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This Time is Different MARK ZANDI, CHIEF ECONOMIST FROM MOODY’S ECONOMY.COM Fiscal Headwinds Are Blowing Hard… Real GDP growth impact of fiscal austerity, percentage points 0.0 -0.5 -1.0 Other Tax and Spending Payroll Tax Sequester -1.5 -2.0 '12q4 '13q1 '13q2 '13q3 '13q4 '14q1 '14q2 '14q3 '14q4 Source: Moody’s Analytics …But Will Fade Next Year… Contribution to real GDP growth, % 5 4 3 2 1 0 -1 -2 -3 -4 -5 -6 Private Economy Federal Fiscal Policy Total '05 '06 '07 Source: Moody’s Analytics '08 '09 '10 '11 '12 '13F '14F '15F …Leaving a High, But Stable Debt Load Debt held by the public, % GDP 90% 85% 80% 75% 70% 65% 60% 55% No Tax Increase/Sequester Current Policy Simpson-Bowles 50% '10 '11 '12 '13 '14 '15 '16 '17 '18 '19 '20 '21 '22 Sources: CBO, Moody’s Analytics Businesses Have Never Been as Profitable… After-tax corporate profit margin, % 18 16 14 12 10 8 6 '45 '50 '55 '60 '65 '70 '75 '80 '85 '90 '95 '00 '05 '10 Sources: BEA, Moody’s Analytics …And Their Balance Sheets Are Strong Nonfinancial corporate businesses 60 Interest coverage ratio 50 Quick ratio 40 30 20 10 0 80 85 90 95 Sources: Federal Reserve, Moody’s Analytics 00 05 10 Households Rapidly Deleverage… % of disposable income 14.5 19.0 14.0 Debt service (L) 13.5 Financial obligations (R) 13.0 18.5 18.0 17.5 12.5 17.0 12.0 16.5 11.5 11.0 16.0 10.5 15.5 10.0 15.0 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 Sources: Federal Reserve, BEA, Moody’s Analytics …And Right the Wrongs 30-90 Day Delinquency Rate, % of $, SA 5.5 Non First Mortgage 5.0 First Mortgage 4.5 4.0 3.5 3.0 2.5 2.0 1.5 '06 07 '08 Sources: Equifax, Moody’s Analytics '09 '10 '11 '12 '13 Banks are Well Capitalized and More Profitable… Commercial banks 9.25 1.6 1.4 8.75 1.2 8.25 1.0 7.75 0.8 0.6 7.25 6.75 Core Capital Ratio (L) 0.4 Return on Assets (R ) 0.2 6.25 0.0 '90 '92 Source: FDIC '94 '96 '98 '00 '02 '04 '06 '08 '10 '12 …And Opening the Credit Spigot Net % of senior loan officers… 50 40 30 20 10 0 -10 -20 -30 -40 -50 80 Willing to make a consumer loan (L) 60 40 20 0 -20 -40 Tightening standards for C&I loans to small businesses (R) -60 -80 90 92 94 96 98 00 02 04 Source: Federal Reserve Senior Loan Officer Survey 06 08 10 12 Housing Is Fairly Valued… % over- or undervalued 60 50 40 30 20 10 Fairly valued 0 -10 -20 90 92 94 96 98 00 02 04 06 Sources: PPR, BEA, Census Bureau, Fiserv, Moody’s Analytics 08 10 12 …And Will Soon Be Undersupplied… Vacant homes for sale, for rent and held off market, ths 11,500 Housing Supply Single-family Multifamily Manufactured Housing 10,500 9,500 Housing Demand 8,500 Household Formations Obsolescence Second Homes 7,500 950,000 600,000 300,000 50,000 1,800,000 1,250,000 350,000 200,000 Trend Vacancy 6,500 5,500 90 92 94 96 Sources: Census, Moody’s Analytics 98 00 02 04 06 08 10 12 …Fueling a Big Turn in Housing’s Contribution… Contribution to real GDP growth, % 1.5 1.0 0.5 0.0 -0.5 -1.0 -1.5 -2.0 Housing wealth effect Residential investment Total -2.5 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 Source: Moody’s Analytics …And More Job Growth Millions of jobs 9,500 130,000 9,000 128,000 8,500 8,000 126,000 7,500 7,000 124,000 Housing-Related (L) 6,500 Non Housing-Related (R ) 6,000 122,000 '05 '06 '07 '08 '09 Source: Wall Street Journal, Moody’s Analytics '10 '11 '12 '13 Pent-Up Demand Mounts Light vehicle sales, mil 20 12 10 18 Trend sales 16 8 6 4 14 2 12 0 -2 Units (L) 10 -4 Spent-up/pent-up demand (R) 8 -6 '96 '98 '00 '02 Sources: BEA, Moody’s Analytics '04 '06 '08 '10 '12 Euro Zone Struggles To Hang Together Spanish 10-yr sovereign yields 8.0 7.5 7.0 6.5 6.0 5.5 5.0 4.5 4.0 3.5 3.0 ECB Extraordinary Actions: OTM SMP = Securities market program LTRO = Long-term refinancing operation OTM = Outright monetary transaction LTRO LTRO SMP 08 09 10 Sources: Bloomberg, Moody’s Analytics 11 12 13 Fed Will Have a Tricky Exit… Composition of Federal Reserve’s balance sheet, $ bil 3,500 Short-term lending to financial firms and markets Operations focused on longer term credit conditions Rescue operations Traditional portfolio 3,000 2,500 2,000 1,500 1,000 500 0 Jan-08 Jan-09 Sources: Fed, Moody’s Analytics Jan-10 Jan-11 Jan-12 Jan-13 …Given the Overvalued Bond Market… Difference between 10-yr Treasury yield and potential GDP growth 4 Undervalued 3 2 1 0 -1 -2 Overvalued -3 '60 '65 '70 '75 '80 Source: Treasury, BEA, Moody’s Analytics '85 '90 '95 '00 '05 '10 …As Higher Rates Exposses Excesses… Federal funds rate 10 S&L Crisis 8 Orange County Mexican Peso Tech Bust 6 Housing Bubble Busts 4 2 0 '85 '90 '95 Sources: Treasury, BEA, Moody’s Analytics '00 '05 '10 …But Businesses and Households Lock In % of liabilities that adjust within 1 year 50 Corporations 45 Households 40 35 30 25 20 15 '85 '87 '89 '91 '93 '95 '97 '99 '01 '03 '05 '07 '09 '11 Sources: Federal Reserve, BEA, Moody’s Analytics Energy Independence is a Real Possibility… U.S. crude oil, millions of barrels per day 16 14 12 Consumption Production 10 8 6 4 00 02 04 06 Sources: EIA, Moody’s Analytics 08 10 12 14 16 18 20 22 24 …Making the U.S. Less Recession Prone West Texas Intermediate crude oil price, % change year ago 210 180 150 120 90 60 30 0 -30 -60 47 51 55 59 63 67 71 75 79 83 87 91 95 99 03 07 11 Source: Federal Reserve Bank of St. Louis, Moody’s Analytics 121 North Walnut Street Suite 500 West Chester, PA 19380 610.235.5299 www.economy.com © 2012, Moody's Analytics, Inc. and/or its licensors and affiliates (together, "Moody's"). 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