Since the great recession hit the whole world a few years ago, all eyes have been turned on the U.S. economy, waiting for it to return to its previous might. As data releases come and go, there has been some good news, some bad, but still no clear signal that everything is all well and that the world's largest economy's woes are all in the past. But while every problem hasn't been solved, it does seem clearer to us that the U.S. economy is now sitting on its strongest footing in a very long time, and that it is ready to make strides.
First, households and businesses have already gone to great lengths to clean their balance sheets. Households have brought their financial obligation ratio (Chart 1) down to a level not seen in 30 years, as they cut their spending and refinanced their mortgages while interest rates were at an all-time low. We already see strong momentum in the markets for big-ticket items (Chart 2), such as houses (where the excess supply from the mid-2000s has finally been absorbed) and automobiles (where the average age of the existing vehicle fleet is about 11 years, a record). Housing prices are making a comeback, growing at a strong 12-per-cent annual rate right now, and the home builders traffic index is sitting at an eight-year high. This, coupled with strong returns on the stock market and a pickup in hiring (at about 200,000 new jobs per month since the beginning of the year), is making consumers willing to open their wallets and start spending again. This is already reflected in retail sales, which have been accelerating since the beginning of the year. We also see monthly improvements in consumer confidence and expectations, meaning that this trend still has some legs.
Second, we have reason to believe that businesses are headed toward a significant pick-up in investment spending and hiring. After cleaning their balance sheets (Chart 3) by also taking advantage of low interest rates to secure some low-cost financing, the data now clearly show that labour productivity growth (measured by output per hour worked) has reached a plateau and that profit margins (Chart 4) have stagnated. It seems that every last ounce of productivity has been squeezed out of the current workforce; capital spending will now have to accelerate for corporate America to increase earnings. Private non-residential investment as a share of gross domestic product (GDP) is still below its historical mean, so there is ample room for businesses to use their accumulated cash reserves to start investing and hiring again.
Third, the energy revolution (on which we have written at length, see here), led by the rise in shale oil and gas production, should allow the United States to finally reach energy independence by 2025. (Note that oil imports almost made up the whole $500-billion (U.S.) trade deficit last year.) In the past, strong U.S. GDP growth was met with a rise in the external deficit, as imports (including oil) jumped to meet domestic demand. For the first time in the past 30 years, we are witnessing a recovery where the current account deficit is shrinking, not expanding (Chart 5). According to some experts, the secular shift in domestic energy production will contribute a minimum of 0.5 percentage points to annual GDP growth in the next five years alone.
Fourth, the shrinking size of government that should result from the various austerity measures put in place in the past few years is a welcome change. A quick comparison of public spending for the past few recessions shows that the austerity measures of President Obama's administration have been a significant drag on GDP growth (Charts 6 and 7), while the preceding administrations all continued to increase their spending even after the recession was over. Right now, the size of the government is about 18.7 per cent of GDP, less than the high of 21.5 per cent that was reached in 2009. The private sector, which is already in good shape (with an average growth of 3 per cent in the past few years), is ready to take the lead as the effects of the sequester become insignificant in the course of the next year. Thus, contrary to the past, we do not expect a withdrawal of public money to limit the upside for growth. Yes, the treatment was painful (short-term pain), but the patient is now ready to start running again (long-term gain).
All things considered, it is hard to remember a time when the U.S. economy was standing on such strong economic footing at the beginning of a new economic cycle.
Clément Gignac is senior vice-president and chief economist at Industrial Alliance Inc., vice-chairman of the World Economic Forum Council on Competitiveness and a former cabinet minister in the Quebec government.