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Has U.S. economy dodged a recession?

A day after reporting a big drop in first quarter economic , the government provided fresh data showing the economy rebounding and adding new jobs at a healthy clip. A stronger-tha-expected jobs report beceomes the latest piece of economic data indicating that a fairly convincing turnaround may already be under way. By’s John W. Schoen.

A day after reporting a big drop in first quarter economic growth, the government provided fresh data showing the economy rebounding and adding new jobs at a healthy clip. Ordinarily, reports of a sharp slowdown might set off alarm bells among investors and economic forecasters. But the lousy first-quarter numbers reported are history: the latest economic data for April and May indicate that a fairly convincing turnaround is already under way.

Businesses also seem to be getting back in a hiring mood. After a string of subpar monthly gains in employment, hiring in May picked up again. Employers boosted payrolls by 157,000, up from 88,000 in April, while the held steady at 4.5 percent. The payroll numbers were about 20,000 stronger than most economists were expecting

The pickup in hiring was also seen in a monthly jobs report from payroll processor ADP, which said Wednesday that private employers added 97,000 jobs in May. Because the survey does not include government workers, which have been gaining by about 25,000 a month, the ADP numbers suggest that roughly 122,000 jobs were created in May, according to Joel Prakken, chairman of Macroeconomic Advisers, which jointly manages the data collection with ADP.

“Almost all of this job growth is coming from companies of small and medium size,” said Prakken. “But it is worth noting that for the first time since November of last year, there actually was an increase in employment at large firms in May.” 

What a difference a few months makes. After a relatively good showing of 2.5 percent growth in the fourth quarter of last year, the U.S. economy slammed on the brakes in the first three months of 2007. Originally pegged at 1.6 percent growth, the government Thursday revised that estimate downward to just 0.6 percent — barely dodging an outright downturn.

An ongoing slump in the housing market, along with layoffs in construction, real estate, mortgage banking and other related industries, has weighed heavily on the economy. Big financial losses by U.S. car makers have also brought widespread layoffs in auto manufacturing.

Fearing a further slowdown, businesses cut back sharply on inventories in the first quarter to avoid getting caught with unsold goods. That only made the slowdown worse.

But over the past two months, there have been signs that business is picking up again. One of the latest came Thursday from a closely watched index of buying by purchasing managers, which moved higher than expected in May and showed strong growth in manufacturing across a broad range of industries. So the sharp cut in inventories in the first quarter may already be helping the economy get back on its feet again.

“When we go into the second quarter, we're going in with lean inventories,” said John Bitner, chief economist with Eastern Investment Advisors. “So the demand will be met from actual production. And we expect the second quarter to rebound.”

There are other promising signs in economic data released since the books were closed on the first quarter. Consumer spending remains relatively strong. So do corporate profits.

Meanwhile, the Federal Reserve is continuing its “steady-as-she-goes” policy of trying to let the economy gradually pick up speed — without overheating. At their May 9 meeting on interest rates, the central bankers said they felt that inflation was still a bigger threat than a worsening slump, according to minutes released Wednesday.

But those minutes made clear the Fed’s assessment that the economy is not out of the woods yet, a belief shared by some private economists. The slow-motion unwinding of the housing market remains one of the biggest concerns. With this year’s spring selling season washed out, many forecasters don’t expect a rebound in housing until next year at the earliest.

Many borrowers who got in over their heads in the recent mortgage lending spree have yet to formally default on their loans, and foreclosures on those loans are expected to remain high through 2007. If housing prices continue to fall, that could put a deep crimp in consumer spending. That has some market watchers warning that a further housing downturn could bring a recession with it.

“In each of the seven prior housing declines, six of them ended up in full-blown recessions, one ended in a mini-recession,” said Hugh Moore, partner at Gerhard Advisors. “We believe we'll have a recession in late '07, early '08.”

Economists surveyed this month in the closely watched Blue Chip economic forecast pegged the odds of a recession within the next year at 26.1 percent — up slightly from 24.4 percent in the prior survey. But they still see the economy picking up stream in the current quarter. On average economists expect second-quarter GDP growth of 2.2 percent, according to the survey.

While most forecasters see growth picking up, that outlook is based on both interest rates and inflation remaining low. The Fed already has said inflation is running too high to justify a cut in short-term rates. Long-term rates have stayed relatively low in part because of strong investment, especially from overseas.

That investment is being fueled, in part, by strong global growth — especially in emerging economies like China and India.  A slowdown in those economies could reduce the flow of cash to the United States. That, in turn, could force interest rates higher, creating a major headwind for the U.S. economy.

Energy prices are another wild card that could throw off forecasts for a slow but steady recovery. So far, record gasoline prices haven’t put a dent in demand at the pump, and consumer spending on other purchases continues to hold up. But with that spending responsible for 70 percent of U.S. economic activity, any slowdown by consumers could take a big bite out of the overall economy.