Economic Trends
By Gene Koretz
Autos Could Rev the Economy
The abiding fear of those who believe the U.S. is now flirting with recession is that the economy has been caught in a vicious circle in which plunging stock prices, declining consumer and business confidence, weakening demand, sagging profits, and rising layoffs all reinforce one another. Fortunately, there's at least one circuit breaker in this negative-feedback loop: the inventory cycle. And in the case of the bellwether U.S. auto industry, that circuit breaker is about to kick in.
"After subtracting significantly from economic growth in the past three quarters," says economist James Glassman of J.P. Morgan & Co., "vehicle producers are set to provide some healthy stimulus."
That's because the recent downward phase in the industry's inventory cycle has come to an end. As Glassman notes, in a typical cycle, stock levels can quickly turn excessive when sales slow, prompting sharp cutbacks in output (below current sales levels) to bring them in line with lower demand. Once that has been accomplished, however, producers have to boost output and payrolls simply to meet current demand.
That, in a nutshell, is exactly what's about to happen. Since the end of last summer, auto makers have been slashing vehicle output to slow the pace of inventory accumulation--accounting for a significant part of the slowdown in overall economic growth. In February alone, inventory levels were slashed to 67 days' supply from 90 days in January, and at the end of March, auto makers were planning to boost quarterly output by some 50% at an annual rate.
The upshot, says Glassman, is that vehicle production should add 1.5 percentage points to the economy's growth rate in the second quarter after subtracting a percentage point in the first--a swing of 2.5 percentage points. And that spells good news for a broad range of supplier industries.
These include not only suppliers of traditional materials such as steel, rubber, and plastics, but also makers of semiconductors and other electronic components. Government data indicate, for example, that directly and indirectly, U.S. vehicle makers consumed nearly 8% of semiconductors sold in 1997--a share that is undoubtedly higher today.
A key question, of course, is whether vehicle demand will slacken in the second quarter. If it does, then the boost to GDP will quickly fade as auto makers start paring excessive inventories again.
Thus far, however, the omens are positive. Helped by incentives, auto sales held up surprisingly well through the first quarter. According to Ward's Automotive Reports, Detroit is currently projecting its third-highest second-quarter output in history.
Is a Recession Now Inevitable?
In February, 1990, the group of forecasters who later founded the Economic Cycle Research Institute (ECRI) warned that the U.S. was headed for a recession. Five months later, the 1990-91 downturn began. Now, the same forecasting group, ensconced at ECRI, has issued a similar warning, declaring that "a recession this year no longer appears to be avoidable."
Why the call? According to ECRI economist Anirvan Banerji, all of the institute's leading indicators are pointing to a recession, with the exception of the services-sector indicator. However, ECRI's leading employment index has now hit a 19-year low (chart), suggesting that joblessness will soon rise sharply. "Once falling employment further undermines confidence," says Banerji, "we expect the services sector to slow sharply."
Meanwhile, ECRI's coincident index, which measures current economic activity, fell to just 0.5% growth in February--a level it has never touched in the past without an ensuing recession.
Keeping the U.S. High-Tech Edge
Economists have long argued that human capital helps determine a nation's long-term economic growth. As proof, they point to multination studies indicating that primary or secondary school enrollment rates help explain the differences in national growth rates.
Enrollment rates, however, are not the best measure of human capital, since a high school or primary education means different things in different countries. Indeed, in a study in the American Economic Review, Eric A. Hanushek of Stanford University and Dennis D. Kimko of the Institute for Defense Analyses find that educational quality has a significantly greater impact on economic growth than quantitative measures such as enrollment rates--a finding that implies the U.S. could eventually have problems keeping its economic edge.
The two economists compared the scores from international math and science achievement tests given to students in 39 nations between 1963 and 1995 with those nations' per-capita growth rates over the same period. They report that these test scores are far more closely correlated with growth rates than are differences in enrollment levels. That's because such scores, they claim, are a direct measure of the kind of cognitive skills that foster productivity and technological progress.
Since U.S. students consistently earned below-average science and math scores in the international tests used in the study, an interesting question is how America has managed to achieve its technological lead. The apparent answer, says Hanushek, is that it has made up in quantity--greater high school and college enrollment rates--what it lacks in educational quality. However, he points out that other nations with higher cognitive achievement scores are now rapidly catching up with the U.S. in terms of college enrollment.
"Unless it improves the quality of its education," he warns, "America is in danger of losing its technological edge."
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Copyright 2001, Bloomberg L.P.
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