Latest indicators indicate that the world economy is on a recovery path.  The purchasing Manager’s index was at its highest level in October in more than three years clearly indicating that the economic activity has picked at a higher rate than before. Also the expansion of economic activity in October was broad based and strong in a number of advanced economies.

USA

The world’s big Sam is finally on recovery path with the economic activity expanding in the third quarter of 2009 after the consequent falls in the earlier two quarters. As per BEA estimates third quarter registered a growth of 3.5% in annualised terms in real GDP. This is definitely some good news given the fact that the last four quarters had negative growth.

With the economy picking up momentum there has been gains in consumer spending. Private demand particularly for motor vehicle sales was helped by the government stimulus programme like cash for clunkers and incentives for first time home buyers. According to BEA data cash for clunkers programme added 1.7% to GDP and residential private investments added another 0.5% to GDP. The pace of decline in business investment also moderated.

Other factors that contributed positively to GDP include inventories and government expenditure. Government expenditure registered an increase of 1.8% year on year. The ISM manufacturing index increased to 55.7 in September from 52.6 in August indicating buoyancy in the manufacturing sector. However the non manufacturing ISM declined to 50.6 in September from 50.9 in August. An above 50 index indicates an expanding sector.

With the increase in imports outweighing exports net trade registered a negative contribution of 0.5% to GDP. The federal deficit number also saw a sharp increase to 10% of GDP in the current fiscal in comparison to 3.2% in the previous fiscal year.

In the year to September US Consumer price index declined by 1.3% mainly on account of decline in energy prices compared with the previous year. In the year to August US CPI had declined by 1.5%. Excluding food and energy the annual rate of inflation increased from 1.4% in August to 1.5% in September. Going forward the negative inflation rate may reverse and enter the positive territory given the current increase in energy prices.

US continued with its easy monetary policy with its near zero interest rate. The US Federal Open Market Committee (FOMC) which met on 4 November 2009 decided to keep the federal funds rate unchanged within the range of 0% to 0.25%. Given the current economic scenario, economists are not expecting to see any increase in the interest rate at least in the near future.

In October the unemployment rate reached an all time high of 10%. However economists are taking note of the fact that temporary employment market is increasing which is taken as an indication of recovery. As per Bureau of Labour statistics estimates the number of temporary workers increased by a 15% annual rate in October. However economists feel that this may also be a signal of change in the structure of employment markets with higher level of unemployment and higher number of temporary workers.

Equity markets had a good time in October thanks to the super low interest rates. The market increased by more than 50% from its March 2009 lows. The market may again go in for a correction if the recovery expected does not happen or interest rates are increased making money expensive.

Going forward given the current scenario in all likelihood the Fed will continue with its super low interest rates policy providing the required support to the market. However continuing with the low interest rates has its share of problems also. Low interest rates can lead to asset bubble with money being so cheap. Also with current low interest rates dollar is being used to carry trade which is further pulling down the value of dollar.  Low interest rate is also a cause of concern for the US banking system which may not be able to refinance at the current near zero levels.

Many economists feel that the improvement in US economy is mainly on account of government stimulus programmes like the cash for clunkers scheme and the incentives for first time buyers. Given that the cash for clunkers scheme expired in August and the incentives for first-time home buyers will expire in November economist are debating whether the economy will be able to maintain the same momentum of growth in the fourth quarter.US politicians are in fact already thinking about a second round of stimulus to further strengthen the recovery process. How it is going to be funded is still a question which no one wants to answer. The US debt to GDP levels is forecasted to reach around 70% in 2011 which may further weaken the US dollar. Overall the economy is forecasted to declined by 2.5% on 2009 and then grow by 1.4% in 2010. This is revised forecast from the last month’s forecast of a decline of 2.7% in 2009 and increase of 1.3% in 2010.