May 21 , 2003
In the past three months, the U.S. economy has lost more
than half a million jobs. The
average worker who still has a job has seen the weekly paycheck grow only enough
to pay the higher prices for energy. State
and local governments remain about $38 billion short of balancing their
collective budgets, although tax increases, wage freezes, and spending cuts have
begun to close their constitutionally mandated gap between revenues and
If I did not know better, I would say this is a
prescription for the beginning of a recession.
Yet very few economists, including myself, are willing to draw that
conclusion. There are two reasons
for our optimism: stimulative
policies and inherent dynamics.
The stimulative policies are easy to see.
Most homeowners have repeatedly lowered their monthly mortgage payments
by refinancing their mortgages. Furthermore,
the lower cost of financing as a result of lower interest rate targets is
beginning to create profit growth for corporations even if no revenue growth is
to be seen.
On the budgetary side, federal spending has been growing
almost 9 percent after adjustment for inflation as home security, armed
conflict, and new health and education initiatives have preserved strong
spending growth. At the same time,
tax cuts have lowered the amount of each dollar earned that is kept by working
To be sure, the timing of these tax initiatives has not
been ideal. The initial $130
billion annual reduction in tax liabilities did blunt the magnitude of the
downturn, but an early rebate actually led to reduced tax stimulus as the
recovery stalled. Now, arguments
about the form of tax cuts is preventing the reality of reduced taxes from
pushing withholding down. Most of
the forecasts assumed that about $80 billion of further annual reductions in tax
liability already would be aiding households by the end of June.
Although any tax reductions probably will be retroactive to
the first of this year, their form will not be known until right before Congress
adjourns. Moreover, most taxpayers
wait until they see the reduced burdens before they begin to spend the proceeds.
Thus, stimulus from reduced tax liability may not begin surfacing until
the spring of next year.
Despite these timing difficulties, there will be economic
stimulus from tax reductions, and they will be needed.
Therefore, the monetary and budgetary policies are largely supportive of
economic growth. This normally leads to some expansion of economic activity
with the year that some positive policies are put into place.
Even so, I would not be looking for strengthening growth in
the second half of this year if the conditions were not right for such a
rebound. Too many inventories
signal recessions. When inventories
are lean, as they are now, only the smallest improvement in sales can lead to
strong gains in production. Conversely,
no inventory overhang is leading to order cancellations. (A little bit of retail excess developed after weather
removed the Presidents' Day sales, but that excess sales stock was quickly
removed after the snows melted).
There clearly is little need for a surge in housing
activity. Pent of demand has long
since been met. However, the low
monthly payments for home ownership are pulling households out of rental units.
This will create some problems for apartments, but more resources are
used to meet the housing need of the home buyer.
Housing will not fall until interest rates rise, and that requires
significant economic strength elsewhere.
Consumes clearly have little pent up demand either.
Credit has been available and auto and furniture sales have been strong.
Indeed, some economists believe that the consumer has been so responsive
to incentives that they have too much debt to sustain current levels of
spending. If the size of debt was
the most important factor, debt burdens would be a concern.
However, lower month payments mean that the percentage of the monthly
paycheck needed to pay those credit bills has been falling;.
A smaller percentage of monthly is needed for bill repayment than last
year or the year before that.
While I have explained away forces that others have used to
argue for further economic weakness, where do I find these inherent dynamics
that lead to economic strength.
While corporations were waiting for revenue growth , the
capacilities of the computer softer, office equipment and production facilities
continued to improve. Many
IT officers know that they can lower their costs and hold their budgets at the
To be sure, there is too much capacity.
Also, weak performance has reduced the availability of capital for many
companies. But even here, inherent
dynamics are working. Falling interest charges are slowly lowering the finance
charged need to maintain prevailing acitivty.
This is beginning to release resources for cost savings investment.
Much of this equipment pays for itself in cost containment in a year or
Once the sales begin, then higher orders will add to credit
opportunities. Slowly but surely,
spending will improve and so will the credit quality of corporate American.
When capital spending si growing (unfilled orders began growing last month) some jobs will be generated. This will push upon demand for other goods. Only after growth becomes unsustainable, as it periodically does, will such spending support create any concern. In the meantime, This economy is looking for opportunities to improve, not ones to dump people. And even that suggests that strengthenng rather than weakening growth is likely in the second half of this year.