sentiment measures like the University of Michigan's survey still show consumer sentiment well below prerecession levels. But what consumers say may be a bit of a backward-looking indicator. The post-dot-com recession was deemed over in late 2001 and yet the U of M's measure didn't bottom out until early 2003.

Source: University of Michigan.

In the meantime, consumers have been doing some pretty interesting things. For one, they've reduced their borrowing. Total consumer credit and consumer credit as a percentage of GDP are still up significantly over the past decade, but they've taken a definite dip downward over the past couple of years. That, along with ridiculously low interest rates, has brought household debt service ratios down to levels we haven't seen in more than a decade. People have also significantly upped the amount they're saving.

But from the economy's perspective, what really matters is how much consumers are spending. And on that count they've mounted a significant recovery.


Source: U.S. Bureau of Economic Analysis.

Real PCE during the third quarter was $9.3 trillion (annualized), just 0.1% lower than the 2007 peak.

Looking ahead to 2011, we'll definitely want to keep an eye on consumers, but we may want to focus on what they're doing rather than what they're saying.

It's tough to talk about consumers without mentioning employment. For obvious reasons, employment is a key driver of consumers' ability to spend. Unfortunately, the employment picture has been particularly ugly. Everybody tends to focus on the unemployment rate, which I think is one of the poorest measures we have of employment.

One measure that I find much more interesting is the employment/population ratio: the number of employed persons as a percentage of the total population. It looks pretty dismal.

Source: U.S. Department of Labor.

A more timely indicator is initial unemployment claims. We've seen movement there in the right direction, but the measure has fallen to a level that's still pretty consistent with where it was during the economic downturn early in the decade.

Source: U.S. Department of Labor.

Are you ready for the good news? Well so am I, so if you have some, pass it along. It's going to be difficult to continue the economic recovery if companies don't start hiring. Looking to next year, we need layoffs to slow, new (permanent) jobs to be created, and frustrated workers to get unfrustrated enough to re-enter the labor force.

I happen to think there are investment opportunities in the banking sector. However, I'm under no illusion that the sector has left its problems in the past. To see what I mean, you don't have to look any further than the current delinquency rates on real estate loans at U.S. banks.

Source: U.S. Federal Reserve.

The third quarter of this year was the first quarterly decline in delinquency rates since the first quarter of 2006. That may be a positive development, but it's still an ugly scene.

And while reports from foreclosure specialist RealtyTrac show a slowdown in foreclosures, recent activity has likely been put on ice thanks to the robo-signing debacle. Even so, one in every 492 houses in the U.S. received a foreclosure filing during November.

But there may be more positive notes for the banking industry. The government seems to see steadier footing at least at the top of the food chain, as it unloads its investment in Citigroup (NYSE: C  ) . There have also been rumors that banking regulators may see fit to allow banks like Wells Fargo (NYSE: WFC  ) and JPMorgan Chase (NYSE: JPM  ) to raise their dividends. And a spate of recent banking buyouts -- including Bank of Montreal taking out Marshall & Ilsley (NYSE: MI  ) , Hancock Holding buying Whitney Holding (Nasdaq: WTNY  ) , and Toronto Dominion (NYSE: TD  ) snapping up Chrysler Finance -- may be the beginning of a deal surge that could provide struggling banks with needed financial backing.

Looking to the year ahead, it doesn't seem there's any quick fix for the real estate markets that have been giving banks' such headaches. So the key for the banks will be managing their balance sheets and finding ways to keep their capital at healthy levels.

Forecasters: good luck
As 2010 closes out, many forecasters have been getting more optimistic about the year ahead. As an optimist, I would like to think that they're right. But if one thing is all too clear, it's that the U.S. economy still has quite a climb to get back to anything that resembles normal.

You want predictions about 2011? I've got predictions about 2011.

The Fool owns shares of JPMorgan Chase & and Wells Fargo. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

Fool contributor Matt Koppenheffer does not own shares of any of the companies mentioned. You can check out what Matt is keeping an eye on by visiting his CAPS portfolio, or you can follow Matt on Twitter @KoppTheFool or on his RSS feed. The Fool's disclosure policy assures you no Wookiees were harmed in the making of this article.

Read/Post Comments (4) | Recommend This Article (21)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On December 27, 2010, at 5:18 PM, Merton123 wrote:

    I believe that one of the key criteria in determing when the "unofficial recession" is over is when the banks have finally completed selling all of their foreclosed properties. I read somewhere that they still have close to a year's inventory to clear. The price of both silver and gold is skyrocketing so many people believe that high inflation is coming soon. Are we going to have stagflation (like in the Carter years) soon (i.e., high unemployement and also high inflation)? All that anyone can truthfully state is that most economies run according to cycles. When investing remember the first rule according to Benjamin Graham and Warren Buffet is "don't lose money". The second rule is go back to rule number 1.

  • Report this Comment On December 28, 2010, at 4:59 AM, exdividendday wrote:

    2011: Year of the USA?

    Here is an CNBC interview with Jim O'Neill from Goldman Sachs Asset Management.

  • Report this Comment On December 28, 2010, at 3:25 PM, crca99 wrote:

    Now I feel educated. Thx.

  • Report this Comment On December 31, 2010, at 11:43 AM, Gorm wrote:

    1) Consumers remain mired in debt, recovering still from their credit binge. Falling housing values due to distressed property glut is NOT positive news. I expect many are shaken, will continue deliveraging, increasing savings and slow their need for STUFF. Sure we've experienced some blips but the trend has to be negative with only 80% or less of consumers pulling. Also, look at a growing segment of compressed earners, ie retirees.

    2) Unemployment is distorted. REAL unemployment is roughly double the U3 reported number. Additionally, what about the cumulative growth of graduates eligible for the workforce but unemployed who haven't been counted for a couple years now?

    3) Banking is hurting. Yes, the big guys may turn in positive numbers but how much is attributable to loan margins? vs trading desk operations? No recovery is possible without a willing and able banking system. Americans are principally borrowers, not savers, and banks have shifted from loose as a goose to tight as a drum.

    4) DEBT is our ass-buster. It is blatant across all sectors. It will take on added importance and growing fears as States and Municipalities are unable to meet a balanced budget this coming year without jettisoning staff, programs and raising taxes. Just the associated negativity will scare consumers.


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