http://inq.philly.com/content/inquirer/2001/06/04/business/CASS04.htm

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If the harm has been done, what can Greenspan do?

Excess capacity installed during the economic boom cannot be undone by interest rates, an economist says.

Did I ever tell you how they ice-fish for sturgeon in Wisconsin?

Every year - about late February, I think it is - intrepid fisherpersons up there take to the frozen lakes, with saws, line, and good-size throwing spears.

Holes the size of refrigerator doors are cut in the ice, and folks spend hours standing on the edge, looking down into the frigid water. When a good-size sturgeon swims by, they strike, just like Captain Ahab with his harpoon.

After that, there are two interesting possibilities. The fisherman might pull out a prize - or the prize might pull in the fisherman.

This scenario came to mind with last week's economic reports, which added more fuel to the tug-of-war that's been going on since early spring. The data have economists whipsawing between optimism and pessimism, sometimes seeing both in the same set of numbers.

Is the worst of the slowdown over? Could be, particularly if you track the behavior and attitudes of consumers. Surveys showed that consumer confidence picked up substantially last month, driven by a growing belief that things are improving.

It doesn't appear to be just a spring case of pollyannaism, either. Both household incomes and spending rose in April, government data indicated. The growth was modest, but much better than predicted by those expecting a real recession.

"Nowhere . . . are there indications that consumers will curtail their spending, which points to continued economic growth," reported the Conference Board, which conducts the monthly survey.

Behind that analysis is the idea that consumer spending drives the economy. When households are feeling flush, business responds with more production, investment and jobs.

You have to hope that's right, because, at the moment, production, investment and jobs are all looking pretty limp. The May employment survey showed a loss of 19,000 positions nationwide last month, with further cuts from layoffs expected.

The monthly data on manufacturing were particularly ugly; nearly a half-million production jobs have disappeared so far this year, and managers say they are continuing to slash payrolls and trim inventories in the expectation that business will be slow for a good while.

"Most of us are forecasting that the unemployment rate will reach 5 percent" before turning around, Bernie Markstein, an economist in Phoenixville, said. He doesn't think that will mean a recession, but allows that could change if job losses continue.

"If unemployment were to rise above 5 percent, then, yes, we'd be talking about a significant drag on the economy," he said.

So there you have it. Optimistic consumers pulling on one end of the line, pessimistic producers pulling on the other - and the ice is getting thinner.

But wait - there's somebody else in the picture. Pulling on the consumer's belt, offering support in the form of lower interest rates, is the fisherman's friend, Alan Greenspan.

The Federal Reserve's action since January should provide a powerful jolt of monetary stimulus, Markstein believes. But it hasn't happened yet, despite the five half-point cuts that have lowered short-term rates to 4 percent from 6.5 percent since the first of this year.

That's because it takes time - economists argue about how much, but six months at a minimum - for interest-rate cuts to work their way through the economy. Only now will we likely begin feeling the effect of this year's Fed action, Markstein said.

Even so, will lower rates be enough to pull manufacturing investment and job creation out of their slumps? Maybe not, Philadelphia economist Joel Naroff suggests.

"A lot of the cutback in investment happened because of excess capacity," he said. "Business invested too much for the demand that was out there."

In other words, driven by the exuberance of the dot-com boom, companies built more plants, hired more workers, and planned for more growth than could be sustained. Now, only time can right the balance, Naroff suggests.

Simply lowering interest rates won't be enough to make businesses start building and hiring at 1990s rates again, he said. "Cheaper money is not going to get them to invest if they already have too much capacity."

-- (M@rket.trends), June 04, 2001

Answers

As observed in another thread, the Fed's actions are having a lot more influence on short term rates than on long term. Hence their effect on business loan interest rates might not be as significant as one might think.

-- David L (bumpkin@dnet.net), June 04, 2001.