November 10, 2003
by Irwin Stelzer
Here in Washington, the November 2004 election is not a year away—it is now. So the Bush team is trying to figure out how fast the economy has to grow to create political capital faster than the mounting death toll in Iraq can drain it out of the president’s coffers. Take away the economy as a stick with which the Democrats can beat the president, and all they are left with is an unpopular attack on a leader of his nation at war, and a policy that looks suspiciously like abandoning our troops.
A combination of the president’s tax cuts, Federal Reserve Board chairman Alan Greenspan’s multiple interest rate reductions, and a bit of the famous Bush luck now seems likely do the trick for the president. Of course, even the wildest optimist in the White House is not counting on the third quarter, 7.2 percent growth rate, to continue in the four quarters remaining until the voters have to decide whether to send George W. Bush back to Texas or renew his lease at 1600 Pennsylvania Avenue.
For one thing, consumers, whose spending has helped the economy to avoid a major recession, have already spent their tax refund checks. Bridgewater Associates, a consultancy, estimates that almost $14 billion in child credit checks were mailed in July and August, and other sources guess that consumers immediately spent about three-quarters of their windfall. And they are no longer cashing in on the rising value of their homes to the extent that they did earlier in the year. Applications for refinancings have fallen in half from their May peak, and are likely next year to come to only $300 billion, as compared with the $600 billion that will be the end-of-2003 total. So, by the end of the last quarter, consumer spending was dropping off. Personal consumption dropped by 0.3 percent in September—0.6 percent if we adjust for inflation.
But even if consumers spend a bit less next year, the economy looks set to grow very rapidly, probably at a rate even higher even than the robust 4.5 percent the Fed is predicting for the fourth quarter of this year. Consumers may not get all of the windfalls they reaped from tax refunds and so-called refis in 2003, but they will be getting refunds next year from taxes paid in 2003, but then retroactively lowered by Bush. And rising share prices should make them feel better about continuing to visit the shops and malls.
Which brings us to business spending. Goldman Sachs polled all of its industry analysts to get their views on the capital spending plans of the industries they cover. If the companies in the 49 industries covered stick to the plans reported by their executives, they will spend 9 percent less this year than last, and hold to that lower level in 2004. Bad news for the president.
Pay no attention, one of America’s leading money managers told me. “Corporate executives are lagging indicators. Business is strong across the book.” Another equally prominent Wall Street manager of billions, who also chose not to be identified, told me that her models show that rising free cash flow is likely to drive business investment up by 5 percent next year, and that all signs are that the recovery is gathering momentum, even in the financial community, where Christmas stockings will be bulging with higher bonuses than in past years. Jude Coard, a senior partner in a New York accounting and consulting firm that represents a cross section of medium-size businesses, agrees, although with somewhat less enthusiasm. He says that although his clients are troubled by rising health care costs, which rose for employer-sponsored plans by almost 15 percent this year, “There is some sense that there is a corner being turned; they are just waiting for a little more good news before expanding.”
My own view is that the optimists have it right, and that we may be in the early stages of a sustained period of economic growth. The service sector is growing. Manufacturing activity is on the rise, both to meet demand and to make up for past caution that has allowed inventories to drop to unsustainably low levels. New orders are at their highest level since mid-1994. Unfilled orders for non-defense capital equipment are 6 percent higher than they were when the year started. Construction spending is at its highest level in history. Profits are beating expectations by a wide margin, and free cash flow is increasing. Business productivity, which grew at the eye-popping annual rate of 7.4 percent in the third quarter, continues to outstrip the increase in nominal wages by a substantial amount, driving up profit margins. Larry Lindsey, former White House economist, says that “a year from now, profitability will be closing in on 12 cents per dollar of output, close to its 1997 peak of 12.6 cents.”
Best of all from the president’s point of view, the unemployment rate dropped from 6.1 percent to 6.0 percent in October, and the economy added 270,000 non-farm jobs in the past two months. Bush’s election team has long maintained that if the unemployment rate is below 6.0 percent and falling by election day, the president will win in a romp.
Despite renewed growth and rising materials prices, the Fed is promising to hold interest rates down. Talk in Washington is that Greenspan, whose policies many believe were responsible for the weak economy that cost the elder Bush reelection in the “It’s the economy, stupid” campaign, may be unwilling to burn a second Bush by raising rates before next year’s election. Then, up they will go.
As one Washington wag put it to me, “If we can’t grow the economy when interest rates are zero, billions of dollars in tax refunds are showered on consumers, and the government is running huge deficits, we should all go back to school to learn what makes a modern economy tick.” Right now, it seems that no tutorials are necessary.
This article appeared in London’s Sunday Times on November 9, 2003.
Irwin Stelzer is a Senior Fellow and Director of Economic Policy Studies for the Hudson Institute. He is also the U.S. economist and political columnist for The Sunday Times (London) and The Courier Mail (Australia), a columnist for The New York Post, and an honorary fellow of the Centre for Socio-Legal Studies for Wolfson College at Oxford University. He is the founder and former president of National Economic Research Associates and a consultant to several U.S. and United Kingdom industries on a variety of commercial and policy issues. He has a doctorate in economics from Cornell University and has taught at institutions such as Cornell, the University of Connecticut, New York University, and Nuffield College, Oxford.
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