2008 has begun on a grim note for the US economy with Merrill Lynch and Goldman Sachs both issuing recession calls this week.

"According to our analysis, this [recession] isn't even a forecast any more but is a present day reality," says Merrill Lynch economist David Rosenberg on what his many peers amongst the forecasting and economist community have been predicting for long - after 16 years, the United States has finally stepped into recession.

He was commenting on the four key barometers used by the National Bureau of Economic Research (NEBR) - employment, real personal income, industrial production, and real sales activity in retail and manufacturing.

He says these "seem to have peaked around the November-December period, strongly suggesting that we are actually into the first month of a recession."

"This isn't about 'labels,'" Rosenberg says. "What is important about recessions is that while each may have its own set of particular characteristics, there are also unmistakable investment patterns that emerge time and time again."

"Friday's employment report strongly suggests that an official recession has arrived. The recession dating committee at the National Bureau of Economic Research will be the final arbiters but since it waits for conclusive evidence it may be at least two years before we are notified."

Rosenberg's assertion comes on the heels of a Morgan Stanley report in November last year, which warned that recession was already well on its way.

Even as Rosenberg issued his warning on Monday, 7 January, Goldman Sachs economists followed through with a somewhat hedged response today. In a research note to clients, Ed McKeley, senior US economist at Goldman Sachs in New York said, "The latest data suggest that recession has now arrived, or will very shortly."

The perfect storm
Last year, mid-November, Morgan Stanley issued a full recession alert for the US economy, warning of a sharp slowdown in business investment and a "perfect storm" for consumers as the housing slump spreads.

In a report 'Recession Coming,' the bank's chief US economist, Dick Berner, said the credit crunch had begun to seriously damage US companies. "Slipping sales and tightening credit are pushing companies into liquidation mode, especially in motor vehicles," it said.

"Three-month dollar Libor spreads have jumped by 60 to 80 basis points over the last month. High yield spreads have widened even more significantly. The absolute cost of borrowing is higher than in June."

"As delinquencies and defaults soar, lenders are tightening credit for commercial, credit card and auto lending, as well as for all mortgage borrowers," said the report.

Berner also said that the foreclosure rate on residential mortgages had reached a 19-year high of 5.59 per cent in the third quarter even as the stagnating pool of unsold properties threatened to trigger off a 40 per cemt crash in housing construction.

"We think overall housing starts will run below one million units in each of the next two years -- a level not seen in the history of the modern data since 1959," he said.

The November report pointed out that though the US job market seemed to be holding up, an average monthly fall of 138,000 in the number of self-employed workers over the previous quarter appeared to suggest that figures were likely to shoot up before long.

"Consumers face what could be a perfect storm," said Berner.

According to Berner, US demand was likely to contract by 1 per cent each quarter for the first nine months of 2008.

The maestro
Berner's assertion rattled Wall Street for he is known at Morgan Stanley as the "resident bull." But even bulls turn tail given the unmistakable signs of a bubble ready to burst.

Earlier on in February 2007, former US Federal Reserve chairman, Alan Greenspan, warned that the American economy might slip into recession by the end of the year. He said the US economy was expanding since 2001 and that there were signs that the current economic cycle was coming to an end.

"When you get this far away from a recession, invariably forces build up for the next recession, and indeed we are beginning to see that sign," Greenspan said. "For example in the US, profit margins ... have begun to stabilise, which is an early sign we are in the later stages of a cycle." Greenspan said he could not rule out the possibility of a recession late into 2007.

Importantly, at that point of time, Greenspan also said he had seen no economic spillover effects from the slowdown in the US housing market. "We are now well into the contraction period and so far we have not had any major, significant sdpillover effects on the American economy from the contraction in housing."

His comments were probably the trigger for a sharp response from Morgan Stanley's chief economist, Stephen Roach, less than a month later. For Roach, the situation at that point of time was primed for a sdpillover.

Bubble to bubble
"From bubble to bubble - it's a painfully familiar saga," wrote Stephen Roach in a despatch from Beijing (The Great Unravelling, March 16, 2007). "First equities, now housing.  First denial, then grudging acceptance.  It's the pattern and its repetitive character that is so striking.  For the second time in seven years, asset-dependent America has gone to excess.  And once again, twin bubbles in a particular asset class and the real economy are in the process of bursting - most likely with greater-than-expected consequences for the US economy, a US-centric global economy, and world financial markets."

"Sub-prime is today's dot-com - the pin that pricks a much larger bubble," wrote Roach.

"Yes, the US housing market is currently in a serious recession - even the optimists concede that point.  To me, the real debate is about "spillovers" - whether the housing downturn will spread to the rest of the economy.  In my view, the lessons of the dot-com shakeout are key in this instance.  Seven years ago, the spillover effects played out with a vengeance in the corporate sector, where the dot-com mania had prompted an unsustainable binge in capital spending and hiring.  The unwinding of that binge triggered the recession of 2000-01."

"Today, the spillover effects are likely to be concentrated in the much large consumer sector. And the loss of that pillar of support is perfectly capable of triggering yet another post-bubble recession."

The pillar of support
Data, released over the past two weeks, from 2007 over into 2008, provide some indication of the depth of the crisis facing the US economy:

Holiday sales: Spending between Thanksgiving to Christmas rose just 3.6 per cent over last year, the weakest performance in at least four years, according to MasterCard Advisors. Sales had grown 6.6 per cent in 2006 and 8.7 per cent in 2005.

Excluding gasoline purchases, overall holiday sales actually went up a mere 2.4 per cent, the credit card company said.

Auto sales: US sales of cars and light trucks fell in 2007 to their lowest level in nine years. The industry reported a 3 per cent drop in sales in December. Most forecasters predict a further slide in 2008.

Manufacturing: The Commerce Department reported that durable goods orders declined 0.1 per cent in November, the fourth consecutive monthly decline. The Institute for Supply Management said its manufacturing index for December fell below the 50 per cent break-even point, dropping to an almost four-year low.

Housing: New home sales fell 9 per cent in November to a 12-year low, down 34.4 per cent over the previous year. Sales of previously owned homes were down 20 per cent from November 2006. Overall, there has been a combined 34 per cent drop in combined new and existing home sales from the July 2005 peak.

MasterCard said that the poor holiday sales portend a slump in consumer spending, which accounts for some two-thirds of the US gross domestic product.

The dollar's downward slide against the euro, the yen and other currencies has resumed in the New Year, fuelling the rise in oil and gold prices, both of which commodities are trading at record levels. Oil is at $100 per barrell, up from $61 at the end of 2006. Wheat, corn, rice, soybean and metals such as copper are all on an upward swing. Wheat and soybean prices have gone up 75 per cent.

Overall, December has registered the lowest monthly increase in jobs in over four years with the total increase in payrolls for 2007 at the lowest since 2003. Of 84 manufacturing industries, only 31.5 per cent were hiring in December.

With Labour Department's monthly report showing job growth at a virtual standstill, the Dow Jones Industrial Average (DJIA) fell 257.44 points, or 2 per cent on the same day that the report was released.

In just three trading days this year, the DJIA has erased more than half of its gains for all of 2007.

The spillover
Elaborating on the spillover phenomenon in his despatch, Roach said, "The case for a consumer spillover is compelling, in my view.  A chronic shortfall of labour income generation sets the stage - real private compensation remains over $400 billion below the trajectory of the typical business cycle expansion.  At the same time, reflecting the asset-dependent mindset of the American consumer, debt and debt service obligations have surged to all-time highs whereas the income-based saving rate has dipped into negative territory for two years in a row - the first such occurrence since the early 1930s."

"…In my view, that puts the income-short, saving-short, overly-indebted American consumer now very much at risk - bringing into play the biggest spillover of them all for an asset-dependent US economy.  February's surprisingly weak retail sales report - notwithstanding ever-present weather-related distortions - may well be a hint of what lies ahead."

Roach then goes onto point out, "It didn't have to be this way.  Were it not for a serious policy blunder by America's central bank, I suspect the US economy could have been much more successful in avoiding the perils of a multi-bubble syndrome.  Former Fed Chairman Alan Greenspan crossed the line, in my view, by encouraging reckless behaviour in the midst of each of the last two asset bubbles."

"In early 2000, while NASDAQ was cresting toward 5000, he was unabashed in his enthusiastic endorsement of a once-in-a-generation increase in productivity growth that he argued justified seemingly lofty valuations of equity markets.  This was tantamount to a green light for market speculators and legions of individual investors at just the point when the equity bubble was nearing its end." 

"And then only four years later, he did it again - this time directing his counsel at the players of the property bubble.  In early 2004, he urged homeowners to shift from fixed to floating rate mortgages, and in early 2005, he extolled the virtues of sub-prime borrowing - the extension of credit to unworthy borrowers.  Far from the heartless central banker that is supposed to "take the punchbowl away just when the party is getting good," Alan Greenspan turned into an unabashed cheerleader for the excesses of an increasingly asset-dependent US economy.  I fear history will not judge the Maestro's legacy kindly.  And now he's reinventing himself as a forecaster.  Figure that!"

Exit strategy
"The exit strategy is painfully simple: Ultimately, it is up to Ben Bernanke and whether he has both the wisdom and the courage to break the daisy chain of the "Greenspan put."  If he doesn't, I am convinced that this liquidity-driven era of excesses and imbalances will ultimately go down in history as the outgrowth of a huge failure for modern-day central banking.  In the meantime, prepare for the downside - spillover risks are bound to intensify as yet another post-bubble shakeout unfolds," concludes Roach.

A dire prediction then, at the start of 2007, but well on its way to realisation now, almost a year later, as 2008 begins on an ominous note for the US economy.

(Also See: Recession in the US already a reality: Merrill Lynch)