America’s Economy Faces Another Downturn

The U.S. economy isn’t out of the woods yet. A close look reveals that the middle class is starving and the financial crisis still has a death grip on smaller banks.

At first glance everything looks rosy: In the United States, most economic indicators point to a self-sustaining upturn. Big corporations are once again reporting profits, the stock market climbs to new highs almost weekly and there’s no sign of inflation anywhere.

Since the demand for risk capital has risen to all-time highs and interest rates stay at their current low levels, investors are even starting to talk of a Goldilocks scenario — an environment close to paradise.

But beware — the signs are deceptive. The seeds of future problems have already been sown and the results are already partially visible. The only problem is one has to be willing to look for them. It’s not enough to point to developments in large corporations and banks. They have it relatively good once again; they’re able to borrow money and have sufficient liquidity, all thanks to the government stimulus.

Small and medium-sized businesses are more important for the overall economy, but they don’t stand in the limelight nor do they have a powerful lobby. The National Federation of Independent Business (NFIB) conducts a monthly survey that produces a far different picture of the U.S. economy and it’s bad news for the middle class. Most recent indicators for this sector show significant continued decline.

The main reason for that is their financial structure. Their transactions aren’t with Citigroup, which is again showing profits in the billions, but with small and medium-sized banks that still suffer a huge mountain of problems. Their balance sheets have yet to be cleansed of bad loans and their equity structures are still below par. Government subsidies are not available to them because all the money has already been given to the large banks. As a result, lending to small and medium enterprises suffers greatly.

The recovery in America is concentrated on a few large firms, but the broad middle still has enormous problems. Adding to the misery is the fact that the cost of raw materials continues to rise, in some cases to record levels, because of favorable economic conditions in Asia. One ton of copper, for example, costs more than $8,000, a record high.

Oil prices are headed in the same direction as well. Many experts don’t discount the possibility that the price will reach $150 per barrel during the coming year. The crux: An increase of over 40 percent within 12 months generally leads with beautiful regularity to recession. An increase in inventories has lead to short-term economic improvement in the U.S. but is driving the cost of materials upward, something that will become a burden threatening a permanent and lasting economic recovery.

Only the European Union actually still holds a trump card: the favorable rate of exchange, thanks to the “PIGS” countries, Portugal, Ireland, Greece and Spain. Burgeoning government deficits and speculation in financial markets clearly burdened the Euro. Since the end of November, the Euro has lost more than 10 percent of its value against the U.S. dollar, something that works to the advantage of European exports.

It’s hard to imagine a better economic stimulus package at present, since it doesn’t put additional strain on government budgets. Historically, this has been disparagingly referred to as a “beggar-thy-neighbor” policy.

Compared to the competitive devaluations of past years, this time there’s a recognizable reason why the Euro is losing value: the ailing state budgets among the PIGS nations. As long as the debt problem remains unsolved the Euro hardly has a chance to stage a strong and permanent comeback. The economic forecast, therefore, remains friendly for the European Union while it gets increasingly cloudy on the other side of the Atlantic.