Double Dip? A Potential Slide Back

Register now

WASHINGTON-The downgrade of U.S. debt, which has sparked financial market volatility, is only going to drag out the economic recovery and increase the possibility of a double-dip recession.

That is the opinion of a number of economists who spoke with Credit Union Journal, and who place a great deal of the blame on Washington.

Bill Hampel, CUNA chief economist, explained that the actions of the financial markets last week was not indicative of a perceived risk that the U.S. government will not honor its obligations. Rather, he said, the markets are concerned that some of the things the government may need to do to start honoring its obligations may hurt the economy. "The federal government will have to cut the budget deficit, and cutting the budget deficit in a recession makes the recession longer-it stops the recovery."

Hampel pointed out that the S&P downgrade of the U.S. credit rating didn't say the U.S. economy does not generate enough income to cover the obligations of the U.S. government.

"The report was all about the U.S. political system being dysfunctional and that, despite the ability of the economy to cover the government's obligations, it is not able to do what it needs to do to cover those obligations. The interest rate on 10-year Treasuries fell by 20 basis points [last week]. That means that a whole bunch of people all over the world were rushing to put money into Treasury securities after the downgrade. That does not suggest investors think there is any increased risk of the federal government not being able to cover its obligations."

Hampel noted that in the last two weeks the odds of a double-dip recession increased. "For two reasons: One, we have learned more information about the actual economy itself that shows it was not on the strong path we thought. Unemployment numbers were a little better than expected, but not much. The GDP numbers that came out were bad, showing the economy was weaker in the first half than we thought."

Hampel still sees the economy regaining some momentum in the second half of the year. "It won't be a boom, but we will go back to the mediocre growth that we had in second half of last year."

'Kabuki Theater'

Dave Colby, CUNA Mutual Group chief economist, sees a 40% chance the economy will slip into another recession, and sees Washington as the problem.

"There are so many negative triggers out there that we need to see some real action in D.C.-not this Kabuki theater, kick-the-can-down-the-road antics." Uncertainty is now paralyzing consumers and business. "No one knows what will happen so the most logical course of action is to wait and see. It's not the best course, but from most analysis you have your higher probability of succeeding. But this is not good for an economy."

With rates expected to remain low for an extended period, that does not bode well for CU auto lending, observed Colby, who noted that the low rates make it easy for the captive financing companies to offer 0% or dealers to buy down to that level. "Don't look for any growth in auto lending soon."

NAFCU Chief Economist Tun Wai offered some encouragement, stating that the latest economic problems do not mirror issues that arose in 2008. "One thing different between 2008 and today is that in 2008 everything went down. Every asset you had on the books went down-your house, stocks, bonds. In this latest instance some things went down but some are improving, like bonds for example."

Wai believes time needs to pass for this country to "absorb the downgrade and figure out what it all means. And there is a rippling effect-you are talking about other things, like GSEs being downgraded, as well. That has implications on the ability of GSEs to go to the marketplace and how much it will cost them in terms of funding. Remember credit unions sell a lot of loans to the GSEs."

In addition to weak leadership in Washington, the heart of the economic troubles, asserted Mike Moebs, economist and CEO of Moebs Services, is that some of the basic principles of modern financial theory have just changed.

"Very loose language in agreements and contracts of all types worldwide has always assumed the riskless rate was U.S. Treasuries. No one ever thought that U.S. Treasuries would not be riskless. Then, the downgrade happened and all of sudden Treasuries changed from a riskless rate to something less, and that is the problem."

For reprint and licensing requests for this article, click here.