The Economic “Soft Patch” at the End of QE2

Introduction

How long does it take for “green shoots” to grow into a “soft patch”? For the U.S. economy, it has taken a little more than two years.
In his famous 60 Minutes interview on March 15, 2009, Federal Reserve Chairman Ben Bernanke popularized the phrase “green shoots” to describe the growing confidence in the post-crisis U.S. economy . As the Fed’s second round of asset purchases of $600 billion (dubbed QE2) came to an end last week, “soft patch” became the new phrase du jour, describing the recent slowdown in economic activities. Even the June 22nd Federal Open Market Committee (FOMC) statement acknowledges that the recovery is progressing “more slowly than the Committee had expected.” For investors, this likely means that the Fed will be on hold longer than previously anticipated and interest rates may remain low for the foreseeable future.

Growth Hindered by Slow Jobs Creation and Housing Slowdowns

For the last two months, we have seen signs of deceleration in the economic recovery. The 1.8% estimated growth rate for the first quarter GDP, first released on April 28th, marked the start of this soft patch. Other unimpressive economic data soon followed, with double-dip home prices and disappointing jobs numbers leading the pack.
The S&P/Case-Shiller Home Price Index fell to 138.16 in March 2011, representing a drop of 33% in national home prices from the index’s peak in July 2006. This new cyclical low point edged out the index’s previous trough in April 2009 and put national home prices in a double-dip recession, erasing modest gains from the government housing tax credits. Existing home sales of 4.8 million units in May, a peak month, were lower than sales figures in April and the winter months. The online real estate listings company, Zillow, found that more than 28% of U.S. homeowners have mortgages that are now underwater. The lost wealth effect and the lingering threat of foreclosures no doubt present great challenges to consumer spending and economic growth.
Initial jobless claims surprised the market on the high side in seven of the last nine weeks, at an average rate of 429,000 per week. After scoring big with 244,000 new jobs in April, nonfarm payrolls increased by a mere 54,000 in May, which shocked the market and pointed to a long road ahead for a labor market recovery. The unemployment rate also inched up to 9.1% from 9.0% in April, a far cry from the full employment level of 5%. A recent study by the McKinsey Global Institute estimates a total of 21 million new jobs are needed to return the economy back to full employment before 2020. This equates to roughly 175,000 new jobs per month before the decade’s end. The slow recovery in job creation puts more breaks on spending, housing prices and economic growth.
Other indicators of the soft patch include the slowdown in manufacturing activities, sharp declines in commodity prices and, of course, the reversal of stock market gains. The S&P 500 Index and the Dow Jones Industrial Average each declined 6% since April, falling in seven of the last eight weeks.
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