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In trying to analyze the current and future performance of the economy, consider the following:
* the state of the economy before the disruptions to activities from the terrorist scare,
* the impact of the terrorist attack and the ongoing war effort, both positive and negative,
* the congressional economic stimulus proposals,
* the impact of interest rate cuts, both past and future,
* impact of federal and state budgets.
The economy was already in decline before the events of September 11. Unemployment was increasing, bankruptcies were on the rise, office vacancies were increasing implying reduced future commercial construction, and personal wealth had dropped at least partly as a result of the decrease in the stock market. Federal government tax revenues were declining implying a smaller surplus, and states were for the first time in years facing potential budget cuts, as revenue appeared to be declining. The only positives for the economy were personal spending and housing. Even so, the economy would almost certainly have had negative growth in the third quarter even if the terrorist attacks had not occurred.
The economic reports for the third quarter, ending in September, largely failed to reflect the impact of the September 11 and subsequent events. Following the September 11 event over a million people were added to the unemployed. Because of the delay in dismissals, separation pay and the waiting period required to apply for unemployment, the October unemployment rate does not include many of those who actually lost their jobs in September nor does it include announced layoffs that will occur over the next several months. Expect the November rates to be much higher.
Consumer confidence had been declining and consumer spending appears weak. The September increase in sales by WalMart and Costco probably reflect panic buying to prepare for terrorist attacks rather than optimism about the economy. The increase in auto sales in October was largely due to the zero percent financing programs and probably stole sales from the future. Personal and small business bankruptcies were and are increasing. State and local governments are likely to add to the economy’s problems, as spending cuts are anticipated as revenues fall short of budget requirements.
Congress and the Federal Reserve have acted quickly to try to pump up the economy. Earlier interest rate cuts could normally have been expected to help the economy recover by now, although there was evidence that correcting the excesses of the past was going to take longer than normal before the rate cuts were effective. Now additional interest rate cuts have been made, but the impact, if it occurs, will not be felt before late next year.
The economic stimulus package being proposed by Congress may make things worse rather than better. To have an impact, even assuming all the proposals would be positive, spending and tax cuts will probably result in a deficit for the next several years. However, members of Congress are so anxious to get credit for the economic stimulus package and to reward friends and supporters with tax cuts, most of what has been proposed would have little positive impact and could make things worse. Consider the proposal to have a ten-day sales tax holiday. This is the kind of proposal that will likely contribute to the economy’s problems. At best, it would encourage people to wait to buy during this tax holiday and as a result shift sales from before and after the period. At worst, it won’t be passed, and the foregone sales while people wait may not be replaced. Tax cut proposals appear to be aimed at the wealthy whose spending rarely is impacted by recessions. For those less fortunate, any tax cut would take time to be converted to additional sales.
The other major economies around the world cannot be looked to for help as they were having problems prior to September 11. These economies have now suffered some of the same shocks as the US with tourism and travel down and additional costs for security. The result is an economy that will continue to decline in the forth quarter and probably through the beginning of the year. A recovery at the earliest is not likely before the third quarter 2002.
What does this mean to the Stock Market? The opportunity for investment in the stock market has been interesting the past several years. Regardless whether the market is high or low there have been periods when there appeared to be well priced stocks and periods when nothing looked attractive, at lease from a value investment stand point.
The view of the market will be colored by an individual’s risk tolerance and their time horizon. To those with a high tolerance for risk and a long time horizon the market may be attractive. For those with a low risk tolerance and a short time horizon, this market should be approached with caution. The current market appears to be one where there are few attractive stocks, except for some high-risk investments in telecommunications or a few defensive issues that have limited downside risk. With the expanding money supply and increased government spending, the risk of increasing inflation makes both bonds and stocks with good dividends more risky. If you feel the need to invest, health care and consumer staples offer less degree of downside risk in these tough times.
It would be great if all economists agreed on the performance of the economy and stock market. When trying to decide what advice to consider, especially regarding investments, consider the education and experience of the individual giving advice. Most analysts that discuss the economy and stocks on television, or encourage you to invest, are not economists and are compensated only if you continue to invest in stocks. Ask yourself, are these the same people that were advising you to invest over the last several years? Has their advice changed? Have they ever told you to sell? Be prepared for the market to test its recent lows.
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