Is That an Economic Light at the End of the Tunnel or an Oncoming Train?


When it comes to the state of the economy, is the worst behind us or still to come? Informed opinion is all over the map. The optimists are citing such factors as accommodative Federal Reserve Bank policy (massively increased liquidity), bank profitability (and yes, banks are lending, but only quality loans), money velocity (trending up), a positive yield curve (long-term vs. short-term rates), housing starts (surging), favorable financial rule changes (abandonment of mark-to-market accounting, reinstatement of the short uptick rule to prevent naked short-selling), retail sales (recovering), commodity prices (rising due to increased industrial demand), used car prices (firming), and new vehicle sales (rising off their sickening lows).

Pessimists are pointing to job losses, bankruptcies, business closings, unfunded liabilities, budget deficits as far as the eye can see, potential for high inflation, the debt overhang, and more. They don’t believe any good news is real or sustainable. On housing, for example, they say prices have further to fall, and that new construction is mostly in condominiums, apartments and townhouses, not detached single family residences.

But that’s disputable. In fact the housing trend has become much more positive. In California, existing home sales have jumped 30% over the past year, taking the inventory from an estimated 16.7 months to less than seven months.

Nationwide, existing home sales have been on the rise for the last few months, with strongest growth occurring in Sunbelt markets in Arizona, Nevada and Florida, as well as in California. These are the places that experienced some of the greatest surges in prices, but have now seen declines of as much as 50% below peak, allowing new buyers to purchase affordably.

If there is one iron-clad rule when it comes to the life cycle of recessions, it is that when things get cheap enough, buyers appear.

In other words, there is a bottom somewhere, if for no other reason than even after the worst disaster, survivors must move ahead with their lives. And we all have to buy the basic staples (even the bare necessities add up to billions of dollars in expenditures). Will we completely change our lifestyles, living in smaller places, driving smaller cars, consuming less, become more frugal, less ostentatious, opting for voluntary simplicity, etc.? Fugetaboutit. I get asked about this during every downturn and I always say the same: only those who already have everything seem to buy into the notion of doing with less. And, as it turns out, they have to spend freely in order to impress themselves that they are living frugally.

Going socialist?
Some observers have said that if we continue down the current economic, social and political path, we will become like the social democracies of Western Europe, characterized by slow growth, heavy government involvement in all businesses an industries, high taxes and regulations, and a resultant lower quality of life. Others – say, those who have visited Europe and like what they see – say they would welcome the guaranteed health care, education and pension. If I may offer some personal and professional insight into the argument, as I have lived in, worked in, studied, researched and written about the European system, I would say the model is not transferable to the States, and is likely itself unsustainable even in Europe.

Europe suffers from consistently slow growth, permanently high unemployment, aging populations, declining birthrates, rising fiscal deficits, and, worst of all, little prospect of change. The labor market is less flexible, regulations are onerous, fewer new businesses are formed, spending on research and development is lower than in the US. With so much regulation and “national champions”, barriers to competition are higher.

Europeans are less productive, work less and earn less. And no, contrary to Jeremy Rifkin (The European Dream), this represents more than a voluntary choice of more leisure and lifestyle over income. A Federal Reserve Bank of Minneapolis study found that Europe’s higher taxes explain almost all the difference in labor-force participation rates between Europe and the US. When European tax levels were comparable, European work hours were similar. Having lived among the natives in the “café society” I can confirm that when marginal tax rates are confiscatory, the best and brightest will indeed either “go Galt” (withhold their full efforts from the labor market), or seek opportunities elsewhere abroad.

Entrepreneurs and innovation – not ever expanded government – will save the US economy, but those are in short supply in Europe. We excel in them here, but they require low taxes, low levels of regulation, low barriers to entry and operation, the freedom to hire and fire freely, etc.

What about consumers and consumer spending, such an important component of economic activity? Optimists point out that most people (upwards of 90%) are still working, earning, making their mortgage and credit card payments – and spending, if at a less frenetic pace. Pessimists see the credit contagion as spreading. They point to devastated domestic balance sheets, due to collapsing home values, declining net worth and reduced financial spending power.

I can here also offer some personal and professional insight, from my long association with the Institute for Business Cycle Analysis: our own US Consumer Demand Index, the only monthly survey of American consumers which measures actual buying intentions (as opposed to sentiment, confidence or opinion, all of which are of course subjective). We query over 1,000 households a month on their specific spending plans across a broad range of durable and non-durable goods. We don’t ask their opinion of which direction the country is going, or on how good a job they think the President is doing. We ask them, are you, or are you not, in the next three months, going to be buying a car, PC or TV, white goods, home furnishings, kitchenware, toys, etc. In the case of food/groceries and clothing/shoes, we ask whether they are going to be purchasing more, less or the same amount as in the corresponding period of last year. Regarding those durable goods, we also ask, uniquely, if their household has no plans to be buying anything in those categories during the next three months. This gives us some unique insight into real consumer behavior.

Our March data show a fairly strong upturn (from a very depressed level of -37 to a less depressed level of -11). This is a significant improvement, but we will refrain from calling a bottom or turnaround until we see our three-month moving average in positive territory for three consecutive months. (On the basis of this March report, the three-month moving average improved only one point, from -26 to -25, so there is still a long way to go, but the positive direction and momentum is encouraging.)

[Feel free to contact me for a copy of the US CDI and subscription information (or feel free to visit Our monthly surveys, which have been conducted since February 2001, give a fairly accurate forecast of the strength and direction of the PCE (Personal Consumer Expenditures) and ISM (Institute for Supply Management) indexes 4 to 6 months ahead of official data.]

So where do I stand? I believe the tide is starting to turn – the rate of decline in most major economic indicators is clearly slowing. The forward looking stock market is well off its lows. In our latest CDI survey, the percentage of consumers declaring themselves on the sidelines decreased from the record high level of 68.4 in February to the still awful 62.2 in March (at least we’re moving in the right direction!).

So is that flickering light we see the end of the tunnel or an oncoming train? Ask me in two months. I would offer a stronger opinion, but everyone in the "foreseeing” business ought to be properly humble from now on.

Dr. Roger Selbert is a trend analyst, researcher, writer and speaker. Growth Strategies is his newsletter on economic, social and demographic trends; is his web site on retail trends. Roger is US economic analyst for the Institute for Business Cycle Analysis in Copenhagen, and North American agent for its US Consumer Demand Index, a monthly survey of American households’ buying intentions.