Industry Outlook 2004


The return of the dot-com boom? Hardly. But after wilting for two years, the info-tech market will stage a broad rally. That includes PCs, chips, software, and other high-tech accoutrements. Even telecom spending should inch up.


When are cost increases of 7% a good thing? When you're talking about health care. That rate for 2004 is lower than the prior two years. Still, the slowdown won't stop companies from passing more costs on to workers. Yes, that's a headache -- but popping a pill may just make it worse. Meds will cost more, too.


In traditional manufacturing, only the steelmakers can bank on a rosier year ahead. Car companies can't complain too much, either, since sales will keep coasting. Gains in defense won't quite offset weakness in commercial aviation. And businesses and consumers may not like what's coming in energy.


Can a company outsource everything? Not quite, but auditors and consultants are steeling themselves for more competition offshore. The travel biz sees globalism through a different lens -- international flights will be up. But the overall services industry faces some thorny issues. Advertisers must deal with TiVO-armed viewers skipping ever more ads. As for retailers, high- and low-end chains will be squeezing the middle.


Continuing financial scandals aren't likely to stop investors from plowing money into mutual funds. For commercial and investment banks, 2004 won't be as sweet as the year just ended.

Boom times again? It may soon seem that way. The U.S. economy is finally beginning to hit its stride, with gross domestic product set to expand by 4.3% this year, up sharply from the 3% estimated for 2003 and a big improvement from the feeble 2.2% the year before. Stock market investors, commodities buyers, and many folks in Washington -- at least the reelection-minded Republicans -- agree with the economic prognosticators. "It should be a very good year -- the best for business since the 2000 boom," says Mark M. Zandi, chief economist at Inc., the West Chester (Pa.) consulting firm.

Many business leaders, however, aren't so bullish. Amid big uncertainties -- Iraq, the surging federal deficit, and the war on terrorism -- the 2004 outlook remains clouded by the complicated effects of strong productivity growth. Surging productivity lets companies make more with less. In industries enjoying strong demand, that means soaring profits because of a combination of rising sales volumes and falling costs. But for sectors facing sluggish demand, productivity growth results in nothing more than excess capacity. Productivity has zoomed at an annual average pace of 4.4% since 2000, despite the 2001 recession, up from just 1.8% in the first half of the 1990s.

In industries such as telecom, air transportation, banking, construction, and some sectors of basic manufacturing, for instance, capacity still exceeds demand. That constrains the power to raise prices and restore profit growth. All that spare horsepower also explains why unemployment rates may linger at about 6% for much of this year, or even rise slightly in the first quarter. Despite the buoyant GDP forecasts, "the economy is improving slowly," says Abbott Laboratories (ABT ) CEO Miles D. White.

While many of the arrows point upward, the excesses of past exuberance -- rational or otherwise -- will cast a shadow over some sectors, maybe for years. Boeing Co. (BA ) and Europe's Airbus are now flogging gleaming new jets, for instance, but airlines still have plenty of planes to haul out of mothballs if traffic rises. And even as prospects brighten for the long-suffering telecom sector, telcos remain awash in fiber-optic cable. Manufacturers of all kinds have room to ramp up production -- or, increasingly, move more overseas -- before rehiring workers or building new factories. "The growth rates expected by most forecasters are solid enough to reduce the degree of slack in the economy," says Chicago Federal Reserve Bank President Michael H. Moskow. But "it could take some time to effectively eliminate it."

The strength of recent growth numbers -- especially the third quarter's 8.2% annualized gain -- have some execs scratching their heads. Many companies that supply other manufacturers (rather than consumers) are still waiting for order books to fatten. "I haven't been able to explain the difference between a modest upswing in manufacturing and the 8% growth rate," says a puzzled W. James McNerney Jr., CEO of 3M Co. (MMM )

The rebound, in fact, is proving surprisingly uneven.'s forecasters expect that the roaring gains of the second half of 2003 will continue through the first half of this year as tax refunds arrive. But then -- barring any surprise government spending or election-year tax cuts -- the surge will taper off, interest rates will rise, and consumer spending will slow. The annualized GDP growth rate in the closing quarter of this year could slip below 3%, down from the 4.2% expected in the first quarter. Measured year over year in the fourth quarter, GDP gains might slow from just above 4% in 2003 to about 3.8% in 2004.

CAPACITY CREEP. That makes the challenge of excess capacity loom even larger. American industry overall was using just 75.7% of its capacity at the end of November, according to the Federal Reserve. That's down more than 8 percentage points from the heady days of late 1997 and well below the 81.3% 30-year average. While there will be healthy growth -- three-fourths of execs surveyed by the 45,000-member Institute for Supply Management expect corporate revenues to be higher this year than last -- the economy still won't perform anywhere near full tilt. expects capacity utilization to creep up to 78% by the end of 2004.

With so much slack in the economy and inflation in abeyance, the Federal Reserve is likely to keep short-term interest rates low. The federal funds rate, currently at a 45-year low of 1%, isn't likely to be raised until mid-2004. Long-term interest rates have increased somewhat, slowing the home refinancing boom, but shouldn't go sharply higher in the new year.

Still, even the slight rise in long-term interest rates to date is having negative effects. Single-family housing construction, which surged 7% last year, to an impressive 1.46 million starts, is apt to decelerate, with builders breaking ground on perhaps 3.6% fewer new homes this year, according to the National Association of Home Builders. By contrast, the long-glutted office market should work off much of the surplus that helped drive a 10.5% decline in office construction last year, in square feet, and could grow 5.1% this year. "The worst of the office correction is over," says Robert A. Murray, chief economist at McGraw-Hill Construction, which, like BusinessWeek, is a unit of The McGraw-Hill Companies (MHP ).

Execs in plenty of other sectors won't be complaining. Energy producers already have seen demand rise, and their prices are expected to dip slightly, at worst. Insurers are looking at fresh gains as their premium income rises. And, at least early in the year, Detroit will likely see an uptick in sales, helped by cut-rate -- cutthroat, even -- financing.

But consumer-dependent businesses such as retailing will have trouble matching their 2003 results. Consumer spending is poised to rise just 3.6%, to about $7.02 trillion. That's why execs in industries such as travel and hospitality -- sensitive to both discretionary spending and business outlays -- say their optimism is tinged with anxiety. Gary C. Kelly, CFO at Southwest Airlines Co. (LUV ), argues the airline industry's recovery "is not on firm footing. There's just not enough volume to create firm pricing."

Business investment will grow faster.'s forecasters expect a brawny 14.8% rise in fixed investment, to $1.18 trillion, as the inventory buildup in companies jumps some $36 billion -- nine times larger than last year's rise. Growth in business spending is helping industries such as trucking and railroads -- suddenly hard-pressed to meet resurgent demand -- along with commercial construction and commercial banking.

The uptick in business spending should further drive growth in high tech, helping chipmakers, PC companies, and software firms with productivity-enhancing business programs. Some 63% of 236 CFOs surveyed by Financial Executives International and Duke University's Fuqua School of Business plan to hike capital spending in 2004.

Some industries will cut extra capacity by closing U.S. facilities and moving work abroad. Manufacturers, particularly, will continue rushing to China to lower costs. The likely U.S. losers: furniture, electrical equipment, appliances, computers, and electronic product assembly. Last year, China gained 147,000 such jobs, from all nations, and it will pick up more in 2004. At the same time, many U.S. sectors will remain saddled with unwanted capacity. For those able to make more than customers can buy, it may take a few healthy years to work it off.

By Joseph Weber with Michael Arndt, Robert Berner, and Brian Grow in Chicago, Wendy Zellner in Dallas, and Peter Coy in New York

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