Features

Uncertainty Takes an Economic Toll

Author(s):

Mary Siegfried
Mary Siegfried is a senior writer for Inside Supply Management^®.

January 2013, Inside Supply Management^® Vol. 24, No. 1, page 34

Economists expect slow, steady economic growth in 2013 amid worries in the U.S. and around the world.

Predicting how the U.S. economy will perform involves detailed analyses of myriad facts, figures and projections. However, as economists peer into the crystal ball for 2013, after a bruising election and a yearlong roller-coaster ride of economic reports, many also are taking into account the mood of the country. That's why this year's economic forecast hinges as much on business, and consumer confidence and uncertainty as it does on statistics.

The economic outlook for 2013 is shaped by what took place in 2012 — a year marked by slow growth, leadership uncertainty in the nation's capital, fear of the "fiscal cliff," worry over Europe and China, and ongoing turmoil in the Middle East. With the election in the history books and the hope of avoiding the fiscal cliff, economists are predicting modest upswings in the economy's performance. Estimates from economists interviewed by Inside Supply Management^® range from 2 percent to an optimistic 3.2 percent GDP growth.

Lack of Confidence

"It is uncertainty that is holding the economy back," says William Dunkelberg, professor of economics and former dean of the School of Business and Administration at Temple University in Philadelphia. "Consumers don't have a lot of confidence because they are unsure of their incomes, while businesses face uncertainty over economic conditions and government regulations and tax policy."

Even Bernard Baumohl, chief global economist for The Economic Outlook Group in Princeton, New Jersey, who admits to being more optimistic about the economy in 2013, predicting 3.2 percent growth, says business leaders and consumers "are basically being held hostage to the multitude of uncertainties" ranging from future tax policy to geopolitical risks.

Dunkelberg adds that he expects "a little better" performance in the economy this year. "We are slowly resolving the imbalances in our economy and cleaning up some problems. From that perspective, I believe it can move forward."

Moving forward is what economists and business experts are hoping for the economy this year, with growth occurring in slow spurts in manufacturing, services, housing and employment.

Manufacturing. The manufacturing sector has been a bright spot in the economy since the recovery began and is a key driver of economic activity, says William A. Strauss, senior economist and economic adviser for the Federal Reserve Bank of Chicago. He expects continued increases in manufacturing, noting that some forecasts have industrial output rising by 3 percent.

Strauss says inventory levels influenced manufacturing growth over the past few years. "Some of the robust growth witnessed over the past three years took place because manufacturers overdid it during the downturn and depleted inventory," he says. "The growth was a bullwhip effect — snapping up those output levels to rebuild depleted inventory." He says as inventory levels balance, future manufacturing growth must occur from demand in the United States and around the world.

He also points out that predicting optimistic growth in manufacturing can be deceiving because it is a broad category. "Just because manufacturing is expected to go up doesn't necessarily mean your business is increasing," he says. Strauss says he is not optimistic about manufacturers in printing or paper, for example, but is optimistic for steel producers and other industries focusing on low-cost natural gas. He adds that growth in the natural gas industry could be a spark that ignites the economy now and in the future.

Services. Dunkelberg, who also serves as chief economist for the National Federation of Independent Business, says the services industry could make a difference in the economy in 2013. He says healthcare is one area that has shown improvement and could be a bright spot for the sector. Strauss adds the services sector is usually a dominant part of the economy, but in an economic environment that is growing moderately, the chance for growth in services is not strong. He predicts services will just keep pace with overall economic growth, or may lag because of slow job growth.

Housing. Dunkelberg expects housing and construction to do better in 2013, with an estimated 850,000 housing starts. "That is short of where we need to be," he notes. "But we had several months of price increases in housing at the end of 2012, and once rising values appear sustainable, housing will pick up more." He also points out new housing starts will stimulate the economy because the housing/construction sector is labor-intensive.

Strauss agrees the housing market is showing signs of recovery. He says it usually measures about 4.5 percent of GDP, but is weighing in at 2.5 percent. This sector was hit hard and "even with double-digit growth, it will take a while for it to recover," he adds.

Employment. If there is one economic factor experts agree on, it is the need for job growth. "If you ask what will pull us out of this slow economy, it is the labor market," Strauss emphasizes. The U.S. has recovered only 47 percent of the jobs lost since 2008, he says. "The job market is in worse shape than the housing market. Even if the economy creates 150,000 jobs a month, it will take about seven years just to reach the level it should be." Economists agree the unemployment rate will hover around 8 percent to 8.5 percent in 2013 because the number of jobs being created is not enough to make a substantial dent in the rate of growth.

Reasons to Be Upbeat

Baumohl of The Economic Outlook Group believes President Barack Obama's reelection will produce economic growth in 2013. "What we will see is Obama focusing more on his legacy. We will see him give ground away from his left base and move toward the center." Baumohl also expects less obstructionism in Congress and a "more earnest effort to deal with the budget crisis" as moderate Republicans shift to the center, as well, after Mitt Romney's loss. He also believes Obama will reappoint Ben Bernanke Federal Reserve chair in 2014. However, if Bernanke steps down, Obama will choose someone who shares Bernanke's philosophy of keeping interest rates as low as possible to "reassure financial markets."

"We are looking at the economy creating 2.5 million new jobs compared with 1.5 million last year," says Baumohl. "Once the outlook improves after the election is over, I think hiring freezes will be removed and companies will be a bit more comfortable ramping up employment. The unknowns and uncertainties will begin to disappear."

Baumohl outlines three reasons he is upbeat for 2013:

1. The U.S. banking system is in better health — in fact, the best health it has been in for more than five years, he explains. "It is better capitalized, and banks have healthier balance sheets." He expects to see an upturn in lending this year.
   
   
2. After a painful period of household deleveraging, consumers are becoming more confident, Baumohl believes. He says household debt service burden is the lowest it has been in the last 18 years. "It doesn't surprise me that we are seeing life in the housing and auto sectors, two indicators that show consumers are feeling more comfortable spending money."
   
   
3. Strong corporate earnings and balance sheets should spur economic growth. "Businesses are sitting on a near-record pile of cash, waiting to be put to use at the right opportunity," Baumohl says. He expects that 2013 will provide the clarity companies have been waiting for to begin making growth moves.

Whether their forecasts focus on slow or improved growth, economists agree that oil and food inflation, uncertain demand and geopolitical risks are the challenges looming for supply management professionals.

Inflation Concerns

Inflation should not be a major factor, economists agree, except in the energy and food sectors. Strauss predicts inflation rates will remain at 2 percent or lower, largely due to a lack of demand pressure. Dunkelberg says the same is true with commodity prices, which he doesn't expect to increase dramatically until demand picks up.

Economists acknowledge there are concerns over the Federal Reserve's quantitative easing policy, which increases the money supply by flooding financial institutions with capital. "Some think it is going to be inflationary, but the financial sector, through its lending operations, ultimately creates the money supply," Strauss explains. "The problem is the financial sector is not lending much for a host of reasons, relating to both supply and demand. We are expecting that to improve, although it is a gradual process." He stresses that the Federal Reserve has the ability to act quickly based on how it sees the economy evolving. "We can be very responsive," he says.

Baumohl says food inflation is a worry because of the drought in the U.S. and other countries such as Russia and Argentina. He expects food inflation to rise twice as fast as general inflation, translating into a 5 percent increase in retail food prices. He says oil prices may rise in expectation of the global economy picking up as well as instability in the Middle East. "Keep in mind that we would not see US$95 to $100 per barrel of oil if we did not have Iran to worry about," Baumohl points out. "If the threat of a nuclear Iran was not hanging over the international economy, we would see prices at least $15 per barrel lower."

Examining the Risks

However, the Iranian threat and others are reasons economists say supply managers should not let their guard down when it comes to risk management. And those risks are coming from the U.S. and abroad.

The fiscal cliff. This term is used to describe automatic tax increases and spending cuts that would take effect early this year if Congress and the president fail to come up with a deficit reduction plan. The threat has been casting a long, dark shadow over the economy for months, and economists predict it will continue to cast a pall over the country into early 2013. They also strongly agree if the economy is allowed to fall off the cliff, it will push the U.S. into a recession.

"But in the final analysis, no politician wants to have blood on his or her hands for causing a recession," Baumohl says. "Such a Washington-induced recession, caused by paralysis in policy, is completely and totally avoidable. And, the American public knows it."

Strauss agrees the fiscal cliff is avoidable and, once it is resolved, "the economy will not be as uncertain as it has been," allowing businesses to focus on growth without worrying about public policy.

Geopolitical risks. Baumohl says there are numerous global concerns that can be thrown into the "economic worry cauldron" — debt crisis in Europe, military confrontation in the Persian Gulf, buildup of tensions in the Western Pacific over oil-rich islands and a slowing Chinese economy. All could take their toll on worldwide supply chains.

Economists agree the debt crisis in Europe will continue but believe the European Central Bank's stance on buying debt from troubled countries means the worst is over. "Europe will still lurch from one problem to the next for a year or two," Baumohl predicts. "But the collapse of the eurozone is less of a threat." He forecasts growth in the eurozone at 1 percent, up from a nearly 1 percent contraction in 2012.

The slowdown in China's economy is a concern for supply managers, Dunkelberg says, because it is an important market for many U.S. companies. He says China will continue to grow, "but by how much is the real question." Baumohl notes the Chinese government has demonstrated it can move quickly to implement monetary and fiscal tools to prevent a sharp economic slowdown. Dunkelberg adds, "I don't see a big change in their economy. But there will be slower growth, more of a pause than anything else."

With the negativity of the election year behind us, economists hope Washington can create a sense of stability and certainty that will allow the economy to gain strength in 2013. Baumohl believes improved clarity will lead to greater confidence, which can translate into positive actions by businesses, including investing and hiring.

For more information, send an e-mail to author@ism.ws.

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