Expansion Has Slowed in Recent Months, But New York Economy is Braving Headwinds
Jotham Sederstrom Nov. 8, 2011, 9:11 a.m.
If equity markets offer any indication, investor optimism in the outlook for business profits increased measurably during October. The Dow Jones jumped more than 1,000 points during the month, rising by 9.5 percent. The S.&P. 500, a broader market measure, spiked 10.8 percent, its best one-month result since 1991. REIT stocks performed even better.
And yet in spite of strong revenue and earnings growth, the rally has been punctuated by periods of extreme volatility, with investor sentiment reacting wildly to day-to-day developments in Europe and mercurial interpretations of domestic growth data.
A number of metrics point to relatively stronger economic activity. Among them, the preliminary estimate of third-quarter gross domestic product shows the economy expanding at an annualized rate of 2.5 percent, nearly double the second quarter’s pace and well ahead of the first quarter’s 0.4 percent growth rate. The Chicago Fed’s National Activity Index, which offers a more contemporaneous measure of the economy’s health, improved from –0.59 in August (incontext, a level precariously close to the index’s recession cutoff) to –0.22.
Reservations about improving growth statistics are warranted, given the fragility of business and consumer sentiment and the potential for the economy to slide back intro contraction given a sufficiently large shock. Headwinds are most apparent across the Atlantic, where the European Central Bank lowered its benchmark interest rate by 25 basis points on Nov. 3. The bank’s president was quoted as saying, “What we’re observing now is slow growth heading toward a mild recession.” Eurostat reported on Monday that retail sales in the Eurozone fell by 0.7 percent from September to August and are down 1.5 percent from a year earlier. Even if a European recession is well contained, it means a slowdown in U.S. export growth and more competitively priced goods flowing from the Continent.
Back in the United States, the latest labor market data also temper the outlook. According to last Friday’s labor report, employers added just 80,000 jobs in October, the smallest number in four months. While upward revisions to August and September employment numbers show private firms adding more jobs than anticipated, the current trend is one of smaller gains. How do we reconcile corporate profits and the recovery in G.D.P. with the historically slow pace of payroll expansion? For many of the largest public companies, third-quarter earnings reports suggest that weak profits are not the binding constraint on new hiring.
Surveys of small business conditions are instructive for our assessment of the jobs outlook and firms’ concerns that demand growth, where it is driving revenue, may not persist. The National Federation of Independent Business’s Small Business Optimism Index is currently near its second-lowest level in its 25-year history, having reached an even lower nadir late 2008 and early 2009. Contrary to intuition, only 4 percent of respondents in the most recent survey, released last month, indicated that access to credit was their chief business problem. Ninety-two percent indicated that they did not intend to borrow or had adequate access to credit. The greater drag on small business relates to their outlook for the economy and demand. Twenty-two percent of respondents anticipate higher sales over the next six months, easily outnumbered by the 36 percent who expect sales to weaken. On balance, more businesses reported plans to cut payrolls than expand them.
New York City Not Immune
While New York City has certainly distinguished itself in the scope and breadth of its recovery, it is not immune to the broader forces exerting drags on the economy. The New York Fed’s Coincident Economic Index, which tracks several data points that “move systematically” with the local economy, increased at an annual rate of 1.7 percent in September, down from 2.2 percent in August and a year-over-year rate of 3.2 percent. While the index remains on an upward track, the pace of increase has slowed in each of the past six months.
Notwithstanding the city’s rebound in core asset prices and transaction activity, prevailing trends in the economy and labor market demand a measure of temperance in investor and lender optimism. Employment has moved sideways over the past several months, with the job tally in September falling slightly below April’s level. Without a clear understanding of Dodd-Frank’s ultimate implementation or the extent to which new consumer protection rules will impact banks’ retail operations, risks to the financial sector in particular remain a feature of the fluid regulatory landscape. In the near term, bank job cuts will limit growth in the city’s disposable income, tempering gains from stronger tourism and other drivers of momentum.
Sam Chandan, Ph.D., is president and chief economist of Chandan Economics and an adjunct professor at the Wharton School.