Economic Commentary by Doug Williams

Global Risk and Opportunity - May 26, 2010

By Douglas L. Williams, President and CEO of Atlantic Capital Bank

In our first quarter Economic and Business Outlook, we discussed the prospects for further economic recovery and identified key risks to sustained economic expansion.  The economy is fragile and its course is vulnerable to adverse geopolitical events, global financial market dislocations, the withdrawal of monetary policy support, and government policy misadventures.  We have seen evidence of each of these factors at play over the last few weeks.

Sovereign debt concerns in Europe and military tensions on the Korean peninsula have dominated the headlines and airwaves.  Markets have reacted to these uncertainties in a predictable fashion as investors have retreated from risk and sought safety in US Treasury debt.  After building historically significant returns over the last several months, markets were too frothy and these concerns provided the catalyst for correction.

Behind the headlines, complex cross-currents are shaping the intermediate and long term course of the global economy.  European debt problems are the result of unaffordable social entitlement programs and stifling regulatory and tax regimes plaguing developed countries in Western Europe as well as Japan and the United States.  These burdens will inhibit economic initiative, risk-taking, and growth for years to come.

Here at home, the US Congress is posed to enact financial services reform that is among the most far-reaching pieces of economic legislation in the post WWII era.  These laws may weaken an already fragile banking sector and impede economic progress.

Key central banks around the world will maintain accommodative monetary policies, including historically low interest rates, for the next several months as the recovery struggles for equilibrium and as governments attempt to sort out the disarray in fiscal policies.  Markets here and abroad will remain volatile as investors adjust to these realities.

It is paradoxical that the former centrally planned economies of Eastern Europe and Asia are the engines of global economic growth today.  Favorable demographic trends and the adaptation of free market based economic policies are driving spectacular growth in these countries.  While this rapid pace of growth poses its own risks, living standards are markedly improving for billions of people.

Capitalism is the most effective and efficient economic system the world has ever known and capital will always flow to the best opportunities. The continued drift toward heavy government intervention in the developed economies will restrain returns and result in subdued growth.  In contrast, countries with market friendly economic policies will continue to enjoy superior returns and more rapid economic development.

Although US GDP has now expanded for three consecutive quarters on inventory rebuilding, increased export sales, and higher industrial production, unemployment remains persistently high and consumer spending and new business investment are subdued. The recovery is vulnerable to adverse geopolitical events, new financial market dislocations, withdrawal of monetary policy support, and government policy misadventures. 

Economic recoveries in the midst of persistent joblessness have historically been more modest than those with sharper rebounds in employment.  Since World War II, jobless recoveries have resulted in average GPD growth of 2.5% in the first year while recoveries with significant job growth have produced GPD expansion of 6% on average. Accordingly, we expect the US economy to grow 2.5% to 3.0% this year in line with the applicable historical pattern and a broad consensus of economists. 

Commercial real estate remains a concern.  Property values have fallen, rental income streams are soft, and capital available for refinancing is limited.  Large volumes of commercial mortgage backed securities mature over the next few years and the limited capital flows to securitized markets will make refinancing of the underlying loans difficult.  The likely result is further declines in property values as collateral is liquidated to repay loans.

The recession has affected metropolitan Atlanta more severely than most of the country. Unemployment has risen to 10.3% and there is considerable excess capacity in residential and commercial real estate. We have seen little improvement in local conditions and anticipate a prolonged and slow recovery here.

On the global scene, much of the growth is attributable to rising consumer spending and infrastructure investment in emerging markets, particularly China, India, Russia, and Brazil.  China's GDP surged 11.9% in the first quarter. China's record of over 30 years of uninterrupted economic expansion is without parallel in economic history.  Neither Great Britain's growth during the industrial revolution and empire expansion of the late 18th and early 19th centuries, nor the United States' progress during the late 19th and early 20th centuries matches China's scorecard.  History suggests this pace of development is unsustainable.  The correction that is sure to come poses considerable risk to global financial markets and the world economy.Although vulnerabilities are apparent, the American economy is fundamentally resilient and the recovery underway should continue to build over the next few months.  Business owners and investors should carefully consider new opportunities while remaining mindful of these risks.