Reasons for optimism on U.S. economy

By Dean DiSpalatro | November 15, 2011 | Last updated on November 15, 2011
4 min read

Depsite lingering headwinds there are grounds for optimism about the outlook for the U.S. economy, according to Bill Cheney, chief economist at Manulife Asset Management.

Speaking at the 2011 Distinguished Advisor Conference in Palm Springs, California, Cheney noted the American economy stalled in the first half of this year, but suggested this was due to very temporary forces—the uprisings in the Middle East, which caused a spike in oil prices, and the earthquake in Japan, which disrupted the manufacturing supply chain.

But positive momentum seems to have reasserted itself, he said. “We’re now back to growing at a rate of about 2.5%. Historically speaking, that’s anemic and pathetic. It’s barely enough to prevent the unemployment rate from going back up again. But since so many of us were worried about whether we were going to have any growth at all, or whether we’d fall back in recession again, it is in fact quite a big deal.”

While hiring data has been weak, it has been consistent with the overall rate of growth.

“So the question is whether that picks up speed, and I think the natural behaviour of the economy is for it to accelerate,” Cheney said. “Once you get on an upward growth track you have the effect of consumer’s additional income being spent, plus business capital spending. And between the two that should put us into a rising growth trend.”

Headwinds include lingering problems in the financial sector and a troubled housing market. “People still feel poorer, given what’s happened to the value of their houses and the volatility of the stock market. They’re either reluctant or unable to take on new debt, so there’s a de-leveraging process—getting debt back into line with income.”

Cheney notes that globally the average period of de-leveraging following a financial crisis is 6 or 7 years. “We’ve already had three years of that, and I think there are some fairly compelling reasons to think the U.S. could come in below the average. So we could have another year or two of what some people are calling the ‘new normal.’ ”

That “new normal” will be replaced, Cheney suggests, by the “old normal”—3% growth, where about 1% comes from labour force growth and about from 2% productivity growth. “There’s no reason to think the unemployment rate can’t eventually come back down to 5% or 6%, and that gives us quite a lot of running room to grow faster,” he said.

Investment outlook

Cheney suggested that if his assessment is correct, investors should gravitate towards riskier side of the asset spectrum. “Within the bond universe high-yield bonds are going to look best; also international, and perhaps emerging market bonds.”

Equities are also a good choice, Cheney said, because most equity markets look undervalued. “Obviously you need to be very selective,” he warned. “Emerging markets are probably a good place to be, but you have to figure out how to invest in these markets without getting ripped off, which can be tricky.”

Cheney says one way to go about this is to invest indirectly in a market like China, by investing in the countries that supply the commodities that fuel that economy, such as Australia or Canada.

“This is not to say you shouldn’t put anything into Asian and Asia Pacific stock markets, but you need to be cautious because governments and regulation are not the same as they are here,” he said. “There’s a greater likelihood that external investors will get an appropriate share of the profits here than if you’re investing in the Indonesian stock market.”

Cheney expects the U.S. dollar to do fine for the next year because the U.S. economy is more likely to surprise to the upside than the downside. But looking further ahead, he suggests the greenback is tracking a downward trend.

At some point the U.S. will have to address its current account deficit. “And while there are different ways that could happen, it’s hard to see any scenario in which we fix it without the dollar being a bit weaker than it is against most of our trading partners,” he noted.

Looking north of the border, Cheney suggested Canada is in “terrific” shape.

“You have relatively sane fiscal and monetary policies with a decent fiscal balance, a decent external balance, and a strong position in commodities. The only negative is this makes you look good and attracts a lot of foreign capital, driving up the exchange rate. But that’s a problem most would like to have.”

Dean DiSpalatro