The Sky Isn't Falling
Federal Reserve Board Chairman, Alan Greenspan, recently delivered his semi-annual report to the Senate's Committee on Banking, Housing, and Urban Affairs. Mr. Greenspan often seems to have the weight of the national, if not the global economic well-being on his shoulders. The good news is that, as a central banker, his shoulders are pretty broad.In his testimony, Mr. Greenspan identified and expressed concern for the condition of a number of major economic indicators. As the personification of our central bank, which is the world's most powerful monetary organization, it's comforting to listen to him identify various components of our economy, and cite reasons why they are as they are, and how to fix those that need fixing. For me it's sort of like listening to a mechanic you trust to know his way around your car.
But there is one economic force that seems to have the Chairman somewhat flummoxed. And when he talks about it, I don't get that same comforted feeling. I'm talking about consumer confidence, and here is Mr. Greenspan's most recent comment about it:
"It is difficult for economic policy to deal with the abruptness of a break in confidence... Looking back at recent cyclical episodes, we see that the change in attitudes has often been sudden..."
"This unpredictable rending of confidence is one reason that recessions are so difficult to forecast. They may...be...a different process engendered by fear. Our economic models have never been particularly successful in capturing a process driven in large part by nonrational behavior."
There - that last sentence - that's the stuff that keeps central bankers up nights. Economists don't like things that can't be "captured" with an economic model.
The CC Indicator
Here's what Mr. Greenspan is worried about. According to the January 30, 2001 report by The Conference Board, "The Consumer Confidence Index fell in January for the fourth consecutive month. The Index now stands at 114.4, down from 128.6 in December. Consumer confidence has not been at this low a level since December 1996, when it was 114.2."
If you want bad news about the economy, you don't have to try too hard to find it. Just read the paper, listen to the news, or open your mail. Energy prices are simultaneously dousing discretionary income and rekindling inflation. The unemployment numbers, while still relatively low, are creeping up. The news out of major corporations is mostly about layoffs being up and profits being down. Auto sales are way off. Technology purchases are waning.
As distressing as these facts sound, and as real as they may be, I think it is important to recognize that they also represent the short view.
The Corner
If I stand you in a room facing the corner, your short view is pretty limited, right? But how would your perspective change if I turned you around so you could see that your corner was actually part of a great banquet hall holding the most wonderful smorgasbord of all time?
I think what is happening to consumer confidence these days is that we are spending too much time facing the corner. We are focusing on what we have lost recently, instead of what we have gained over the last several years. Now let's focus on the long view.
The Smorgasbord
Let me introduce you to what has happened to the U.S. economy in the last decade. The following statistics are from the February 9th edition of The Kiplinger Letter. The first number is from 1990, and the second number is from December, 2000, if not more recent:
Real Gross Domestic Product (billions): $6732 / $9402
Federal deficit / surplus (billions): -$278 / +$86
Unemployment: 5.5% / 4.0%
Inflation rate: 4.8% / 3.4%
Productivity growth for past 12 months: 1.0% / 4.3%
Per capita personal income: $22,836 / $25,640
Poverty rate: 13.5% / 11.8%
Prime lending rate: 10.0% / 8.5%
30-year mortgage rate: 10.0% / 7.4%
S&P 500: 356 / 1320
Housing starts (annualized, in millions): 1.2 / 1.6
Annual car and light truck sales (annualized, in millions): 13.9 / 17.2
The foregoing facts are evidence that when you take the long view, away from the corner, our national economic condition is pretty darned strong. So why aren't consumer's more confident?
Wealth Effect / Poor Effect
A couple of years ago, Mr. Greenspan coined a now-famous term, "wealth effect", which the Chairman believed manifested when consumers in possession of shares of overvalued stocks tallied their tickers and felt wealthy just by knowing the "on paper" total. Clearly, for several years our economy benefited from consumer confidence resulting from the wealth effect.
As you may know, one of our Brain Trust members is the president of the Federal Reserve Bank of Dallas, and a member of the Federal Open Market Committee. During Dr. Robert McTeer's last visit on my show in January, I reminded him about the Chairman's term, and asked him if, with the NASDAQ off by as much as 50% in less than a year, he thought we may now be experiencing a phenomenon that I termed the "poor effect". His answer was yes.
During his testimony to the Senate committee, Mr. Greenspan, obviously not yet aware of my term, said it this way: "...consumer spending decisions have become increasingly responsive to...the value of households' holdings of equities. As a consequence, changes in stock market wealth have become a more important determinant of shifts in consumer spending...".
Based on the non-emotional indicators cited in his report, Mr. Greenspan allowed that the growth of our economy is currently "near zero". As I read the Chairman's report, and listened to his responses to questions by senators on the panel, I got the feeling he thinks that whether we actually have a recession in 2001 will be based more on consumer confidence than anything else.
The Twin Remedies
Mr. Greenspan's Fed has one of the antidotes to the consumer confidence virus in his control: Lower interest rates. We received a couple of rate reduction doses in January from the Federal Open Market Committee in the form of two half point drops in the Fed Funds Rate, which precipitated a drop in the prime lending rate by banks from 9.5% to 8.5%.
If His Chairmanship and the FOMC are really worried about consumer confidence, I predict we'll be given another rate reduction shot-in-the-arm in March, and another one no later than the third quarter. It's clear that the Fed now realizes the six increases they imposed in 1999 and 2000 went way too far. By my estimation, the Fed still owes us at least three quarters of a point. I'll remind Dr. McTeer of this when he joins me on my show in a couple of weeks. But in fairness, I must tell you that Bob is a fellow traveller: He was the courageous lone dissenter against the first two rate increases in 1999.
The other remedy is tax cuts - lot's of big ones: Lower marginal rates retroactive to 1-1-01; lower capital gains rate, also retroactive; elimination of the marriage tax penalty; elimination of the Alternative Minimum Tax; and elimination of the Death Tax. Yes, I fully subscribe to President Bush's $1.6 trillion tax cut proposal.
Mr. Greenspan helped President Bush out with pro tax cut language during his recent testimony. Once again giving a nod to tax cuts, he told the committee that consumer confidence was such a concern that "we should take whatever actions we can to reduce the probability that [a recession] will occur." I think that meant "Hey guys, the Fed can't solve this economy problem all by itself. You guys have got to help us a little."
What About The National Debt?
Should we be concerned about the national debt? Good question. Many Americans are wringing their hands over our national obligation. According to the U.S. National Debt Clock, this ticket is $5.6 trillion and change. But my friend and Brain Trust member, Gary Moore, former senior vice president of investments for Paine Webber, would tell us that thinking about our national debt without recognizing our national assets is the same as facing the corner. Turn around and look at the banquet hall of national assets, which Gary says totals over $55 trillion. Any company with a 1:10 debt-to-equity ratio would be considered extremely sound financially, with the only immediate danger being from a takeover attempt. Bet you never thought the national debt could be viewed as good news!
Our Part
As consumers, we should be prudent, not reactionary, and certainly not exhibit "nonrational behavior." As business owners, as I have been saying for weeks now, we should focus on operating fundamentals, invest time and resources in efficiencies, and do our part to encourage our customers' confidence.
If Mr. Greenspan is right, whether we have a recession or not will be due more to our behavior than any of the other economic indicators.
WRITE THIS ON A ROCK... Chairman Greenspan should have considered quoting that noted possum philosopher, Pogo, who said it best when, as he surveyed the problems in his swamp observed "We have met the enemy, and he is us."
