TD Economics: U.S. Economy Pushing Forward; In Better Position to Handle Pain of Rising Energy Costs

CHERRY HILL, N.J. and PORTLAND, Maine, March 19, 2012 /PRNewswire/ -- The economy is back on track, but rising energy costs mark the latest speed bump on the road to recovery, according to a report released today by TD Economics (www.td.com/economics), an affiliate of TD Bank, America's Most Convenient Bank^®.

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"There's a new confidence in the recovery that we haven't seen in a while," says TD Chief Economist Craig Alexander, noting recent positive developments in the labor and housing markets. "There's a strong case for optimism."

TD Economics forecasts economic growth to average 2.2% in 2012 and 2.4% in 2013. The unemployment rate is expected to be at 8.1% by the end of the year, and average 7.5% in 2013. 

A new act or deja vu?

One can't help but get the sense that the U.S. economy has been here before. 2011 also began with fanfare, but then supply-chain disruptions from the Japanese earthquake and an oil price shock knocked economic growth in the first half of that year off course.

Now, with average gas prices up 45 cents a gallon since January, the worry is that the economy will suffer a repeat of last year's weak-growth performance. Consumers are unable to cut their fuel consumption overnight, so the rise in prices acts as an implicit tax on earnings, forcing them to cut back spending in other areas. 

Alexander is confident that higher prices, which he views as temporary, won't be as economically disruptive this time around.

"While it's an ongoing process, we've been here before with high gas prices, and households do adapt by cutting back gasoline consumption," says Alexander.  "Resurgent auto demand is also helping. During the recession, many consumers put off purchasing new vehicles. Now that they are returning to dealerships in droves, some are using the occasion to switch to more fuel-efficient models."

This time it's different

While Alexander acknowledges that higher energy prices will still bite into economic growth, he believes the economy is better positioned to deal with the pain. For one, momentum in the labor market is more entrenched than it was a year ago. Just over half a million jobs have been created so far this year, with more jobs created in January than at any time since 2006. The unemployment rate at 8.3% is down from 9.1% last summer.

More encouraging is evidence that demand is finally returning to the housing market. Existing home sales in January rose to their highest level since early 2010, when they were buoyed by a temporary tax credit. The number of unsold single-family homes is at its lowest level in half a decade, and tighter inventory coupled with increasing demand may mean home prices could begin to stabilize later this year.

"The recent turn in housing is one of the best signs yet that the recovery is entering a self-sustaining phase," says Alexander. 

While he cautions that a glut of foreclosed properties will continue to weigh on the market, rising sales should mitigate some of the drag.  

"As foreclosure inventories are sold off, the resulting improvement in financial conditions should lead to better credit availability. At the same time, a stronger labor market is expanding the pool of potential homebuyers," says Alexander.

Risks Remain

Despite TD Economics' upbeat economic assessment, risks to the outlook remain, especially on the policy front. 

"Policy concerns may no longer dominate headlines, but policy actions still have the potential to undermine the recovery," adds Alexander.

Fortunately, the near-term risks of a policy-induced economic shock have been substantially reduced. In Europe, leaders approved another round of aid for Greece after the country successfully negotiated what was the largest sovereign debt restructuring in modern history. Also, the ECB's three-year long-term financing operations have improved liquidity in the continent's banking system, lessening the risk of a financial crisis spilling over into North America.

"As far as expected outcomes go, this is the best we could have hoped for in Europe," says Alexander. "But the reality is that structural imbalances within the eurozone itself haven't gone away. There are still a host of issues that policymakers must resolve before they can put this crisis behind them."

In the U.S., federal fiscal policy continues to remain supportive to growth, but that will change next year. Beginning in 2013, federal spending is set fall by about $150 billion a year for the next decade. The Bush-era tax cuts also expire next year, as well as the temporary payroll tax cuts and emergency unemployment insurance benefits that Congress recently extended. The combination of reduced federal spending and the expiration of these policies could stall economic growth in 2013.

Although Alexander believes this outcome will not occur, it can't be fully ruled out until the legislation is changed. Most likely, a compromise will be reached that avoids the worst of the cuts but incorporates some revenue hikes, particularly on wealthier earners. 

"This is an election year," says Alexander. "Policy uncertainty is par for the course." 

TD Economics provides analysis of global economic performance and forecasting, and is an affiliate of TD Bank, America's Most Convenient Bank^®.

The complete findings of the TD Economics report are available online at (http://www.td.com/document/PDF/economics/qef/qefmar12_us.pdf) under "Regular Publications."

SOURCE TD Economics