HOW MUCH MORE CAN THE ECONOMY TAKE?
Is the U. S. in the longest recession in the postwar era? Despite two quarters of tepid growth, the economy now faces that sobering question.
Fading hopes for a sustainable recovery took a body blow in early December. Washington's revisions to third-quarter gross domestic product and a recession-size drop in November employment raised fears that a new period of economic contraction is unfolding.
The latest job numbers show that net payroll employment fell by 241,000 workers last month and that the percentage of hiring industries is rapidly shrinking (chart). The November job loss was on a par with the worst posted during the winter months of the recession, and it all but wiped out the few gains made since April.
For an economy desperately seeking growth in jobs and incomes to get consumer spending back on track, the report was shattering. No recovery can proceed against job losses of that size. And wave after wave of corporate layoff announcements assures that more cuts are on the way (page 24 20 ).
The government's GDP revisions were also a stunner. They showed that final sales fell last quarter, that inventory growth more than accounted for the economy's gains, and that consumers' real income didn't grow at all. Against that backdrop, the economy faces tough sledding this winter.
Now, economists are making some revisions -- to their forecasts. They have cut their average projection for the current-quarter annual growth rate by more than half, from 2.8% in October to 1.3% in December, according to Blue Chip Economic Indicators, a monthly survey of 50 forecasters. They have trimmed their first-quarter growth projections from 2.9% to 1.8%.
That still may be too optimistic. Most measures of economic performance began the fourth quarter below their third-quarter levels, strongly suggesting a drop in this quarter's real GDP. Blue Chip reports that an increasing number of forecasters predict outright declines in both quarters. Also, the latest survey was taken during the GDP revisions and before the dismal job data, so the projections are likely to go lower.
The latest data also got the attention of the Federal Reserve. On Dec. 6, it lowered its target for the federal funds rate by a quarter point, to 4 1/2%. That was the 14th cut since the recession began last July, when the rate stood at 8 1/4%. Since its peak at 9 3/4% in the spring of 1989, the rate has come down by more than half.
And there is more to come. In the past five recessions -- counting the back-to-back downturns in 1980 and 1981-82 as one -- the federal funds rate dropped by an average of two-thirds. Also, the real funds rate, adjusted for inflation, remains higher than at its trough in past recessions, when it has typically turned negative.
Two factors suggest that the Fed will ease policy further: The outlook for inflation amid new economic weakness is brighter, and the increasingly pro-growth mix on the Fed's policy committee imparts a greater bias toward ease. The central bank may well decide to shave another quarter point off the federal funds rate by yearend at its policy meeting on Dec. 17.
If so, expect a half-point cut in the discount rate, to 4%. That move will allow banks to cut the prime rate by a half point to 7%, the lowest since 1977, and it will put the discount rate at the lowest point since 1967.
Fed Chairman Alan Greenspan's remarks on Dec. 6 made it clear that he is still concerned about the growth-depressing combination of heavy debt, bad loans, and lending caution by banks. A month ago, Greenspan likened these problems to a "50-mph headwind" buffeting the economy. In the wake of the latest data, Fed Vice-Chairman David W. Mullins Jr. in a speech on Dec. 10 upped the speed to 75 mph.
Clearly, the Fed is planting the seeds of a true recovery, although they may not sprout until next spring because of the usual lags. The M2 money supply picked up in both October and November, finally showing the first signs of responding to past Fed easing.
Also, lower rates are slowly allowing consumers to reliquify their debt-laden financial positions. That puts more income in people's pockets. By one estimate, mortgage refinancing alone will add some $50 billion, at an annual rate, to consumer spending by spring. And except for revolving credit, consumers continue to lighten their burden of installment debt (chart).
Installment credit rose slightly in October, up $802 million, after a smaller increase in September. However, the advance probably means that consumers are paying off their debt at an even slower pace than they are taking on new credit. Households are having a hardtime unloading their old IOU's, and that will drag outthe reliquification process.
During the past year, installment debt is down by 0.7%, and most types are falling as a percentage of disposable income -- a typical recession pattern. The only exception is revolving credit. That's a red flag that consumers may be using their credit cards as a last-ditch source of funds.
Another problem: High long-term interest rates are holding up progress on housing and consumer finances. Because of the bond market's worries about inflation and Treasury financing, long rates are still lofty compared with the Fed-engineered drop in short-term rates (chart).
However, the threat of more recession makes deflation a greater risk than inflation, so price growth should slow further. Also, based on comments by Treasury Secretary Nicholas J. Brady on Dec. 5, the Treasury may begin to sell fewer 30-year bonds in an effort to shorten its maturities and take some upward pressure off rates. All this should allow long rates to move lower.
Lower rates will eventually work their magic, but for now, the combination of weak income growth, declining final demand, and faster-than-desired growth in inventories is a killer. It sets up the classic recession cycle, as losses in output and employment further depress income and spending.
The November job report was, at least, a mitigated disaster. The Labor Dept. reported some onetime seasonal-adjustment problems that made the decline look worse than reported. And construction employment, which dropped by 95,000, was depressed by snowstorms.
But even accounting for all that, the overall losses far exceeded the expectations of most economists. Nonfarm employment is now only 93,000 higher than the recession's low point in April. If health care jobs had not grown by an impressive 256,000 since April, employment in November would stand at a new cyclical low.
Retail jobs were especially scarce last month. After seasonal adjustment, they fell by 111,000, as stores fearing poor holiday sales added far fewer workers than usual.
Manufacturers also trimmed their November payrolls, cutting 33,000 workers after similar-size losses in September and October. The factory workweek held steady, at 40.9 hours, but that's down from August and September. All this means that industrial production went nowhere for the fourth consecutive month.
Outright declines in factory output are a good bet as winter wears on. Carmakers have already slashed plans for first-quarter output, and falling auto production always has a broad impact on Detroit's supplier industries.
But problems in manufacturing go beyond Detroit. Unfilled orders plunged in both September and October (chart). So companies will have to depend on fresh demand to keep their production lines running at a time when new orders are slowing. If manufacturing goes under again, it will take the rest of the economy with it.
The record length of postwar recessions is 16 months, a span reached in both the 1973-75 and the 1981-82 downturns. If the economy is indeed headed back into the soup, November was month number 16 -- and counting.JAMES C. COOPER AND KATHLEEN MADIGAN