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Why the economy is worse than you think

Pras Subramanian

Since the beginning of 2014 we’ve witnessed a steady drip of good news as the economy shows signs of life (a possibly weather induced poor Q1 GDP reading notwithstanding). Job growth has been somewhat strong, leading indicators like PMI have been trending higher, and inflation has been quite tame. In fact, since the financial crisis of 2008 - 2009, the economy has been steadily improving.

But could it actually be worse than we think? Komal Sri-Kumar, President of Sri-Kumal Global Strategies and a senior fellow at the Milken Institute says don’t break out the party hats and streamers yet. In the attached video, he first puts blame on the Fed for their overly rosy, and incorrect, economic forecasts.

“The fed has been consistently wrong since 2009,” he says “You want to listen to them because you know they are expecting, you want to listen to them because that is what they are going to anchor their monetary policy to, but then you know that they are not going to be correct… The Fed is overly optimistic.” To Kumar's credit, the Fed has been pegging its GDP forecast a bit lower after most of the recent policy meetings, seemingly missing the mark. Kumar himself is actually looking for 2014 U.S. GDP growth to be just in the 1 – 1.5% area, well below forecasts made by the Fed, the IMF and the World Bank.

From a jobs point of view, Kumar notes that while 288,000 jobs were created in June, they were mostly part-time jobs. Full-time jobs actually declined. Couple that with nominal wages rising by only about 2% over the past year (which Kumar notes is less than the corresponding consumer price inflation), and consumer spending is likely to remain weak. With consumer spending accounting for a massive two-thirds of U.S. GDP, the question becomes where will the growth come from.

A possible silver lining, at least when it comes to investors, is that the Fed will likely have to be more accommodative from what Yellen’s recent testimony would have you believe. While Yellen did mention rates could move higher in the near future, Kumar believes circumstances are such, given the data mentioned above, that the Fed will not be able to tighten monetary policy.

Further Fed accommodation does come with a price, however. “There has been a shift of income from the workers to stock investors. If that’s what you call success, Janet Yellen has provided it,” Kumar concludes.

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