Toeing ledge, U.S. economy creeps forward

(MoneyWatch) Trying to get a fix on the U.S. economy these days is a recipe for whiplash. Some signals point up, suggesting that the slowest recovery since World War II is finally gaining speed, while other data show us sliding backward.

When the U.S. Commerce Department releases third-quarter GDP figures tomorrow, they are likely to show an economy that is trudging, if not sprinting, forward. Many economists expect growth of 1.5 percent to 2 percent for July through September. That would improve on the 1.3 percent rate of expansion in the previous three months, when a fierce summer drought torched farm production, and roughly match first-quarter growth.

That isn't the kind of expansion that will quickly lower unemployment and return the economy to its full productive capacity. But it is likely to keep the economy from stalling out and position it for stronger growth in the months to come, said Ed Yardeni, president and chief investment strategist for institutional investor advisory Yardeni Research, in predicting 2 percent growth for the period.

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The strongest sector is likely to be consumer spending, he said, also noting the run-up this year in stock prices. "This has been the 'Rodney Dangerfield' of bull markets -- it's gotten no respect whatsoever, and the same could be said about the economic recovery," said Yardeni, who expects exports and capital spending to be weaker in the latest GDP report. "It's been bad-mouthed and disrespected on these constant fears that it could degenerate into a recession, but it's carrying on.... A lot could come together that makes 2013 a pretty good year."

Will the "green shoots" take root?

As has been true throughout the recovery, which officially began in mid-2009, consumers are providing the greatest lift. Retail sales rose a total of 2 percent in August and September, the biggest two-month gain since 2010. Consumer spending, which accounts for roughly 70 percent of economic activity in the U.S., rose across a range of products, including cars and electronics.

The economy could soon receive a further boost if enough shoppers spring for Apple's (AAPL) newly announced iPad Mini and Nintendo's Wii-U video game console, which is set to launch commercially in November. Increased spending is encouraging stores to build their inventories, a sign they expect stronger demand.

Buoyed by rising housing prices and the strong stock market, Americans also appear less anxious about their financial prospects. The closely watched Thomson Reuters/University of Michigan sentiment index for October showed consumer confidence rising to a five-year high.

The housing market, while still in distress, continues to rebound from a six-year slump. Sales of new homes grew 5.7 percent in September and have risen more than 27 percent in the past year, the government said this week. Housing construction also is surging, which could boost economic activity and hiring.

The labor market, too, is showing signs of life. Employers added 146,000 jobs per month from July through September, more than double the rate of job-creation in the second quarter and cutting unemployment from 8.1 percent in August to 7.8 percent. Despite the political battles over those numbers, the improvement seems to be real. The employment-to-population ratio, a key gauge of the job market, rose to a two-year high last month, while the ailing public sector has added workers for three straight months.

Same movie, different reel

Yet in other respects, the economy continues to reveal its deep scars from the 2008 financial crisis. That is no surprise. Previous economic downturns show that it takes roughly five to 10 years to recover from the kind of "balance-sheet" recession that plunged households across the country into debt after the housing crash. In a landmark study, economists Carmen Reinhart and Kenneth Rogoff have put the recent crisis in historical perspective, and explained why the recovery will take a long time.

Home sales, while up, remain below the level considered healthy at this point in a post-recession recovery. Millions of properties remain at risk of foreclosure. A flood of homes hitting the market next year could undercut prices, reducing homeowners' wealth and pushing down spending.

Manufacturing activity is also down of late. And economic indicators suggest that business investment -- a bellwether for future growth -- is likely to shrink through year-end. Some of that caution seems related to the looming "fiscal cliff," government spending cuts and tax hikes scheduled to kick in Jan. 1, barring a deal in Congress. That suggests capital spending could rebound next year if, as many expect, lawmakers eventually find a way to avoid the cliff.

Another danger sign: corporate profits. Weaker earnings this quarter from Google (GOOG), IBM (IBM) 3M (MMM) and other major companies highlight the slowing economic demand.

Questions about the state of economy reflect something else -- we've seen this movie before. For three consecutive years, growth has surged in earlier quarters only to slow. Meanwhile, these misfires come amid a decades-long financial stagnation for most Americans that long predates the housing crash. For many, it is clear, sinking wages, evaporating wealth and widening poverty are worsening the pain.

"The fact is that we have been here before and there are few reasons to believe that this improvement has longer legs than the ones that began in late 2010 and 2011," according to a recent report by analysts at Capital Economics, a U.K. research firm that predicts 1.3 percent annualized growth. "On both those occasions, the economy improved once Europe appeared to be getting its fiscal house in order and after the [Federal Reserve] provided more policy stimulus. But on both occasions, the European fix proved to be nothing more than a temporary Band-Aid and the Fed's policies did not boost the real economy by as much as hoped."

Uncoupling from Europe?

Yet the reasons for those late-year swoons differ, suggesting that the pattern is not somehow hardwired into the economy. In 2010, the culprit was factors such as the expiration of tax incentives to buy a car. In 2011, the Japanese tsunami disrupted global trade flows, especially in the auto industry, while political turmoil in the Middle East related to the "Arab spring" boosted oil and gas prices.

This year, the main threats remain the festering eurozone, along with a broader decline in global growth. European officials are still grappling with the economic imbalances and other underlying reasons for the quagmire. Most forecasters expect recession to spread across the currency bloc next year, and perhaps even to Germany, the region's largest and most important economy.

What remains to be seen is if Europe's problems, however severe, are more of a regional meltdown. In that sense, the situation could turn out to resemble the Asian financial crisis in 1997, which roiled Asian economies but had a more limited impact worldwide. The latest downturn is also playing out slowly, giving investors and policymakers time to respond.

If countries in the region find a way out of the woods, and China and other emerging nations around the world manage a soft landing for their economies, growth in the U.S. over the next few quarters could strengthen.

"The U.S. economy is like a coiled spring," Yardeni said. "Once we get past the uncertainty of who is going to be in the White House and the fiscal cliff, the surprise could be more on the upside than the downside."