How Soon the Recovery?

If a resolution to the Iraqi conflict continues to drag on, it will likely be the cause of a second decline in economic activity. Already the uncertainty has resulted in a $15-20 per barrel increase in the price of oil. The effect is beginning to be felt by the consumer as both oil and natural gas prices are reaching levels not seen since the last recession.

States and local governments are struggling with insufficient revenues to meet already scaled back budgets. Additional cuts in state and local expenditures and tax increases are being proposed. Consumer confidence continues to decline. New home sales are down dramatically, although much of this is probably due to the unseasonable weather in much of the country. Refinancing is unlikely to persist at previous levels, limiting the benefits to the economy. With state and local government plans to increase taxes added to the increase in oil prices, the consumer’s ability to carry the economy becomes questionable.

Nor can we look to Europe or Asia for help. Europe and the Asian economies were already struggling before the increase in the price of oil. Germany, France, Korea and Japan are all heavily dependent on imported energy. The South American economies are in trouble with Argentina already in a depression and with political problems in Venezuela exaggerate the oil situation. All these economies are accustomed to looking to the United States to lead an economic recovery, which at present is in no shape to do. If the current uncertainty over Iraq persists there is a risk of a worldwide recession.

The Stock Market

The outlook for the stock market is negative. Even assuming the international political problems are resolved, the worldwide economic and US overcapacity in many industries will still limit any economic recovery. Given the historic high price-earnings and other financial ratios, I do not see a sustained stock market recovery. On a probability basis (the chance of a market increase versus a market contraction) the expectation is for a continued retreat of the markets.

Stocks in the News

Do not look for a recovery in demand for computers and telecommunication equipment any time soon. There is not a lot of room for growth in the use of computers in the US or other industrialized countries. The demand for computers in the US is now largely related to the replacement schedule, about 25% of the installed base. Even this may be an overstatement as the power of computers today far exceeds the need of most business or home users, which may extend the useful life of the existing base. Once the Iraq war issue is resolved, the world economy should begin to recover, offering opportunity for increased computer sales and services in developing countries like China and India.

Microsoft reported increased sales but relatively flat profits. Even with their legal problems largely behind them, the opportunity to realize the gross margins of the past is doubtful. A mature computer industry with competition from Linux will limit growth opportunities in their operating system. Most new Microsoft products are in competitive industries that will limit gross margins and profits. In addition, their size will limit the impact of any breakthrough technology on their bottom line. Microsoft is a good company with limited opportunities for dramatic growth.

The continuing problems in the airline industry have continued to put pressure on aircraft and aircraft parts manufacturers as well as support services. Boeing’s problems will become greater if United is dissolved. There is overcapacity in the airline industry and the quickest solution for the remaining firms in the industry would be for a major carrier like United to end operations. While this would be a boom for the other airlines, it would be a blow to Boeing and Airbus Industries in the short-term.