Economic Outlook: Cyclical Recovery, Structural Challenges

Economic Outlook: Cyclical Recovery, Structural Challenges GIC Central Banking Series: Recovery 2013 – Strength or Stagnation?

John E. Silvia, Chief Economist May 16, 2013

Where Are We Now?

Interest Rates

Inflation

Growth

Five benchmarks for good decision making

Profits

Source:

Wells Fargo Economics

2

The Dollar

Wells Fargo vs. Consensus

Expectations for the Future

 Sustained below-trend growth

 Still cautious on consumer segments

How do we differ from consensus?

 Housing improving—multifamily especially

 State and local governments—still restructuring

 Employment—cyclical and structural change

Wells Fargo Economics

3

What We Get Versus What We Expect

U.S. Real GDP Bars = CAGR

Line = Yr/Yr Percent Change

10%

10% GDP - CAGR: Q1 @ 2.5%

8%

GDP - Yr/Yr Percent Change: Q1 @ 1.8%

6%

6% Forecast

4%

Sustained recovery in 2013, but still below historical experience—benchmark 2.75 percent is trend from 1982-2012

4%

2%

2%

0%

0%

-2%

-2%

-4%

-4%

-6%

-6%

-8%

-8%

-10% 2000

-10% 2002

2004

2006

2008

Source: U.S. Department of Commerce and Wells Fargo Securities, LLC

Wells Fargo Economics

8%

4

2010

2012

2014

Private Sector vs. Public Sector

8%

The economy is rebalancing back to private sector demand

Real Final Sales to Private Domestic Purchasers vs. Government Spending

8%

6%

6%

4%

4%

2%

2%

0%

0%

-2%

-2%

-4%

-4% Both series are Year-over-Year Percent Changes

-6%

Final Sales to Private Dom. Purch.: Q1 @ 2.5% Gov. Consumption & Investment: Q1 @ -2.1%

-8%

-8% 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13

Source: U.S. Department of Commerce and Wells Fargo Securities, LLC

Wells Fargo Economics

-6%

5

Small Businesses

Wells Fargo Small Business Survey & NFIB Overall Situation, NFIB Small Business Optimism 1986=100

Small Businesses: A full recovery in small business optimism is still distant

120

115

100

110

80

105

60

100

40

95

20

90

0

85

-20

80

-40

Overall Situation: 1Q 2013 @ 9.0 (Left Axis)

75

Small Business Optimism: 1Q 2013 @ 89.7 (Right Axis) -60 2004

70 2005

2006

2007

2008

2009

2010

2011

2012

2013

Source: National Federation of Independent Businesses, Gallup, Wells Fargo Bank and Wells Fargo Securities, LLC

Wells Fargo Economics

6

Manufacturing

ISM Manufacturing Composite Index Diffusion Index

Large, Global Businesses: Slowdown in manufacturing recently after typical recovery

65

65

60

60

55

55

50

50

45

45

40

40

35

35

ISM Manufacturing Index: Apr @ 50.7 12-Month Moving Average: Apr @ 51.4

30

30 87

89

91

93

95

97

99

01

03

Source: Institute for Supply Management and Wells Fargo Securities, LLC

Wells Fargo Economics

7

05

07

09

11

13

Initial Unemployment Claims: Cyclical

Initial Claims for Unemployment Seasonally Adjusted, In Thousands

700 650 600

Signaling continued, moderate job gains ahead

700

Year-over-Year Percent Change: Apr-27 @ -12.7% Initial Claims: Apr-27 @ 324.0 Thousand 4-Week Moving Average: Apr-27 @ 342.3 Thousand 52-Week Moving Average: Apr-27 @ 367.6 Thousand

650 600

550

550

500

500

450

450

400

400

350

350

300

300

250

250 86

88

90

92

94

96

98

00

Source: U.S. Department of Labor and Wells Fargo Securities, LLC

Wells Fargo Economics

8

02

04

06

08

10

12

Employment: Structural

Employment-Population Ratio 16 Years and Over, Seasonally Adjusted

Structural Change: A much lower base to support growth and spending, especially for entitlements

65

65

64

64

63

63

62

62

61

61

60

60

59

59

58

58 Employment-Population Ratio: Apr @ 58.6

57

57 86

88

90

92

94

96

98

00

Source: U.S. Department of Labor and Wells Fargo Securities, LLC

Wells Fargo Economics

9

02

04

06

08

10

12

Employment: Participation Rates by Gender

Labor Force Participation Rate Seasonally Adjusted

Both men and women have left the labor force—a new path for women

76%

76%

74%

74%

72%

72%

70%

70%

68%

68%

66%

66%

64%

64%

62%

62%

60%

60%

58%

58%

56%

56%

Female: Apr @ 57.2%

54%

54%

Male: Apr @ 69.8%

52%

52% 00

01

02

03

04

05

06

07

Source: U.S. Department of Labor and Wells Fargo Securities, LLC

Wells Fargo Economics

10

08

09

10

11

12

13

Employment: Structural

Unemployment Rates Seasonally Adjusted 18%

18% U-6 Unemployment Rate: Apr @ 13.9%

16%

U-3 reverting to 6.37 percent long-run average, but U-6 is not mean-reverting. Employment growth is mean-reverting at 1.28 percent.

16%

U-3 Unemployment Rate: Apr @ 7.5%

14%

14%

12%

12%

10%

10%

8%

8%

6%

6%

4%

4%

2%

2% 94

96

98

00

02

04

Source: U.S. Department of Labor and Wells Fargo Securities, LLC

Wells Fargo Economics

11

06

08

10

12

Consumer Spending

Real Personal Consumption Expenditures Bars = CAGR

Line = Yr/Yr Percent Change

8%

8%

6%

6%

4%

Subpar recovery suggests slower consumer spending and lower state sales tax revenues compared to the past

Forecast

4%

2%

2%

0%

0%

-2%

-2%

-4%

-4%

-6%

-6%

PCE - CAGR: Q1 @ 3.2% PCE - Yr/Yr Percent Change: Q1 @ 2.0%

-8% 2000

-8% 2002

2004

2006

2008

Source: U.S. Department of Commerce and Wells Fargo Securities, LLC

Wells Fargo Economics

12

2010

2012

2014

Income Growth

Income Growth by Quintile Percent Change from 1984 to 2011, After-Tax Income

After-tax income has increased the most for the lowest and highest income households since the mid-1980s

250%

250%

200%

200%

150%

150%

100%

100%

50%

50%

0%

0% Lowest 20 percent

Second 20 percent

Third 20 percent

Source: U.S. Department of Labor and Wells Fargo Securities, LLC

Wells Fargo Economics

13

Fourth 20 percent

Highest 20 percent

Personal Income

Personal Income Sources March 2013

Transfer Receipts, 16%

Wages and salaries make up less than half of personal income as transfer payments take on more responsibility

Receipts on Assets, 12%

Wage and Salary Disbursements, 48%

Rental Income, 3%

Proprietors' Income, 9% Supplement to Wages and Salaries, 12%

Source: U.S. Department of Commerce and Wells Fargo Securities, LLC

Wells Fargo Economics

14

New Orders

Nondefense Capital Goods Orders, Ex-Aircraft Series are 3-Month Moving Averages

Signs of life appeared early in this recovery in capital goods orders—now the slowdown— fiscal cliff?

40%

40%

20%

20%

0%

0%

-20%

-20%

-40%

-40% 3-Month Annual Rate: Mar @ 16.7% Year-over-Year Percent Change: Mar @ 0.2%

-60% 1994

-60% 1996

1998

2000

2002

2004

2006

Source: U.S. Department of Commerce and Wells Fargo Securities, LLC

Wells Fargo Economics

15

2008

2010

2012

Housing

U.S. Housing Starts Millions of Units 2.4

2.4

2.1

2.1

1.8

1.8 Forecast

1.5

Continued improvement ahead reflecting multifamily gains

1.2

1.2

0.9

0.9

0.6

0.6

0.3

0.3

0.0

0.0 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 14 16 18

Source: U.S. Department of Commerce and Wells Fargo Securities, LLC

Wells Fargo Economics

1.5

16

Housing Demographics

Median Home Size vs. Average Household Size Square Feet; Number of Persons

Secular Shift?

Households are living in smaller homes with more people since the recession, but longer-term trends may win out

2,400

2.80

2,200

2.75

2,000

2.70

1,800

2.65

1,600

2.60

1,400

2.55 Median Square Footage: 2012 @ 2,305 (Left Axis) Number of Persons per Household: 2012 @ 2.55 (Right Axis)

1,200

2.50 80

84

88

92

96

Source: U.S. Department of Commerce and Wells Fargo Securities, LLC

Wells Fargo Economics

17

00

04

08

12

Home Prices

Home Price Growth vs. Mortgage Rates Percent

Home prices are rising faster than mortgage interest rates

20%

20%

15%

15%

10%

10%

5%

5%

0%

0%

-5%

-5%

-10%

-10%

-15%

-15%

-20%

S&P/Case-Shiller 20 Home Price Index, Yr/Yr %: Feb @ 9.32% 5/1 Year ARM: Apr @ 2.55%

-25%

-20% -25%

CoreLogic Home Price Index, Yr/Yr %: Feb @ 10.23% -30%

-30% 03

04

05

06

07

08

09

10

Source: S&P/Case-Shiller, CoreLogic, Bloomberg LP and Wells Fargo Securities, LLC

Wells Fargo Economics

18

11

12

13

Housing

Negative Equity Mortgages - By State Percent of Mortgages Outstanding Washington

17.8

Alabama

18.3

Oregon

18.9

Virginia

19.3

New Jersey

20.0

New Hampshire

20.1

Idaho

Negative equity in homes has contributed to foreclosures and reduced labor mobility

As of Q4 2012

21.0

Rhode Island

23.4

Maryland

23.5

Ohio

25.0

California

25.2

Illinois

28.4

Michigan

31.9

Georgia

33.8

Arizona

34.9

Florida

40.2

Nevada

52.4

US

21.5 0%

10%

Source: CoreLogic and Wells Fargo Securities, LLC

Wells Fargo Economics

19

20%

30%

40%

50%

60%

Commercial Real Estate

Commercial Real Estate Vacancy Rates Percent 24%

20%

The recovery has been uneven across property types

24% Office Vacancy Rate: Q1 @ 17.0% Industrial Vacancy Rate: Q1 @ 8.2% Retail Vacancy Rate: Q1 @ 10.6% Apartment Vacancy Rate: Q1 @ 4.3%

16%

16%

12%

12%

8%

8%

4%

4%

0% 1994

0% 1996

1998

2000

2002

Source: Reis, Inc., PPR and Wells Fargo Securities, LLC

Wells Fargo Economics

20%

20

2004

2006

2008

2010

2012

Commercial Real Estate

Apartments have seen the greatest improvement in operating fundamentals but are also seeing intense new development. The industrial market has also improved quite significantly.

Apartment Supply & Demand

Industrial Supply & Demand

Apartment Supply & Demand

Industrial Supply & Demand

Percent, Thousands of Units

Percent, Millions of Square Feet

9%

100

14%

60

8%

75

12%

40

7%

50

10%

20

6%

25

8%

0

5%

0

6%

-20

4%

-25

4%

-40

-50

2%

-75

0%

Apartment Net Completions: Q1 @ 15,266 Units (Right Axis) Apartment Net Absorption: Q1 @ 36,847 Units (Right Axis) Apartment Vacancy Rate: Q1 @ 4.3% (Left Axis)

3%

2% 05

06

07

08

09

10

11

12

13

21

-60

-80 2005

Source: Reis, Inc., U.S. Department of Commerce and Wells Fargo Securities, LLC

Wells Fargo Economics

Industrial Net Completions: Q1 @ 5.8M SF (Right Axis) Industrial Net Absorption: Q1 @ 24.6M SF (Right Axis) Industrial Vacancy Rate: Q1 @ 8.2% (Left Axis) 2006

2007

2008

2009

2010

2011

2012

2013

Inflation & Interest Rates

Core Monetary InflationInflation Policy

Yield Curve

Key Drivers

Growth Real Interest Rates

Profits Wage-Price Spiral

Wells Fargo Economics

Market Expectations

22

Interest Rates

The Dollar

Inflation: Persistent at Low Rates

U.S. Consumer Price Index Both Series are 3-Month Moving Averages

Consumer price growth should not pose a barrier to easier Federal Reserve policy in 2013

9%

9%

6%

6%

3%

3%

0%

0%

-3%

-3%

-6%

-6%

-9%

-9%

CPI 3-Month Annual Rate: Mar @ 1.4% CPI Year-over-Year: Mar @ 1.7%

-12%

-12% 92

94

96

98

00

02

04

Source: U.S. Department of Labor and Wells Fargo Securities, LLC

Wells Fargo Economics

23

06

08

10

12

Inflation Expectations

TIPS Inflation Compensation 5-Year and 5-Year Forward

3.5%

Inflation expectations have been rising

3.0%

3.0%

2.5%

2.5%

2.0%

2.0%

1.5%

1.5%

1.0%

1.0%

0.5%

0.5%

0.0%

0.0%

-0.5%

-0.5%

-1.0%

-1.0%

-1.5%

-2.5% 2008

-1.5%

5-Year: Apr-30 @ 2.10%

-2.0%

5-Year 5 Years Ahead: Apr-30 @ 2.64%

-2.0% -2.5%

2009

2010

2011

Source: Federal Reserve Board and Wells Fargo Securities, LLC

Wells Fargo Economics

3.5%

24

2012

2013

Inflation vs. Yields: Negative Real Yields – Three Non-market Buyers

Inflation and the Real Yield Percent 8.0%

8.0%

5-Year Treasury Note Yield: Apr @ 0.7% Median Inflation Expect. for 5-10 Yrs: Apr @ 2.8%

7.0%

Inflation expectations exceed nominal returns

7.0%

6.0%

6.0%

5.0%

5.0%

4.0%

4.0%

3.0%

3.0%

2.0%

2.0%

1.0%

1.0% 1996-2009 Average Median Inflation Expectation for 5-10 Years: 2.9%

0.0% 1996

0.0% 1998

2000

2002

2004

2006

2008

Source: Federal Reserve Board, University of Michigan and Wells Fargo Securities, LLC

Wells Fargo Economics

25

2010

2012

Corporate Spreads: Positive for Issuance

Aaa and Baa Corporate Bond Spreads Over 10-Year Treasury, Basis Points 700

700 Baa Spread: Apr @ 283 Bps

600

Spreads have returned to a more normal level; bond issuance is strong

Aaa Spread: Apr @ 197 Bps

500

500

400

400

300

300

200

200

100

100

0 1996

0 1998

2000

2002

2004

Source: Federal Reserve Board and Wells Fargo Securities, LLC

Wells Fargo Economics

600

26

2006

2008

2010

2012

Corporate Spreads

Baa Corporate Yield Over S&P Index Earnings Moody's Baa Corporate Yield Minus S&P Index Earnings Yield

Recent inversion in the ratio between bond yields and equity earnings

600

600

500

500

400

400

300

300

200

200

100

100

0

0

-100

-100

-200

-200

-300

-300

Corporate - Earnings: May @ -181.9 bps

-400

-400 90

92

94

96

98

00

02

Source: Moody’s Analytics, S&P and Wells Fargo Securities, LLC

Wells Fargo Economics

27

04

06

08

10

12

Investment Grade Corporate Bonds

Investment Grade Corporate Issuance 3-Month Moving Average, Billions of USD

Businesses are taking advantage of low interest rates

$30

$30

$27

$27

$24

$24

$21

$21

$18

$18

$15

$15

$12

$12

$9

$9

$6

$6

$3 $0 2004

$0 2005

2006

2007

2008

Source: IFR Markets and Wells Fargo Securities, LLC

Wells Fargo Economics

$3

Investment Grade Corporate: May @ $23.7 Billion

28

2009

2010

2011

2012

2013

High Yield Corporate Bonds

High Yield Corporate Issuance 3-Month Moving Average, Billions of USD $50

$50 High Yield Corporate Issuance: Apr @ $26.9 Billion

$45

As investors search for yield among exceptionally low interest rates, bond issuance has gained momentum

$45

$40

$40

$35

$35

$30

$30

$25

$25

$20

$20

$15

$15

$10

$10

$5

$5

$0

$0 04

05

06

07

08

Source: IFR Markets and Wells Fargo Securities, LLC

Wells Fargo Economics

29

09

10

11

12

13

Credit: Changing Relationships

Delinquency Rates Loans at All Commercial U.S. Banks 11% 10% 9%

Delinquencies of real estate loans are significantly different from consumer and C&I loans

11%

Consumer Loans: Q4 @ 2.62% Real Estate Loans: Q4 @ 7.57% C&I Loans: Q4 @ 1.16%

10% 9%

8%

8%

7%

7%

6%

6%

5%

5%

4%

4%

3%

3%

2%

2%

1%

1%

0%

0% 87

89

91

93

95

97

99

01

Source: Federal Reserve Board and Wells Fargo Securities, LLC

Wells Fargo Economics

30

03

05

07

09

11

13

Credit: Changing Relationships

Charge-Off Rates Loans at All Commercial U.S. Banks 7%

7% Consumer Loans: Q4 @ 2.50% Real Estate Loans: Q4 @ 0.83%

6%

Patterns in charge-off rates have also changed

6%

C&I Loans: Q4 @ 0.31%

5%

5%

4%

4%

3%

3%

2%

2%

1%

1%

0%

0% 85

87

89

91

93

95

97

99

Source: Federal Reserve Board and Wells Fargo Securities, LLC

Wells Fargo Economics

31

01

03

05

07

09

11

13

Bank Lending: Money Multiplier

Loan-to-Deposit Ratio At Commercial Banks in the United States

Banks are no longer turning over deposits into loans at the previous pace

110%

110%

105%

105%

100%

100%

95%

95%

90%

90%

85%

85%

80%

80%

75%

75%

70%

70% Loans-to-Deposit Ratio: Mar @ 77.9%

65% 1985

65% 1989

1993

1997

2001

Source: Federal Reserve Board and Wells Fargo Securities, LLC

Wells Fargo Economics

32

2005

2009

2013

Credit

Business credit is poised to grow as standards are relaxed

Standards

Demand

Net Percentage of Banks Tightening Standards

Net Percent of Banks Reporting Stronger Demand

Commercial and Industrial Loans

Commercial and Industrial Loans

100%

100%

60%

60%

80%

80%

40%

40%

60%

60%

20%

20%

40%

40%

0%

20%

20%

-20%

-20%

0%

-40%

-40%

-20%

-60%

-60%

-40%

-80%

-60%

-100%

0%

-20% -40%

C&I Loans to Large & Medium Firms: Q1 @ -7.4% C&I Loans to Small Firms: Q1 @ -7.7%

-60% 92

94

96

98

00

02

04

06

08

10

12

Demand for C&I Loans to Large & Medium Firms: Q1 @ 19.1% Demand for C&I Loans to Small Firms: Q1 @ 15.4%

33

-80% -100%

92

Source: Federal Reserve Board and Wells Fargo Securities, LLC

Wells Fargo Economics

0%

94

96

98

00

02

04

06

08

10

12

Business Lending

Commercial & Industrial Loans by Bank Type Billions of U.S. Dollars $1,800 $1,600

Banks of all types are integral to business lending

$1,800 Foreign Banks: Mar @ $254.1 B Small Domestic Banks: Mar @ $436.5 B Large Domestic Banks: Mar @ $850.5 B

$1,400

$1,400

$1,200

$1,200

$1,000

$1,000

$800

$800

$600

$600

$400

$400

$200

$200

$0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012

Source: Federal Reserve Board and Wells Fargo Securities, LLC

Wells Fargo Economics

$1,600

34

$0

Corporate Profits: Increasing Role of Global Profits

Corporate Profits As a Percent of GDP

Profits as a percentage of GDP are historically high and are being boosted by profits earned abroad

14%

14%

12%

12%

10%

10%

8%

8%

6%

6%

4%

4%

2%

2%

Rest of World: Q4 @ 2.9% Domestic: Q4 @ 9.8%

0%

0% 47

51

55

59

63

67

71

75

79

83

87

Source: U.S. Department of Commerce and Wells Fargo Securities, LLC

Wells Fargo Economics

35

91

95

99

03

07

11

Corporate Profits from Abroad

U.S. Companies listed in the S&P 500 with Greater Than 50 Percent of Sales Abroad (A Sample)

Many U.S. companies rely on the health of international economies

Wells Fargo Economics

             

Goodyear Tire BorgWarner Priceline.com Nike Coca-Cola Heinz Proctor & Gamble Avon Exxon Mobil AFLAC Intel Applied Materials Oracle Johnson & Johnson

36

             

Merck Boeing Eaton Corp.

Emerson Electric Fluor GE 3M Caterpillar Cisco Qualcomm Apple eBay IBM Symantec

Interest Expense: Under Control

Non-fin. Corporate Business: Corporate Interest As a Percentage of Pre-Tax Profits 100%

Corporate interest expenses are declining amid the low-rate environment

100%

80%

80%

60%

60%

40%

40%

20%

20%

Corporate Interest: Q4 @ 20.2% 0%

0% 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12

Source: U.S. Department of Commerce and Wells Fargo Securities, LLC

Wells Fargo Economics

37

Corporate Profits

Corporate Profts Percent of GDP

Corporate profits are at a record share of GDP, however, it may be temporary

16%

16%

14%

14%

12%

12%

10%

10%

8%

8%

6%

6%

Corporate Profits: Q4 @ 14.3% Long-run Average (1982-2012): 10.85%

4%

4% 82

84

86

88

90

92

94

96

98

00

Source: U.S. Department of Commerce and Wells Fargo Securities, LLC

Wells Fargo Economics

38

02

04

06

08

10

12

Corporate Profits: Domestic Profits

Domestic Profits Financial and NonFinancial Corporations, Billions of Dollars $1,200

$1,200

NonFinancial Corporations: Q4 @ $1,106.8B Financial Institutions: Q4 @ $453.8B $1,000

Financial institutions have struggled to see profits rise after the recession

$1,000

$800

$800

$600

$600

$400

$400

$200

$200

$0

$0 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

Source: U.S. Department of Commerce and Wells Fargo Securities, LLC

Wells Fargo Economics

39

Fiscal Policy: Difficult Choices/Chronic Imbalance

Federal Budget Balance Percentage of GDP

The nation has entered uncharted waters in fiscal policy窶馬o balance at 2.75 percent GDP growth

4.0%

4.0%

2.0%

2.0%

0.0%

0.0%

-2.0%

-2.0%

-4.0%

Forecast

-4.0%

-6.0%

-6.0%

-8.0%

-8.0%

-10.0%

-10.0%

-12.0%

-12.0% Budget Balance: Q1 @ -5.8%

-14.0% 2000

-14.0% 2002

2004

2006

2008

2010

2012

2014

Source: U.S. Department of Commerce, U.S. Department of the Treasury and Wells Fargo Securities, LLC

Wells Fargo Economics

40

Federal Debt Held by the Public: Unsustainable

Federal Debt Held by the Public Percentage of GDP, CBO Projection 140%

140% Federal Debt Held by the Public: 2023 @ 77.0%

Federal debt held by the public will likely remain near 80 percent

Projected

120%

120%

100%

100%

80%

80%

60%

60%

40%

40%

20%

20%

0%

0% 40 45 50 55 60 65 70 75 80 85 90 95 00 05 10 15 20

Source: Congressional Budget Office and Wells Fargo Securities, LLC

Wells Fargo Economics

41

Federal Government Spending

U.S. Federal Government Mandatory Outlays Trillions of U.S. Dollars, Projections Begin in 2013 $4.0T $3.5T

The unfunded liabilities of the entitlement programs reflect a commitment to spend in the future

$4.0T Other Programs: 2023 @ $0.3T Income Security: 2023 @ $0.3T Social Security: 2023 @ $1.4T Healthcare Programs: 2023 @ $1.6T

$3.0T

$3.0T

$2.5T

$2.5T

$2.0T

$2.0T

$1.5T

$1.5T

$1.0T

$1.0T

$0.5T

$0.5T

$0.0T 2012

$0.0T 2014

2016

2018

Source: Congressional Budget Office and Wells Fargo Securities, LLC

Wells Fargo Economics

$3.5T

42

2020

2022

Long-term Real GDP Expectations

Real GDP Growth Estimates Comparison to CBO Assumptions, Year-over-Year Percent Change 5%

5% CBO Forecast WF Economics Forecast

4%

Different expectations for future economic growth

Blue Chip Consensus

4%

3%

3%

2%

2%

1%

1%

0%

0% 2013

2014

2015-2018

Source: Congressional Budget Office and Wells Fargo Securities, LLC

Wells Fargo Economics

43

2019-2023

U.S. Government Debt: Who Holds Our Debt?

Top Holders of U.S. Treasuries Billions of Dollars $1,400

$1,400

Feb-11 Feb-12

$1,200

Feb-13

$1,000

Japan and China hold an unprecedented amount of U.S. debt

$1,000

$800

$800

$600

$600

$400

$400

$200

$200

$0

$0 Japan

China

U.K.

OPEC

Source: U.S. Department of the Treasury and Wells Fargo Securities, LLC

Wells Fargo Economics

$1,200

44

Taiwan

Caribbean

Fiscal Policy: Restructuring Continues

Real Government Consumption & Investment Bars = CAGR

Line = Yr/Yr % Change

10%

The government sector continues to be a drag on GDP as state and local governments restructure

10%

8%

8%

6%

6%

4%

4%

2%

2%

0%

0%

-2%

-2%

-4%

-4%

-6%

Government Consumption & Investment: Q1 @ -4.1%

-6%

Government Consumption & Investment: Q1 @ -2.1% -8% 1996

-8% 1998

2000

2002

2004

2006

Source: U.S. Department of Commerce and Wells Fargo Securities, LLC

Wells Fargo Economics

45

2008

2010

2012

Global Growth

GDP Growth Post-Recession Average Annual Percent Change for 2010-2012

United Kingdom Euro area Japan United States

0.7% 1.0% 2.0% 2.1%

South Africa

2.9%

Brazil

The global recovery is being driven by emerging markets

3.9%

Russia

4.1%

Korea

4.2%

Indonesia

6.2%

Turkey

6.9%

Singapore

7.2%

India

7.3%

China 0.0%

9.2%

2.0%

4.0%

Source: International Monetary Fund and Wells Fargo Securities, LLC

Wells Fargo Economics

46

6.0%

8.0%

10.0%

Eurozone Financial Markets: Structural Break in Risk Assessments

10-Year Government Bond Yields Percent 8.0%

8.0% Italy: May 02 @ 3.8%

7.0%

6.0%

Tensions in European financial markets have subsided, at least for now

Spain: May 02 @ 4.1%

Germany: May 02 @ 1.1%

6.0%

5.0%

5.0%

4.0%

4.0%

3.0%

3.0%

2.0%

2.0%

1.0% 2003

1.0% 2004

2005

2006

2007

2008

Source: IHS Global Insight and Wells Fargo Securities, LLC

Wells Fargo Economics

7.0%

United States: May 02 @ 1.6%

47

2009

2010

2011

2012

2013

Global Economies: A Strong Dollar Policy?

U.S. Dollar Index Broad Index

Economic fundamentals and risks abroad will drive the dollar

130

130

120

120

110

110

100

100

90

90

80

80

U.S. Dollar Broad Index: Q1 @ 84.8 Long-run Average (1982-2012): 96.99

70

70 82

84

86

88

90

92

94

96

98

Source: Federal Reserve Board and Wells Fargo Securities, LLC

Wells Fargo Economics

48

00

02

04

06

08

10

12

Outlook Risks

Potential Challenges to the Outlook

 Easier monetary policy brings questions for the dollar, inflation and interest rate outlook

 Fiscal policy: tax increases and/or spending cuts face unsustainable long-run outlook What are the primary risks to the outlook?

 Housing: unable to sustain growth on its own if rates rise?

 European debt crisis weighs on global growth and global credit allocation

 Weak employment growth means less-than-expected real income and spending growth for some consumer segments

Wells Fargo Economics

49

U.S. Forecast

Wells Fargo U.S. Economic Outlook Actual 2012

Real Gross Domestic Product Personal Consumption Inflation Indicators PCE Deflator

1

2010

Actual 2011

2012

Forecast 2013 2014

1Q

2Q

3Q

4Q

1Q

2Q

3Q

4Q

2.0

1.3

3.1

0.4

2.5

1.0

2.2

1.8

2.4

1.8

2.2

1.7

2.1

2.4

1.5

1.6

1.8

3.2

2.0

2.8

1.9

1.8

2.5

1.9

2.3

2.1

2.4

1.6

1.5

1.6

1.3

1.6

1.6

1.6

1.9

2.4

1.8

1.5

1.9

2.8

1.9

1.7

1.9

1.7

1.9

1.8

1.7

1.6

3.1

2.1

1.8

2.1

2

Consumer Price Index Industrial Production

1

Corporate Profits Before Taxes Trade Weighted Dollar Index Unemployment Rate Housing Starts

Forecast 2013

2

3

4

Quarter-End Interest Rates 5 Federal Funds Target Rate

5.4

2.9

0.3

2.3

5.0

6.1

4.8

4.6

5.7

3.4

3.6

3.9

4.4

10.3

6.7

7.5

3.1

4.8

5.2

5.3

5.7

26.8

7.3

6.8

5.3

6.4

72.7

74.5

72.7

73.4

76.2

76.5

77.0

77.5

75.4

70.9

73.5

76.8

78.3

8.3

8.2

8.0

7.8

7.7

7.6

7.5

7.4

9.6

8.9

8.1

7.6

7.2

0.71

0.74

0.77

0.90

0.97

0.96

1.02

1.08

0.59

0.61

0.78

1.00

1.19

0.25

0.25

0.25

0.25

0.25

0.25

0.25

0.25

0.25

0.25

0.25

0.25

0.25

Conventional Mortgage Rate

3.95

3.68

3.50

3.35

3.57

3.40

3.60

3.80

4.69

4.46

3.66

3.59

4.30

10 Year Note

2.23

1.67

1.65

1.78

1.87

1.80

2.00

2.20

3.22

2.78

1.80

1.97

2.70

Forecast as of: April 26, 2013 1 C ompound Annual Growth Rate Quarter-over-Quarter 2

Year-over-Year Percentage C hange

3

Federal Reserve Major C urrency Index, 1973=100 - Quarter End

4

Millions of Units

5

Annual Numbers Represent Averages

Source: U.S. Department of Commerce, U.S. Department of Labor, Federal Reserve Board, Freddie Mac and Wells Fargo Securities, LLC

Wells Fargo Economics

50

Appendix

Wells Fargo Economics Group Publications

Recent Special Commentary Date April-29 April-23 April-19 April-15 April-12 April-03 April-02

To join any of our research distribution lists please visit our website: http://www.wellsfargo.com/ economics

March-25 March-25 March-21 March-20 March-20 March-15 March-11 March-07 March-05 February-28 February-25 February-20 February-18 February-15 February-11 February-11 February-11 February-07 February-05 February-04 February-04 January-25 January-25 January-24 January-15 January-15 January-14 January-09 January-04 January-02 December-19 December-19 December-18 December-17 December-13

Wells Fargo Economics

Title

Authors

Is the U.K. Economy (Finally) Turning the Corner?

Stability Ratios: Judging Economic Volatility How Stationary Is My Economic North Star? Part II Fiscal Policy: Not Your 1960s' Model for Investors Easy Money: Japan's Policy Gamble What is Driving Auto Sales Higher?

Will Fed Tightening Derail Developing Economies?

Bryson Silvia & Iqbal Silvia & Iqbal Silvia & Brown Quinlan Aleman & Brown Bryson

Identifying Change: Did the Great Recession Alter Credit Sweden and Denmark: So Close, Yet So Far Apart Argentina's Economy Slows Down Considerably in 2012 How Stationary Is My Economic North Star?

Florida's Economic Recovery Continues To Build Momentum Arizona: Back from the Brink Mexican Central Bank: Concerned By Slowing Inflation Government Spending: Three Faces of Change Commercial Real Estate Chartbook: Quarter 4

Silvia, Iqbal & Watt Bryson Aleman Silvia, Iqbal & Swankoski Vitner & Silverman Aleman & Griffiths Aleman Silvia & Brown Vitner, Khan & Silverman

Emerging Market Debt: A Looming Problem?

Economic Impact of Budget Sequestration Economic Outlook and the Banking Sector Sequestration: Which States Are Most Vulnerable?

The Chinese Financial System: Year of the Turtoise?

Student Loans: A Different Financial Market Strong Contraction in Mexican Industrial Production Housing Chartbook: January 2013 European Debt Dynamics: An Update Alabama's Big Wheels Keep on Turning When Is This Time Different?

The Brazilian Economy Continues to Struggle

Bryson Silvia & Brown Silvia Vitner & Brown Bryson Silvia & Watt Aleman Vitner, Khan & Silverman Bryson Vitner & Silverman Silvia, Iqbal, Watt & Swankoski Aleman

Bank of Japan Joins Other Central Banks British Economy Remains Quite Weak Is Commercial Real Estate Still an Inflation Hedge?

A Decision Maker's View of Fiscal Policy California's Broadening Economic Recovery Peruvian Economy: Still Going Strong National Health Spending: Secular Growth Cyclical Slowdown Employment: So, Is This It? A Fiscal Cliff Resolution? Not Really

Quinlan Bryson Khan Silvia Vitner Aleman Silvia & Swankoski Silvia & Watt Silvia & Brown

Texas: Growth in a Weakening World Environment Canada: Economic Rock Star Faces Big Challenges Fiscal Cliff and True Reform Housing Chartbook: November 2012 2013 Economic Outlook

Aleman & Griffiths Quinlan Silvia Vitner, Khan & Silverman

52

Wells Fargo Securities, LLC Economics Group Global Head of Research and Economics

Economists Azhar Iqbal, Econometrician………………………………azhar.iqbal@wellsfargo.com

Diane Schumaker-Krieg ………………… ….diane.schumaker@wellsfargo.com Global Head of Research & Economics ……

Tim Quinlan, Economist …………………………………..tim.quinlan@wellsfargo.com

Chief Economist John E. Silvia …

Michael A. Brown, Economist ………………… michael.a.brown@wellsfargo.com

...................... …

Sarah Watt, Economist

john.silvia@wellsfargo.com

.

…………………………… .sarah.watt@wellsfargo.com Economic Analysts

Senior Economists

Kaylyn Swankoski, Economic Analyst Mark Vitner, Senior Economist……………....………. .

Jay Bryson, Global Economist

.

mark.vitner@wellsfargo.com

Zachary Griffiths, Economic Analyst

…………………....……….jay.bryson@wellsfargo.com

Sam Bullard, Senior Economist

Sara Silverman, Economic Analyst

sam.bullard@wellsfargo.com

Peg Gavin, Executive Assistant.

Eugenio Aleman, Senior Economist………………….eugenio.j.aleman@wellsfargo.com

Cyndi Flowe, Senior Administrative Assistant

.…

zachary.griffiths@wellsfargo.com sara.silverman@wellsfargo.com

Administrative Assistants

Nick Bennenbroek, Currency Strategist ……nicholas.bennenbroek@wellsfargo.com

Anika Khan, Senior Economist

kaylyn.swankoski@wellsfargo.com

peg.gavin@wellsfargo.com cyndi.h.flowe@wellsfargo.com

. anika.khan@wellsfargo.com

Wells Fargo Securities Economics Group publications are produced by Wells Fargo Securities, LLC, a U.S broker-dealer registered with the U.S. Securities and Exchange Commission, the Financial Industry Regulatory Authority, and the Securities Investor Protection Corp. Wells Fargo Securities, LLC, distributes these publications directly and through subsidiaries including, but not limited to, Wells Fargo & Company, Wells Fargo Bank N.A., Wells Fargo Advisors, LLC, Wells Fargo Securities International Limited, Wells Fargo Securities Asia Limited and Wells Fargo Securities (Japan) Co. Limited. Wells Fargo Securities, LLC. (“WFS”) is registered with the Commodities Futures Trading Commission as a futures commission merchant and is a member in good standing of the National Futures Association. Wells Fargo Bank, N.A. (“WFBNA”) is registered with the Commodities Futures Trading Commission as a swap dealer and is a member in good standing of the National Futures Association. WFS and WFBNA are generally engaged in the trading of futures and derivative products, any of which may be discussed within this publication. The information and opinions herein are for general information use only. Wells Fargo Securities, LLC does not guarantee their accuracy or completeness, nor does Wells Fargo Securities, LLC assume any liability for any loss that may result from the reliance by any person upon any such information or opinions. Such information and opinions are subject to change without notice, are for general information only and are not intended as an offer or solicitation with respect to the purchase or sales of any security or as personalized investment advice. Wells Fargo Securities, LLC is a separate legal entity and distinct from affiliated banks and is a wholly owned subsidiary of Wells Fargo & Company © 2013 Wells Fargo Securities, LLC. SECURITIES: NOT FDIC-INSURED/NOT BANK-GUARANTEED/MAY LOSE VALUE Important Information for Non-U.S. Recipients For recipients in the EEA, this report is distributed by Wells Fargo Securities International Limited (“WFSIL”). WFSIL is a U.K. incorporated investment firm authorized and regulated by the Financial Services Authority. The content of this report has been approved by WFSIL a regulated person under the Act. WFSIL does not deal with retail clients as defined in the Markets in Financial Instruments Directive 2007. The FSA rules made under the Financial Services and Markets Act 2000 for the protection of retail clients will therefore not apply, not will the Financial Services Compensation Scheme be available. This report is not intended for, and should not be relied upon by, retail clients. This document and any other materials accompanying this document (collectively, the “Materials”) are provided for general informational purposes only.

Wells Fargo Economics

53