US Outlook: Hard or Soft Landing

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US Outlook Hard or Soft Landing?
Kurt Karl Swiss Re RMA Apr. 2007 New York
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U.S. Economic Outlook Overview

• Global economy is doing well
• US growth has slowed substantially
• US core inflation is not trending downward, so no
  move from the Fed soon
• First half of 2007 sluggish 2 growth
• Second half, growth picks up as housing
  stabilizes, and yield on the 10-year Treasury
  note rises to 5.0
• Risk of recession is 30 to 35 due to inverted
  yield curve and weak growth

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U.S. Economic Outlook
Sources Blue Chips Economic Indicators, Moodys,
Federal Reserve Board, Swiss Re ERC
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The direction of core inflation will determine
Fed actions later this year
Percent change year ago
Recessions
Source Bureau of Labor Statistics (BLS)
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Income growth has recovered with stable oil
prices
Percent change year ago, 3-mo. moving average
Source Bureau of Economic Analysis (BEA)
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and housing is bottoming out, so growth will
accelerate
Millions of units
Forecast
Sources U.S. Census Bureau
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Real GDP growth implied by Growth Indicator
Percent
Recessions
Source Government data sources Swiss Re
Economic Research Consulting
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Yield Curve Inverted
Percentage points
Source SR Economic Research Consulting
9
Probability model 30 to 35 chance of recession
over next 12 months
Percent
Recessions
Source Swiss Re Economic Research Consulting
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Households are strained and risk is rising
Percent of Disposable Income
Percent
Recessions
Source Federal Reserve Board
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Corporations (and banks!) are in good shape
Percent
Percent
Recessions
Source Federal Reserve Board
12
Corporate bond spreads, BBB Risk is rising
Spread in
Sources Federal Reserve Board, Moodys, BEA,
BLS, Swiss Re Economic Research Consulting
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SP 500 Close to fair valuation Average gains
in 2007 2008 4 to 9
of GDP
Sources Standard Poors, Swiss Re Economic
Research Consulting See also Conning
Viewpoint, 3/2004 and Swiss Re, insights, The
US equity risk premium framing reasonable
expectations, 2004
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Risks to the outlook, last year (2006)

• Biggest risk Oil prices jump to 80 bbl causing
  a mild recession
• New risk Businesses react adversely to
  flat/inverted yield curve and cease hiring and
  investing
• Consumer retrenches, begins to save more?
• US dollar exchange rate collapse rates rise?
• Housing Bubble? not likely, but would aggravate
  a recession
• Hedge funds cause economic disruption, systemic
  risk?
• Probability of recession About 25, most likely
  late-2006 or 2007, but only IF it happens

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Risks to the outlook this year (2007)

• Biggest risk Businesses react adversely to
  flat/inverted yield curve, weak growth, and cease
  hiring and investing
• Supply shock pushes oil prices to 100 bbl (and
  stays there) causing a mild recession
• US dollar exchange rate collapse rates rise?
  Hear less about this lately.
• Housing collapse due to sub-prime blow-out? not
  likely, but is aggravating housing and economic
  weakness
• Could just continue with sluggish growth, low
  rates
• Probability of recession About 30 to 35, most
  likely late-2007 or 2008

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Summary

• Soft landing is most likely
• Risk of recession is elevated, however, 30 to 35
• Fed can cut and will if recession threatens
• Inflation down by mid-year, Fed cuts in August
• Long-term rates rise on improved second half
  activity, yield on the 10-year note ends year at
  5.0

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Questions?

• To be put on the e-mail distribution list for
  Swiss Res US Economic Outlook, contact
• kurt_karl_at_swissre.com
• Outlook and sigma insurance-related research
  available from http//www.swissre.com/sigma