Quick Action Can Save The Expansion
It is now clear that the U.S. may be entering its first New Economy recession. The onset has been sudden and severe, and the end is by no means in sight. The Federal Reserve's decision to cut short-term interest rates by 100 basis points in one month is dramatic and unusual by historic standards. But this business cycle is very different from previous ones, and still more aggressive action may be needed.
The real danger is the sharp falloff in capital investment. Economic growth over the past decade has been propelled by corporate spending for information technologies. Such IT spending boosted productivity even while it provided jobs for millions of tech workers. But in the fourth quarter of 2000, capital investment in equipment and software actually dropped at a 4.7% rate, after years of double-digit increases. This drop, unexpected by most economists, is hitting the overall economy like a brick.
Washington should be aware that the new technologies hold the power to speed the economic decline. With more data available faster, companies can react very quickly to cut costs. Adjustment to excess inventories and excess spending on capital equipment appears to be quick and brutal. Investment plans are being slashed and corporate layoffs are being announced at a tremendous clip.
But the speed of the business reaction on the downside is no guarantee of an equally fast recovery. That's why the Fed should not stop with just two rate cuts. It's also why Congress and the Bush Administration should quicken their negotiations and agree on a front-loaded tax cut, which gets more money in people's pockets as quickly as possible.
The absence of serious inflationary pressures coupled with a huge budget surplus allows the Fed and Congress great latitude in combating the decline. With luck, and quick policy action, the New Economy expansion can regain its momentum and roll on for years to come.