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The Honolulu Advertiser
Posted on: Sunday, August 26, 2001

U.S. economy keeps waiting for that rebound

USA Today

So where's the recovery?

Federal Reserve Chairman Alan Greenspan acknowledged on Tuesday that business profits continue to weaken despite a series of rate cuts and recent tax rebates.

Associated Press

The high interest rates and elevated energy prices that were holding the economy back last winter have fallen dramatically, and an aggressive tax-rebate program has been flooding consumers with cash for a month now, with more to come.

So far, though, there's little sign that the worst slump in a decade is letting up. Economists have abandoned earlier predictions that the economy would snap back quickly from last winter's abrupt slowdown, and even most of the optimists now say we're in for at least several more months of sluggishness. Look for a rebound, they say, sometime this winter. Maybe.

The longer the economy remains weak, the greater the risk that some unforeseen shock could knock it into an outright recession — if it's not already in one. But even when the rebound does show up, propelled by the current round of tax rebates and the Federal Reserve's rate cuts, it's not likely to be very exciting.

"You may start to get signals in the next few months that the tax cut and lower interest rates are starting to play a role, but that's not the same thing as strong growth," says Kim Schoenholtz, chief economist for Salomon Smith Barney.

Many business executives have been even gloomier. In June, American Airlines CEO Don Carty saw nothing to indicate an economic turnaround this year. American had been saying it might lose money this year if the economy failed to improve.

If anything, things are looking worse. In a Securities and Exchange Commission filing recently, American said it now expects to lose money in the current quarter and for the year.

As Carty suggests, recovery signs are very faint. Corporate profits have fallen sharply, dragging business investment down to recessionary levels. That's one reason last year's high-tech boom has fallen flat. The nation's factory sector is deteriorating more slowly, but is still mired in its own yearlong recession. And there are hints the job losses that have plagued manufacturing might be spreading to the much bigger service sector. Consumers, the last prop under the sagging economy, are still spending — but at a rate that's less than half what it was last year.

More rate cuts possible

Federal Reserve policy-makers are worried enough about the slump that they continued to lower their target for short-term interest rates Tuesday, knocking a quarter-point off the benchmark overnight rate to 3.5 percent and reversing earlier signals that they might be almost done cutting rates.

As far back as the May meeting, internal minutes showed that Fed policy-makers thought they were close to the point where they could coast and let the aggressive rate cuts made since January do their work. But they've cut rates twice since May, and many Fed watchers think they'll keep cutting rates until there are clear signs of a rebound.

In testimony to Congress in July, Fed Chairman Alan Greenspan said that until officials saw "more concrete evidence" that businesses had disposed of bloated inventories and were moving to raise capital spending, the economy would still be in danger. In their statement Tuesday, Greenspan and his colleagues noted that business profits and capital spending "continue to weaken."

Most economists believe that the powerful medicine of lower interest rates, this time coupled with tax rebates, has to work because it always has. The question is when. Even the optimists counsel patience.

"The worst is over," Merrill Lynch told its clients last week. But "a true recovery is still some months away." Merrill Lynch says the combined impact of $38 billion in tax rebates, as much as $30 billion in savings from falling energy prices and $50 billion in lower consumer interest expenses is unstoppable. "All that should boost consumer spending during the second half," the firm says.

Maybe so. But economists still aren't sure how consumers will respond. Are shoppers worried enough about the job market to hunker down and trim spending?

Lehman Bros. economists have been particularly bullish about the tax rebates, noting shortly after the checks began arriving last month that the rebates and the broader tax cut should provide a "major stimulus" to spending. But after watching retail sales for a few weeks, the firm's economists noted that sales in the first week of August were "a bit disappointing."

Last week, Lehman Bros. chief economist Stephen Slifer said Redbook retail sales data for last week showed that sales had gained a meager 0.2 percent from July — before the rebates — much less than the 0.8 percent to 0.9 percent gain Lehman Bros. had been hoping to see.

Lingering doldrums

Even if the tax rebates help boost consumer spending, economists aren't sure that will be enough to kindle a sustainable recovery.

"If the tax rebates fail to snap consumers out of their doldrums and layoffs further shake confidence, the economy will lose its remaining leg of support," warns Greenwich Capital Markets.

The Fed's interest rate cuts may be losing some of their punch with consumers as well. For consumers with fixed-rate credit cards, rates won't fall further. And consumers with variable-rate cards may have already hit rate floors set by card issuers.

Some analysts see signs that things might get worse before they get better. The International Strategy and Investment Group says that since 1957, every time the stock market finally hit bottom during a recession, it began a strong comeback within three months.

But it has been four months since stocks hit their April lows, and there's little sign investors are able to look past bad profit numbers to pull together a sustained rally. That increases the risk that the market could sink to a new bottom before rebounding.

The International Strategy and Investment Group cut its growth projection for the July-September quarter from 1.5 percent to 0.5 percent. Economists believe that when the government releases revised numbers on Wednesday, the April-June quarter will turn out to be the first episode of shrinking economic output since early 1993. That's when the economy was still feeling the effects of the "jobless" recovery from the 1990-91 recession.

Too soon to tell

As if the economy didn't have enough homegrown problems, an unusually pervasive global slowdown is making things worse, squeezing exports when U.S. businesses need all the sales they can get. "The real reason for the (economy's) lack of traction is that this is really a global recession," says Anirvan Banerji, director of research for the Economic Cycle Research Institute.

Still, economists caution that it would be foolish to write off the power of the Fed. "It's still too soon, historically," to judge the effectiveness of the rate cuts, says Anthony Chan, chief economist for Banc One Investment Advisors. Chan and others note that rate cuts traditionally take from six months to a year or more to work. The Fed began cutting rates in January. But some analysts say it wasn't until April that the cuts had gotten large enough to neutralize the Fed's earlier rate increases.

"In the scheme of things for monetary policy, we're still only in the fifth inning," Chan says.

With conditions looking grimmer than forecasters earlier this year thought, some analysts who were formerly the most downbeat are turning optimistic.

When most of her colleagues said the economy would avoid a recession, Tucker Anthony chief economist Kathleen Camilli insisted that's exactly what this downturn was. "The consensus wasn't looking for a recession. Similarly, now that everyone's filled with doom and gloom, I'm already trying to be upbeat." Camilli says the downturn could be in the process of hitting bottom, the necessary prelude to a rebound early next year.

But even when the economy does turn up enough for economists to call it a recovery, it probably won't feel like time to celebrate.

"Draw yourself a picture of the business cycle and focus on the downside," says Ken Mayland of ClearView Economics.

"As soon as that cycle bottoms and turns higher, economists say, 'Aha, the recovery's begun.' But the business executives will say, 'Yeah, but we're still down X percent from the previous peak, so business is bad.' ... It's kind of like we speak a different language."

Ian Shepherdson, chief U.S. economist for High Frequency Economics, says several signs hint that things are turning up. The factory deterioration has slowed, initial unemployment claims have retreated from their June highs and consumer confidence has ticked up a bit.

"I just don't buy for a minute that there's no recovery coming," says Shepherdson, insisting that a rebound is "probably already underway."

But Shepherdson says it will take until sometime next year before growth rises to levels that will make businesses and consumers feel good again. "In the meantime," he warns, "jobs will continue to be lost and earnings will stink."