Where Goes The US Economy?
Lester Thurow is chairman of the Sloan School of Management at
the Massachusetts Institute of Technology (MIT) and on NPQ's advisory
Cambridge, Mass. - Growth rates are plunging in America (down from
5.6 percent in the second quarter to 2.4 percent in the third quarter),
slowing in Europe, and still stagnant in Japan. In America Christmas sales
were no higher than they had been a year earlier. President Bush is already
talking about how his tax cut is needed to prevent a recession in 2001.
Ideally, the rest of the developed world would economically accelerate
while the US is decelerating, but it isn't going to happen. The better
performance of the rest of the world in recent months is highly dependent
upon export sales to the US. When America slows, those export sales slow.
When the Federal Reserve Board has an emergency meeting and cuts rates
by half a percentage point (it normal moves rates by only a quarter of
a point at its regular monthly meetings), it's a signal that something
dramatic is happening. Board members get access to data earlier than the
rest of us.
The last time the Fed cut interest rates by half a point at an emergency
meeting was September 1998-when Russia was collapsing and Long Term Capital
Management was threatening to bring down Wall Street. Just two months
ago the Fed still saw inflation as the biggest danger to be avoided. Now
the only question is whether a recession will be avoided.
All the ingredients for an American recession are in place. Interest rates
affect the economy with a lag, and until January the Federal Reserve Board
(essentially the central banker for the global economy) was raising interest
rates to deliberately cause a slowdown in the American economy.
The positive effects of a cut in interest rates won't show up for a few
months. Energy price increases and a cold winter have taken purchasing
power away from the consumer. Energy bills are up and something else has
to go down. Stock market wealth is down and the consumption that happens
when Americans feel richer is disappearing. Big-ticket items such as automobile
sales were down sharply in December.
Consumer spending is already as high as consumer income. Savings rates
are near zero and cannot be cut further to finance consumption. Credit-card
debt is so high that few consumers can safely go more deeply into debt.
Higher consumption spending is unlikely to come to the rescue.
Corporate profits are falling. Some industries, such as telecommunications,
are sharply cutting back on investment. Dot-com failures are a daily event
in the new economy. Bankruptcies are also up in the old economy. Several
large American retailers went out of business after the bad Christmas
season. They join some steel and airline companies.
These are not the only American industries with too much capacity. An
economic slowdown will speed up such consolidations.
Technically for economists, a recession is a six-month period of time
with negative growth rates. For the average person or business firm it
doesn't much matter whether growth rates are slightly above or slightly
below zero. Tough times, rising unemployment rates and falling profits
arrive long before growth rates go negative for six months. Widespread
declines in corporate profits, for example, have already arrived. The
question of whether a technical recession will actually occur is still
a betting issue. I think it is about a 20 percent probability.
The Federal Reserve Board will continue to cut interest rates, but the
Fed's power to slow the economy is much greater than its power to speed
up the economy. One can pull on a string but one cannot push on a string.
If consumers and businesses come to the conclusion that the time has come
to cut outstanding debts, lower interest rates on new debts to finance
new investments are irrelevant.
In the telecommunications industry we see a number of companies (AT&T
and British Telecom for example) selling assets to lower debts. If one
wants to be really pessimistic, an American slowdown or recession triggers
a foreign trade crisis. With a current account deficit running at about
$450 billion, that amount of foreign funds has to flow into the US to
finance this trade deficit each and every year. The necessary funds have
been flowing into the US because the American economy was growing faster
than the rest of the world and because the American stock market was booming.
With the economy slowing and the stock market falling, why should the
rest of the world want to continue investing in America?
If the decision is made not to invest in America, the value of the dollar
falls sharply and Americans further cut back on their purchases of imports.
At the same time there would be pressures to raise American interest rates
to keep the necessary foreign funds flowing and to keep those invested
in America from leaving. The Fed would face a big dilemma. Lower interest
rates to prevent a recession or raise interest rates to prevent a foreign
exchange crisis. If economics is the dismal science, it is time for being
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