Unemployment is falling. The housing market is rebounding. Consumers are paying off their debts. And the big banks are healthy.

The U.S. economy that earned President Barack Obama a second term looks nothing like the mess that he inherited four years ago. Instead of shrinking and shedding jobs, the country is growing at an annual rate of 2 percent and businesses are handing out new paychecks at a monthly average of 157,000 so far this year.

That doesn’t mean the world’s largest economy is thriving. The U.S. has been growing below its historical trend since March, according to the three-month moving average of the Chicago Federal Reserve Bank’s National Activity Index, a blend of 85 indicators measuring employment, production, housing and consumption.

Danger looms in the form of $607 billion automatic spending cuts and tax increases known as the fiscal cliff, scheduled to take effect at the beginning of 2013. A simmering sovereign debt crisis that has sapped Europe’s commercial strength poses another risk. Few economists, in any event, expect a return to the robust growth of the late 1990s, when median household income rose for six consecutive years.

“The economy is okay right now, but there are worries about potential headwinds next year,” said economist Chris Rupkey of the Bank of Tokyo-Mitsubishi in New York.

Erasing Question

Obama’s election victory last night erases a question mark that has shadowed the economy all year while he and Republican Mitt Romney, two candidates with sharply divergent views of government’s appropriate role in the economy, dueled for the presidency.

While the specifics of tax, spending and regulatory policies remain to be written, investors now at least know what direction will be taken by the White House. Obama’s victory means renewed political pressure to raise taxes on high-income individuals and on investment income.

Though Republicans in Congress have pledged to oppose tax increases, the president will claim a fresh mandate to eliminate the George W. Bush administration’s tax cuts for the wealthy and raise taxes on capital gains income.

Obama also is likely to fulfill campaign promises to protect spending on infrastructure, education and clean-energy manufacturing.

Even with Obama’s vision being endorsed by voters, the country’s deep partisan divide will be an obstacle to politically painful compromises such as tax increases or reductions in entitlement benefits.

Deal Framework

Obama and the Republican speaker of the House, John Boehner of Ohio, came close to a deal on debt and deficit reduction during talks a year ago, providing a potential framework for an agreement that would provide more certainty on long-term U.S. finances. The president’s re-election also leaves backers of the new health-care and financial services laws in charge of finalizing key regulations.

A commitment Obama has made to corporate tax reform opens the possibility of a lower tax rate for businesses at the cost of losing lucrative tax deductions. Most economists argue that tradeoff would improve long-term economic growth.

There are many details that remain to be hammered out in negotiations between the White House and congressional leaders.

“There are trillions of dollars of adjustment in taxes and spending that are coming, and it’s not clear who’s going to bear them,” said economist Jason Thomas, director of research for the Carlyle Group, a private equity firm in Washington.

Economic Challenges

As policymakers begin grappling with the nation’s fiscal challenges, there are reasons for both optimism and concern about the economy. New oil and gas supplies are being tapped in states such as North Dakota and Pennsylvania, making the U.S. more attractive for a variety of new industrial investments.

Yet, more than three years after the recession’s end, the economy’s total productive capacity remains below its April 2009 peak and no greater than in April 2007, according to the Federal Reserve. Business spending on non-defense capital goods, excluding aircraft, also has disappointed. September’s $60.4 billion in new orders was 9.2 percent below this year’s high point in February.

“It’s not moving in the direction we want it to,” said economist Drew Matus of UBS Securities LLC. “If people are reducing their capital stock, they’re not planning for future growth.”

The Federal Reserve, which has been optimistic forecasting the economy’s performance, anticipates an acceleration next year to a growth rate of 2.5 percent to 3 percent.

Cautious Notes

Others are more cautious. Thomas monitors the economy through the companies that Carlyle owns. The number of shipping containers being loaded onto rail cars by one of them, In- Terminal Services of Tinley Park, Illinois, suggests growth won’t exceed 1.7 percent, he said.

October’s 7.9 unemployment rate was a full percentage point below the rate one year earlier. The last time — and the only time since monthly records began in 1948 — that the jobless rate plunged so far so fast during a political year Ronald Reagan was running for re-election.

Even as private companies last month added 184,000 new workers, the labor market gains haven’t been widely felt. More than 5 million Americans have been unemployed for six months or longer, greater than the number when the recession ended in June 2009.

Workers’ Pay

Likewise, the recuperating economy has done little for workers’ pay envelopes. Adjusted for inflation, average hourly earnings in September were 0.1 percent below the year-earlier figure. “This recovery is different and quite limited for some workers,” John Silvia, chief economist of Wells Fargo Securities, wrote in a Nov. 2 note to clients.

Consumers have made significant progress whittling down the debt load that has hamstrung recovery from the recession. Household debt as a share of disposable income fell to 113 percent in the second quarter from a peak of 134 percent in 2007. Consumers are spending less than 11 percent of their income servicing such debts, the lowest figure in almost 18 years, according to Federal Reserve data.

The housing market, where falling prices shaved $6.6 trillion from Americans’ net worth between 2006 and 2011, is no longer acting as a drag on the economy. The S&P/Case-Shiller 20- city index rose 2 percent in August from a year earlier, underscoring a comeback that includes new home sales at a more than two-year high.

Housing Growth

In the third quarter, housing added 0.33 percentage points to the overall 2 percent annual growth rate, according to the Bureau of Economic Analysis. Residential investment grew 14.6 percent to a seasonally-adjusted annual rate of $388 billion, according to the Bureau of Economic Analysis.

Such spending could be headed higher. Residential investment is running $490 billion short of its 1947-2000 annual average, according to Jason Thomas, director of research for the Carlyle Group, a private equity firm based in Washington.

Residential investment, which drove mid-2000s economic boom, would have to grow by 24 percent annually for four years to return to its long-term trend, Thomas said.

Four years after several major banks nearly failed, the U.S. also boasts a fortified banking system. The 19 largest banks have boosted their capital backstops by more than $300 billion to $760 billion, Federal Reserve Board Chairman Ben S. Bernanke said in a May speech. Large banks also have more than doubled their holdings of cash and securities and cut their reliance upon borrowed funds.

Stress Tests

The changes enabled the big banks to pass a government stress test that subjected them to a hypothetical 13 percent unemployment rate and a 50 percent stock price plunge. U.S. banks would be able to “withstand a period of intense economic and financial stress and still be able to lend to households and businesses,” Bernanke said.

They may get a real-world test if the global economy continues to weaken. Business surveys reflect spreading weakness, with Japan, France and Germany expected to join Spain and Italy in recession, according to Capital Economics Ltd. In a Nov. 6 research note, Andrew Kenningham, the firm’s senior global economist, warned of “significant downside risks” for global growth.

(Source: Bloomberg)