CONSUMERS ARE MORE BULLISH, BUT WILL THEY SPEND MORE?
Here we go again. For the third time in two years, households are feeling better. The question is: Does it matter? After all, consumers can't spend confidence. They need cash.
Indeed, the yo-yo behavior of household attitudes has been a hallmark of this business cycle. Confidence plunged as the recession began in 1990. It surged when the gulf war ended in early 1991, only to double-dip later in the year as the recovery petered out. It jumped again when the economy strengthened earlier this year, and then triple-dipped this summer when growth was too slow to prevent the jobless rate from rising.
Through it all, the growth in consumer spending has been equally erratic and far below the pace necessary to lead a typical recovery. That's because two crucial determinants of spending -- jobs and incomes -- are also the most important factors in consumer confidence. And until those two speed up, not even cheerier consumers will be able to shift activity in manufacturing and homebuilding into a higher gear.
Consumer confidence rebounded in November. The Conference Board's index rose 11 points, to 65.5, following four straight declines (chart). However, the board cautioned that consumer spirits are "still at a level which is historically associated with a lackluster economy."
Moreover, the increased optimism might reflect wishful thinking more than hard economic reality. That's because nearly all of the November bounce stemmed from a surge in expectations for the economy's future, while consumers' assessment of their present situations rose only modestly. That result appears to be a vote of confidence for President-elect Clinton more than any real improvement in consumers' economic lot.
The failure of payrolls and take-home pay to grow has rattled more than just consumers. It also has been the chief reason why the Business Cycle Dating Committee of the National Bureau of Economic Research has been unusually slow to sit down and decide on an official ending date for the recession that began in July, 1990.
The committee appears to be leaning toward a spring, 1991, date for the recovery's start. But the members will be hesitant to put that in writing until each of the four so-called coincident indicators regains its pre-recession level. So far, two of the four -- industrial production and real business sales -- are within striking distance. But nonfarm payrolls and real income less transfer payments have barely grown since hitting bottom 112 years ago.
In addition, the spring, 1991, date would conflict with the government's composite index of these four indicators. This index tracks the economy's current path, and as of September, it was still falling.
However, analysts close to the committee say that the coincident index may ultimately be revised up, because a statistical process called trend adjustment is exaggerating its downward tilt. So in the end it may well turn out that the economy has been in an official recovery for about a year and a half now.
Given the way consumer confidence has waffled during that period, many households are likely to dispute that finding. And manufacturers and homebuilders might disagree as well.
Factory orders for durable goods did post a healthy gain in October, rising 3.9% (chart). That was the largest jump in more than a year, but it was not broad. Bookings in the transportation sector soared by 20%. Without that gain, orders would have fallen. In addition, unfilled orders edged lower for the 14th consecutive month.
Further growth in new orders would signal that manufacturing finally may be gathering some momentum, but that will depend largely on how much those brighter consumer spirits lift spending.
Builders also are hoping that consumers will be more inclined to buy a new home. However, housing's lackluster prospects may lead to disappointment. True, homebuilding is recovering. But housing starts are unlikely to top 1.3 million for any sustained period in 1993. Slow income growth and a scarcity of buildable land cloud the near-term outlook.
For the rest of the decade, starts should hover near a 1.4 million annual rate. That's down considerably from their 1.7 million showing during the 1970s and most of the 1980s. Demographics and the apartment glut will weigh down homebuilding for years to come.
In October, housing starts slipped 1.1%, to an annual rate of 1.23 million, but all the damage was done in the overbuilt apartment sector. Multi-unit construction plunged 14.1% in October. Single-family starts -- a better indicator of what's really happening in the housing market -- edged up by 0.7%, to a 1.1 million rate (chart).
Perversely, housing may be getting a small lift from the recent uptick in mortgage rates. Consumers are probably rushing to buy now before rates rise even further. Mortgage applications to buy a home remained high in early November, while the rate on a 30-year mortgage hit 8.54%. The rate had fallen below 8% in September.
Even with low mortgage rates, though, affordability remains a problem for some families. The National Association of Realtors calculates that housing affordability for all U.S. households is at its highest level in 15 years, but first-time home buyers are still struggling. The nar reports that in the third quarter, the average first-time buyer earned only 83.4% of the income needed to purchase a cheaper starter home.
Although this rate is 10 percentage points higher than a year ago, the income disparity is a major reason why demand for new housing is not increasing very rapidly. The problem: Jobs and incomes aren't growing fast enough to outpace even the meager rise in home prices.
In addition, builders are finding that land ready for construction is harder to come by. The U.S. Housing Markets newsletter reports that over the past two years, developers could not get bank loans to add sewers or roads to existing lots. So a scarcity of buildable land could put another crimp into starts in 1993.
Looking longer-term, the housing industry will be restrained by the smaller number of households being formed in this decade. After baby boomers formed new households at a torrid pace of 1.7 million a year in the 1970s and 1.3 million in the 1980s, the baby bust generation will head out on its own at an annual rate of just 1 million in the 1990s (chart). This low number of new households means that fewer new homes will be needed.
Also, the overhang of apartments built in the 1980s cuts the need for new multi-unit construction. Already in the 1990s, housing projects of five units or more are being constructed at an annual rate of 183,000, down sharply from their yearly clip of 440,000 in the late 1980s.
The steady decline in apartment construction suggests that the building industry, like many other sectors, is plagued by overcapacity. That means even more layoffs to come in the construction industry, which has already lost 600,000 jobs in the past three years.
Of course, builders aren't the only ones who have a stake in the outlook for housing. The housing industry also influences demand for big-ticket consumer items such as furniture, carpeting, and appliances. So the increases in single-family starts and mortgage applications suggest a rise in purchases of home goods this quarter.
In addition, the positive mood swing among consumers adds support to analysts' improved outlook for holiday shopping. The Conference Board says average household spending for Christmas gifts is expected to be 6.5% higher than a year ago. Also, the Johnson Redbook Service has upped its expected gain in holiday sales from 6% to the 8%-to-9% range.
Keep in mind, however, that consumers outspent their incomes in the third quarter. If they do that again this quarter, early 1993 could be a real bust.JAMES C. COOPER AND KATHLEEN MADIGAN