Around the Street: The Bailout, the Economy, and the Fed

Is the likelihood of a U.S. recession growing? Here's a roundup of what Wall Street strategists and economists had to say on Sept. 29

From Standard & Poor's Equity Research

As lawmakers prepared to vote on the government's $700 billion financial rescue package on Sept. 29, a new report showed that U.S. consumers kept a tight hold on their wallets in August—raising further concerns about economic growth in the months ahead.

Here is what Wall Street strategists and economists had to say about these pressing issues on Sept. 29, as compiled by BusinessWeek and Standard & Poor's MarketScope staff:

David Greenlaw, Morgan Stanley (MS)

Consumption spending shows a significantly weaker trend after [the Sept. 29 release of the] personal income report. Real personal consumption expenditures were a weaker-than-expected 0.0% in August, and July (-0.5% v. -0.4%) and June (-0.2% v. -0.1%) were revised lower. Personal income rose 0.5%.

Based on these figures, we cut our third-quarter consumption estimate to -2.3% from -1.3%. Also incorporating the full details of [the second-quarter] GDP revision that were released [on Sept. 29], we reduced our third-quarter GDP estimate to -0.6% from 0.0%.

Jan Hatzius, Goldman Sachs (GS)

Regardless of the outcome of the current financial and political turmoil, the real economy is poised to turn down. Unfortunately, official GDP statistics are only of limited use in tracking the depth of that downturn as they are released with a substantial lag and subject to extensive revision. We construct monthly and weekly estimates of GDP that use data that are timely and not subject to revision in an attempt to sidestep these problems. These more timely estimates of GDP suggest a renewed slowdown is already occurring. Our estimates of monthly GDP point to contraction over the last several months; weekly estimates point in the same direction and suggest a decline of similar magnitude.

Policymakers continue to debate provisions of the Troubled Asset Relief Program, but the broad outlines of a compromise are apparent. We expect a bill to pass. Many details will still need to be worked out by Treasury officials in coming weeks. The markets and the economy certainly need policy help. Stresses in money markets reached new highs last week, and financial institutions borrowed record amounts from Fed facilities in response. Meanwhile, various real-economy indicators continue to weaken. Risks continue to lie on the side of Fed easing in coming months.

Michael Englund, Action Economics

Although the markets are focused primarily on the global financial market meltdown, we see [the August] U.S. income report as a "game-changer" for the outlook, given sizable downside spending surprises alongside upside inflation surprises and an odd overshoot of income from market expectations that boosted the savings rate. The data now show that the consumer finally posted a sizable pull-back in spending relative to income in the third quarter, with a savings rate surge that will take a chunk out of near-term U.S. growth. With [the August] data, we will now assume that [the National Bureau of Economic Research] will indeed deem all of 2008 a recession.

Unfortunately for the Fed, the greater clarity for downside growth risk was associated with greater clarity on upside inflation risk as well, as the Fed clearly faces an inflation challenge as we approach 2009 that may be as great as the growth challenge. The dreaded "stagflation" scenario needs to be added the mix of problems faced by the Fed and Treasury.

Tony Crescenzi, Miller Tabak

The stock market was already priced for the likelihood of an agreement on the [bailout] plan. Also, the plan does not make possible a rapid repair of all that ills the markets. It will obviously take time for the plan to have impact, and all parties involved will be tentative in the early going. Treasury's initial purchase of distressed assets will probably be plain-vanilla mortgage-backed securities. In addition, those who are interested in dumping their assets onto the government's books will have to consider a number of factors ranging from the price of the securities to the implications of having to give the government equity ownership and any loss of executive pay.

David Wyss, Standard & Poor's (MHP)

We still expect a [bailout] package to be agreed on because failure to do so could hurt at the polls if markets and the economy do tank before the election. But it is not yet a sure thing. Voters do not like paying for a rescue plan, believing those who behaved irresponsibly should not get bailed out. The problem is that when these companies go bust, everyone goes under, even people who felt they were being responsible, and the economy and jobs go under as well.

Although we do not believe failure to pass the plan would bring on the Apocalypse, at least two horsemen might show up.