Skip to Main Content

Key Perspectives: Economic Outlook

Download (PDF) article

In the years since the Great Recession, economists have repeatedly anticipated a breakout of economic growth. As we reach the mature phase of the economic cycle, however, low capacity utilization rates and intense competition are discouraging capital expansions that often drive growth in this part of economic cycles. That has made growth sluggish, but the U.S. economy continues to expand and there is little indication of a recession developing any time soon.

People Writing

In the years since the Great Recession, economists have repeatedly anticipated a breakout of economic growth. As we reach the mature phase of the economic cycle, however, low capacity utilization rates and intense competition are discouraging capital expansions that often drive growth in this part of economic cycles. That has made growth sluggish, but the U.S. economy continues to expand and there is little indication of a recession developing any time soon.

While the probability of continuing growth is high, a key question is whether the growth rate can accelerate from here. Net of inflation, the U.S. economy has grown 2.1% over the last year, which is in line with growth since the last recession. Looking ahead, many economists anticipate economic growth will accelerate from last year's rate. That may not be as easy as they think given some of the challenges the economy faces.

More specifically, the sharp improvement in consumer and business confidence surveys convinced many forecasters that faster economic growth would follow. In the United States, the prospect of new government policies fueled that enthusiasm. So far, however, U.S. consumer spending has not increased, and some other areas of the economy have instead slowed modestly.

In addition, several longer-term headwinds continue to repress growth. Low levels of capacity utilization have kept pricing intensely competitive in many industries throughout this cycle, making businesses reluctant to invest in capacity expansions. That has biased investment spending toward acquisitions rather than construction, which adds less to economic growth.

Intense pricing competition has also helped to restrain inflation, but limits profits. As tightening labor markets put even greater pressure on margins, businesses should be even less inclined to expand operations.

Furthermore, the energy boom accounted for a significant part of U.S. growth over this recovery. Recent weakness in oil prices indicates the supply of oil is now limiting how much the energy sector adds to U.S. growth.

On the other hand, consumer spending should improve in the coming months. Last year, consumer spending grew at a rapid pace. This year, consumer spending has been weaker relative to income, allowing spending to come back into line with longer-term income growth. As the spending and income trends normalize, consumers should again contribute more to economic growth.

Overseas economies have performed better than the United States in recent months. Globally, easy monetary policies seem to be taking effect, and other countries should have more room to grow before their cycles mature. Strong Purchasing Manager Index reports and optimistic consumer and business sentiment point to solid economic growth. We believe the global economy will remain solidly healthy. At the same time, overcapacity remains a stubborn global problem as well, which means that growth may remain more subdued than many people expect.

U.S. consumer spending

Consumer confidence measures remain well above their normal range. Consumer spending has grown, but at a slow rate. Retail sales have weakened, with auto sales showing signs of being past their peak. While the supply of affordable homes seems to one reason for slower home sales, buyers are also not as anxious to buy more expensive homes as home prices rise.

Consumer spending added only 0.1% to Q1 GDP growth. Since 2014, consumer spending has contributed roughly 0.9% to overall GDP. If consumers had matched their historical contribution, 1st quarter GDP growth would have been 2.2%, which would have been in line with U.S. growth over this recovery.

Despite tightening labor markets, wage and salary growth has actually slowed over the last quarter. Businesses remain cautious, but eventually will be forced to choose between paying more for help and turning away business. It seems likely, therefore, that wages will rise and stronger income growth will enable consumers to spend more.

U.S. business activity

Strong, positive business sentiment has not translated into accelerating business activity, either. Low capacity utilization in many industries means that many businesses face intense competition. Individual businesses may have reason to expand, but broader industry dynamics often provide reason to be careful in doing so.

Durable goods and factory orders both declined toward the end of the quarter. Weakening trends in autos, residential real estate and energy limit have limited industrial growth. Business activity in those important areas is not collapsing, but the weakness limits the growth of business in other areas of the economy.

Manufacturing growth is solid, however, and has still room to grow. The economic cycle shows no signs of coming to an end, and strong consumer spending coupled with improvement in other areas provides a positive outlook.

Overseas economies

International economies should have a much better foundation for growth. Strong monetary injections finally seem to be taking effect, as other countries are now growing more in line with the United States. Stronger growth overseas also helps to limit the dollar's strength against other currencies, which helps U.S. exporters and investors.

Aside from the political uncertainty of Brexit, the Eurozone has better prospects than most other developed countries. GDP growth has risen to the highest rate in several years. Industrial production has continued to rise and many of the European Purchasing Manager Indexes (PMIs) are among the highest in the world.

The U.K., on the other hand, has struggled. Retail sales and exports have both weakened. Manufacturing has held up better, but is obviously leveraged to exports. The outlook has dimmed, with indicators such as the PMI dropping as economic growth slowed sharply.

As with the United States, Japan has a sound outlook but has not shown the acceleration Europe has enjoyed. Personal consumption declined in Japan despite rising incomes. On the positive side, retail sales and industrial production held up a little better.

Growth in many emerging markets has slowed relative to historical trends but continues to outperform most developed markets. Despite fears of slowing growth in China, reported growth rates have held up. Industrial output reportedly grew 6.5% year over year. Exports grew 8.7% over the last year, close to the upper end of the growth range since 2012.

About Bruce McCain

Bruce McCain is the Chief Investment Strategist for Key Private Bank, where he monitors the economy and the financial markets and serves as part of the team that formulates investment strategies for clients. He supplies frequent insights to media throughout the region and around the country. His comments and interviews have been featured in such publications as The New York Times, The Wall Street Journal, Investor's Business Daily, and Business Week, as well as on television outlets such as CNBC and Bloomberg TV. He is also a regular source for wire services such as the Associated Press and Reuters and is a Contributor on Forbes.com. Bruce joined a predecessor of Key in 1987, after spending six years on the business faculty of the University of Iowa's Henry B. Tippie College of Business. Bruce earned a PhD in Business Administration from the University of California at Berkeley, and undergraduate degrees in Psychology and Accounting from Boise State University.

Related Disclosure Information

Investment products are:

NOT FDIC INSURED NOT BANK GUARANTEED MAY LOSE VALUE NOT A DEPOSIT NOT INSURED BY ANY FEDERAL OR STATE GOVERNMENT AGENCY