Make money in 2010: The economy

The recovery may be under way, but feeling safe financially will take longer.

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By Janice Revell, Money Magazine senior writer

The 2009 outlook revisited
We said:
Savings yields would fall and the credit crunch would ease a bit.
What happened:
Rates fell more than expected and credit eased slightly.
We said:
Inflation would be limited to less than 3%.
What happened:
Consumer prices fell 1.3% over the past year -- deflation!
We said:
The recovery would begin in the spring.
What happened:
Economists believe the recession ended in the summer.
We said:
Stocks would rebound early in the year.
What happened:
The market hit bottom in March, then soared more than 60%.
We said:
The unemployment rate would peak at 7% or 8% by year-end.
What happened:
Unemployment hit 10.2% in October and is still rising.
We said:
Home values would fall 15% to 20%.
What happened:
Prices fell 13%, then rose a bit, but the market's looking soft again
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(Money Magazine) -- You may not feel as if we're out of the woods yet. But the consensus among the 50 leading economists regularly surveyed by the Blue Chip Economic Indicators is that the recession is indeed over, and from a technical standpoint at least, probably ended in the summer.

You're right, though, to feel less than sanguine about this pronouncement. The majority of those economists put growth at just 2.5% next year, and several believed 1.7% was closer to the mark -- well below the U.S. long-term average of 3%.

Why such an anemic outlook? Start with consumer spending, which accounts for about 70% of gross domestic product. In previous recoveries, you could count on the willingness of consumers to open up their wallets and go shopping, fueled by an abundant supply of cheap credit. No more. "For the first time coming out of a recession, we can't spend or borrow our way into recovery," says Diane Swonk, chief economist of Mesirow Financial.

The Federal Reserve has been pumping hundreds of billions into the credit markets to hold lending rates down. But if rising defaults in commercial real estate loans cause bank failures to spike, all bets are off. "Credit will remain tough to get, and credit is the mother's milk of economic activity," says Mark Zandi of Moody's

Continued weakness in the job market will also keep a lid on consumer spending. The unemployment rate, now at 10.2%, may fall to 9.6% by year-end, economists believe. Meanwhile, housing seems to be stabilizing, but prices will still be under pressure from mounting foreclosures and tight credit.

And you can't depend on Uncle Sam to help out by injecting another round of stimulus into the economy, considering the combination of prior spending and the loss of tax revenue brought about by the recession has already caused the federal deficit to soar to a scary $1.42 trillion.

Still, it's the Fed, even more than the White House or Congress, that should have the greatest influence on the economy next year. The key question: Will it continue its efforts to keep short-term interest rates low and get credit flowing? Swonk believes the answer is yes, noting, "The Fed will do everything in its power to prevent another recession. And they're the ones with the bazookas."

The wild cards:

Long-term interest rates. If deficit fears among bond investors lead to a sharp rise in long-term Treasury yields, housing will suffer, since mortgage rates generally move with 10-year Treasuries. And the loan rates that corporations must pay would go up too, hampering profitability.

Taxes. Many Democrats and Republicans want to extend some Bush-era tax cuts due to expire next year. But the massive deficit is putting pressure on Congress to let them die. If the breaks end before the economy stabilizes, some experts fear another recession in 2011.

Make money in 2010: Your job

Make money in 2010: Your savings and credit

Make money in 2010: Your home

Make money in 2010: Your investments To top of page

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