Belt Tightening Seen as Threat to the Economy
By DAVID LEONHARDT
The New York Times
July 15, 2001
<<Like many other American consumers, Steven Saint-George has suddenly gone from being a source of the economy's strength to a reason to fret about its future.
After having bought his first home, purchased a new sport-utility vehicle and taken four weekend trips to California in the last year, Mr. Saint- George was laid off two weeks ago from his $75,000-a-year job at an online real-estate company. Now he and his wife are considering selling their new truck, delaying some landscaping work on their home and trying to pay off their credit-card debt.
"We haven't made changes yet, but we will," said Mr. Saint-George, who is 35 and lives in the mountains north of Phoenix. "The idea is to spend a little more wisely, to be a little more frugal."
Whether it is a lost job, a shrunken retirement account or a debt level that has reached its limit, consumers are now finding new reasons to consider cutting back on their spending. As a result, while many experts still expect the American economy to pick up a bit of speed, they say the recovery may be limited — and that the risk of a recession remains significant.
"I'm worried about the consumer — not putting away their wallets but using them a little less," said Alan S. Blinder, an economics professor at Princeton and a former vice chairman of the Federal Reserve. "It wouldn't take much downward movement in consumer spending to cause a recession."
There are many reasons why consumers may not be able to keep up the spending spree. For starters, they are poorer: the net worth of Americans fell last year for the first time since the government began keeping statistics in 1945. In the first quarter of this year, it fell an additional 4 percent.
The best labor market in 30 years has also soured. From April through June, 300,000 jobs disappeared, and companies like Corning (news/quote) and Motorola (news/quote) have announced more cuts this month. Growth in personal income, adjusted for inflation, has dropped below a 2 percent annual rate for the first time since January 1996.
Until now, Americans have kept up their standard of living by increasing mortgage and credit-card debt at the same time. But history suggests that both are unlikely to continue rising in tandem.
"Consumers have held the economy afloat this past year, and we can't count on that to continue," said Mark Zandi, chief economist of Economy.com, a consulting firm in West Chester, Pa. "A number of the supports of consumer spending are wavering."
Most analysts are still guardedly optimistic about the economy's prospects this summer, largely because the coming tax rebate, falling energy prices and lowered interest rates should effectively put more money in Americans' pockets. But many say the forces that have underpinned rising consumer spending so far may not be sustainable.
Consumer spending is so important because it amounts to more than two-thirds of gross domestic product in the United States. In the last nine months, consumer spending has risen at about a 3 percent rate on an inflation-adjusted basis.
This has allowed the United States economy to grow about 1 percent in that span — even though business spending on new equipment and software, which had been advancing almost 15 percent a year in the late 1990's, suddenly fell.
In other recent economic slowdowns, consumers reined in their spending before the corporate sector — often in response to higher interest rates engineered by the Federal Reserve. Businesses then followed, reacting to a drop in revenue, and the slowdown ended only when interest rates fell and the pent-up demand of consumers caused them to increase buying.
In this economic cycle, however, the strong dollar, the glut of products in many industries and the collapse of the dot-com stock-market bubble meant companies were the first to pull back. As a result, the economy is facing an unusual period of uncertainty, with many analysts saying they do not know whether consumer spending will remain strong — or even accelerate — or whether it will soon follow the path of corporate spending.
"For the first time in memory, the business sector is driving this," said Allen Sinai of Decision Economics in New York. "The consumer won't be out of the woods until the business sector turns around."
In effect, there is now a tug-of-war between the downward pull of a deteriorating job market and the government's effort to lift the economy by cutting interest rates and income taxes.
If people who keep their jobs continue buying enough goods and services to maintain consumer-spending growth of close to 3 percent, Mr. Blinder said, the economy will reach "a safe haven" toward the end of this year, when companies should be stronger. But if consumer spending drops, businesses may have to make even more job cuts, further weakening people's ability to afford new items.
So far, consumers have kept the economy growing, if only slightly, by continuing to take on more debt. In 1998 and 1999, consumer-credit debt was increasing about 5.5 percent a year. By the end of 2000, with people needing new sources of money, the growth rate surged to 12 percent and remained there early this year, according to Economy.com.
At the same time, a fall in interest rates at the start of the year caused the number of people applying to refinance their mortgages each month to more than triple. On average, Americans hold mortgages worth about 45 percent of the value of their homes, compared with 35 percent at the end of the 1980's, according to the Fed.
The simultaneous rise of the two types of debt was atypical because people usually refinance their mortgage in part to pay off other debts. This time, it appears that many of them used the money for consumption.
"To me, that's a sign of distress, and I don't think it's sustainable," Mr. Zandi said. In fact, the growth of both kinds of debt has slowed in recent weeks.
By itself, debt rarely forces people to change their spending habits, economists say. But, in the event of a layoff or a loss of overtime hours, it can cause people to cut their expenses more significantly than they otherwise would.
Mr. Saint-George, for example, said that when he was making a good salary, he and his wife could comfortably make the monthly payments on their large auto loan and $9,000 in consumer debt. Now that he is unemployed, though, they expect to sell their Infiniti truck and replace it with a car that has lower monthly payments and gets better gas mileage. They are also not planning any more trips to California to visit friends.
And while he expects to find a new job within a month or so, he said he would not be surprised if he had to take a pay cut of as much as $10,000 a year. All the uncertainty makes him want to pay off their loans even when he does find new work.
"You just kind of pare down all around because you don't have the same level of income," Mr. Saint- George said.
Economists agree that wages and employment are the most important factors determining consumer spending. While unemployment remains lower than it was at almost any point in the last 30 years, it is expected to continue rising for the rest of the year.
Last week, the government reported that the number of Americans filing new jobless insurance claims rose to 445,000 in early July, its highest level in nine years.
Besides adding to the ranks of those without steady incomes, the continuing layoffs also affect those already looking for new work. Since losing his job as a recruiter of engineers in April, Mark P. Weiss has applied for about 200 jobs over the Internet and received only two responses, both negative.
"A lot of the companies I've called are cutting back," said Mr. Weiss, 31, who lives in Dallas. He and his wife no longer eat out or cook steak at home and try to buy brands of food that are on sale. He has also begun to look for work outside of his field.
"The pay in retail is a whole lot less," Mr. Weiss said. "But financially, I'll get to the point where some income is better than no income.">> |
