Rate of Return 02/01 17:27 Morgan Stanley's Roach Says Recession to Last: Rates of Return By Heather Bandur
New York, Feb. 1 (Bloomberg) -- Rising consumer confidence, falling unemployment and a pickup in manufacturing have many Wall Street economists saying the U.S. economy is on the verge of pulling out of recession. Not Stephen Roach. The chief economist at Morgan Stanley Dean Witter & Co. says a recovery is almost a year away because companies aren't investing and consumer spending is ripe for a decline. This, he says, will prompt the Federal Reserve to cut interest rates at least once more after 11 reductions last year. ``It is ludicrous to think that we have built a solid base for economic recovery,'' Roach said. ``Capital spending is at the bottom, exports are dead in the water, and the American consumer is tapped out. Who is going to lead us into a recovery? There isn't a great candidate.'' Roach forecasts the economy will shrink in the second and third quarters, following a return to growth this quarter. He calls it a ``double-dip'' -- contraction followed by signs of growth and then more contraction. He says the rebound in the economy may begin in October. His pessimism on the economy makes Morgan Stanley one of only two firms of the 24 that trade with the Fed, known as primary dealers, to forecast the central bank will cut rates this year. Roach says the Fed may lower the rate as much as a half-percentage point to 1.25 percent by year-end to bolster demand. Bonds to Gain? If the 56-year-old economist is right, bonds may rise. They have fallen since Jan. 11, driving the yield on the most widely traded two-year note up 35 basis points to 3.08 percent, as investors have anticipated the Fed will start reversing last year's rate reductions. Twenty of the 24 primary dealer economists predict Fed rate increases this year, with some saying the first rise will come in the second quarter. The Fed left the benchmark overnight rate unchanged at a 40- year low of 1.75 percent Wednesday, the first time central bankers didn't lower the rate at a meeting since December 2000. Roach says retailers' price discounts will fuel a rise in consumer spending this quarter, sparking growth of as much as 3 percent. That consumption boom will turn into a bust by the second quarter because the unemployment rate remains high at 5.6 percent. He says the economy will shrink as much as 2 percent in the second and third quarters. ``Never before have consumers spent with such a vengeance in the depths of recession,'' Roach said in a research report. ``With jobs and income under pressure, paybacks are the norm in the aftermath of mid-recession consumption spurts.'' Minority Opinion Roach says this ``double-dip'' has happened in five of the last six recessions dating back to the 1950s, with the economy contracting for several more months just when it seemed it was poised to recover. Roach's colleagues on Wall Street disagree, saying the rise in factory output indexes and consumer confidence and decline in the jobless rate in January show a recovery is underway. The economy will expand at a 2.3 percent annual pace in the second quarter and a 3.4 percent rate in the third, according to 41 economists surveyed by Bloomberg News, including William Dudley of Goldman Sachs & Co. and Bruce Steinberg at Merrill Lynch & Co. ``I am not here to raise eyebrows; I am here to get it right,'' Roach said. He got it wrong when he made another call that left him in the minority in 1997. He predicted the Fed would have to raise the overnight rate several times that year to 7 percent to head off faster inflation. The Fed raised its rate target just once -- a quarter-point rise to 5.5 percent -- and held it at that rate for 18 months as the inflation rate fell. ``When you find yourself isolated, you must think carefully about what it is you are saying,'' Roach said.
