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U.S. economy rebounds in second quarter this year

The U. S. economy appears to have dodged some significant problems in the first half of this year with the prospects for the remainder of the year positive.

Economic growth slowed significantly during the first quarter of 2007 when gross domestic product (GDP) growth fell to 0.7 percent, the lowest quarterly rate of growth for the economy in more than four years. There were concerns that the economy might be heading for a recession because a sluggish housing market and trouble in the sub-prime lending area along with continued high energy prices, but this has not happened.

The economy appears to have rebounded in the second quarter of 2007 with estimates of economic growth in the range of 3 percent and with expectations that GDP will continue at about this rate for the remainder of the year. The actions of the Federal Reserve also indicate that the economy is on a balanced course. Both the rate of unemployment (4.5 percent in June) and the rate of inflation (2.7 percent for the last 12 months ending with June) are very low by historical standards. This may be about as good as it will get.

The Fed appears equally concerned about the prospects for inflation that would necessitate a rate increase and the potential for a downturn that would indicate a cut in interest rates. In the end, the Fed has held rates steady. Fed Chairman Ben Bernanke suggested that the unemployment rate cannot go any lower without generating inflationary pressure and may actually have to rise slightly. The U.S. economy is now in the sixth year of expansion after the recession of 2001. With expansions typically lasting a decade or more in the last few decades, the expansion could last several more years.

The growth in productivity has slowed recently, which means inflation will be more of a concern. One of the reasons the economy grew so rapidly the last 10 years without inflation problems was that productivity growth relieved some of the inflationary pressure. Slowing productivity growth will increase the degree of difficulty of the Fed's task in navigating between inflation and recession.

The performance of the stock market reinforces this positive view of the economy. The stock market is far from a prefect predictor of economic performance, but investors are forward looking. The fact that several major indexes reached all time highs in July in spite of ambiguous economic news suggests an underlying strength to the economy.

Illinois' economy performance has been strong in the last year. The Illinois economy recovered very slowly after the 2001 recession with the state losing ground to the rest of the nation. From 2000 to 2005, per capita income in Illinois fell from 107.8 percent of the national average to 104.3 percent. Illinois was in danger of losing its long-term economic margin of superiority. Fortunately, this trend reversed in 2006 with income rising to 105 percent of the average. This trend appears to be continuing.

Employment in Illinois fell by more than 4 percent (with a loss of more than 250,000 jobs) after the recession of 2001. Employment has been increasing since early 2004, but the state is still nearly 1 percent below it pre-recession peak employment level. In contrast, the employment in the U.S. economy is now more than 4 percent above its pre-recession level. The good news is that Illinois is finally growing again, having added more than 50,000 jobs in the last year.

The University of Illinois Flash Index, an indicator of the health of the Illinois economy, was strong the first half of 2007 even when the national economy was slowing. This suggests that Illinois is experiencing a long overdue catching up in relation to the national economy. However, there is still a long ways to go to regain Illinois' past performance levels.

It is still too early to assess the impact of the embarrassing impasse in Springfield in finalizing the 2008 budget for the state of Illinois. The governor and leaders of the General Assembly have become the laughing stock of the state and the subject of numerous harsh editorials. However, little actual damage has been done as of yet, and a reasonable budget may yet emerge. The attitudes of the Democratic leaders may in the long run be more damaging than their actions. In the fiscal debates this year, business has been singled out as the villain with numerous attempts to impose onerous new taxes and fees, most notably the failed gross receipts tax.

Most other states are going to considerable lengths to welcome and encourage new and existing businesses. This situation cannot be good news for Illinois' long term prospects.

—J. Fred Giertz is a professor of economics within the University of Illinois' Institute of Government and Public Affairs. He can be reached at 217-244-4822 or jgiertz@ad.uiuc.edu.

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