Franklin Templeton Fixed-Income Group offers view on US prospects

Chris Molumphy, executive vice president and CIO of the Franklin Templeton Fixed-Income Group, offers a view of the US, including its deficit spending.

Post large financial markets crises, much less one that also is accompanied by a real estate bubble that has burst, it is fairly typical for an economy to grow at a below-trend rate and do that for some period of time. That’s the framework that we see playing out currently in the economic environment. The global markets, and in particular Europe, are really dominating the short-term (US) market movements, and in our view, short of an extreme scenario unfolding, the US is likely to be somewhat insulated as it is still largely a domestic economy. While there are certainly headwinds, we feel that there is a reasonably solid base, and not a backdrop that would lead to a double-dip recession.

The consumer has more work to do, but as we see it, is in a reasonably healthy condition at this point in time. We see evidence of this in discretionary purchases such as autos, which have been reasonably healthy to date in 2012. Now, the biggest driver of consumption is employment; we have moved from a high of about 10% unemployment in 2009, down to the current level of 8.2%. Although employment growth has stalled out a bit over the past several months, our view is that we would expect a gradual-and an emphasis on gradual-improvement over the coming months and quarters.

We don’t envision significant upside in housing in the coming months and quarters, but we think we finally may be seeing some stability in the overall market. So when you put all this together, our view is for continued fairly sluggish growth in the United States, something perhaps on the order of 2% plus or minus in the coming quarters.

Our current assessment is that we feel it’s extremely difficult to envision a significant fiscal contraction. The consequence of failing to act has significant ramifications on the US overall national debt. The US is on pace to run a deficit in excess of $1 trillion for the current fiscal year ending in September.

This could be the fourth year in a row for the US to run a deficit in excess of $1 trillion and as the total debt climbs, the US could be in danger of further ratings downgrades come first quarter of next year without a realistic debt reduction plan in place. And as one could imagine this has potentially significant implications on longer-term rates. However, there is a risk this problem potentially will not get addressed.


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