Before making any predictions about the future of the U.S. economy, it's important to understand where the economy stood before and immediately after the terrorist attacks in New York and Washington this past September.
“If we understand the direct and indirect economic effects of the Sept. 11 terrorist attacks, then we can make some kind of prediction about the intermediate and long-term outlook of the U.S. economy,” says Russell Lamb, agricultural economist at North Carolina State University.
Before Sept. 11, 2001, the U.S. economy already was in the midst of a substantial slowdown in the pace of economic activity, says Lamb. “Economic growth had remained positive, but it wasn't as positive as it had been from the mid-1990s through 2000. During this time, the economy was growing at 4 or 5 percent each year. That changed in 2001, as growth slowed to 1.3 percent in the first quarter and .2 percent in the second quarter,” he says.
Lamb describes the 1990s as the “nirvana economy,” with rapid economic growth, rising employment and wages and slow inflation. It was clear by the middle of 2001, he adds, that the U.S. economy was in slowdown.
“For three or four years, the economy had been adding jobs at the rate of about three million jobs each year. That began to slow down in 2000, and we lost jobs dramatically in 2001. The trend is negative with a fairly substantial decline in payroll employment,” notes Lamb.
Most of the employment decline has been concentrated in the manufacturing sector, he says, as business began to slow down their investment spending.
“This downturn in the economy has been concentrated in the business sector in business spending. A big chunk of the slowdown in the pace of economic activity early in 2001 was in inventory investment. The amount by which businesses add to inventory goes into U.S. Gross Domestic Product (GDP). A change in that inventory investment directly affects growth.
“Businesses began to pull back in inventory investment. Businesses had increased inventories, but they began to see some pullback in demand late in 2000, and they began to realize they probably wouldn't need to hold as many inventory goods to get them through the next several quarters.”
In addition to a pullback in inventory investment, the U.S. economy also has seen a sharp turnaround in spending by businesses on fixed investments or capital goods, including plants and equipment, says Lamb.
“With a slowing overall economy, businesses began to realize early in 2001 that there wasn't much use in continuing to add large amounts to their plants and equipment, and that showed up in the dramatic declines in business fixed investments.
“Throughout 2000, businesses were adding to capital stock at a pace of about 9 percent. This compares to a 14 percent decline in the most recent data. Businesses were seeing a falling demand for their products, so they began to pull back on inventories and there wasn't much reason to add to production capacity.”
Before the events of last Sept. 11, there clearly was a slowdown in the U.S. economy, says Lamb, and this was driven primarily by the business sector. By mid-2001, this slowdown in the U.S. economy was spilling over into the rest of the world, he says.
World economic output growth was projected to slow dramatically from nearly 5 percent in 2000 to just over 3 percent in 2001. That slowdown, says Lamb, is fairly widespread over the globe with the exception of China.
“But in spite of the weaknesses in the U.S. and world economies, there was hope for a fairly quick recovery in total world output. In forecasts made during Labor Day weekend last year, most economists thought there likely would be a quick rebound in U.S. economic activity. Most thought we might have one quarter of negative economic growth, and most said the second half of 2001 would be better than the first half.”
One of the strongest and most resilient factors throughout the economic expansion was the consumer sector, says Lamb. In 2000, personal consumption grew at about 4 percent. And, in late 1999, it was 5 to 6 percent.
“The held up well in 2001, with 3 percent growth in consumer spending during the first quarter and 2.5 percent growth during the second quarter. Most people thought the savior of this economy was going to be the American consumer or household. The consumer sector was thought to be incredibly resilient and very strong.
“We also were in an environment in which the economy had no fears about inflation. Stable inflation gave the Federal Reserve some leeway to adjust interest rates in response to a declining U.S. economy. The Federal Reserve began cutting interest rates once it became obvious that the U.S. economy was slowing.”
In 2000, says Lamb, the Federal Reserve had raised interest rates in an attempt to slow down economic growth. Unemployment was pushed to its lowest level in 30 to 40 years, to 4.2 percent, he says.
“But the Fed felt that at the first of 2001 there was room for lower interest rates, especially considering the slowing economy. Then, we saw a pullback in our trade deficit in the first half of 2001, and everyone began to be optimistic about the near-term future. Most economists believed that if we did have a normal recession, we would pull out of it quickly and conditions would improve by the second half of 2001 or the first half of 2002.”
After the events of Sept. 11, many thought the economic impact would be but a footnote to the human tragedy, says Lamb.
“Nonetheless, there's reason to be concerned about the effect of the terrorist attacks on the U.S. economy. According to a Gallup poll, 87 percent of Americans view the attacks at the most tragic events in their lives.”
In looking at the direct and indirect effects of the attacks, Lamb says there have been varying damage estimates of the collapse of the World Trade Center towers and the damage to the Pentagon. These estimates have ranged from $20 to $100 billion. The lost capital represented by the damage doesn't have an effect on GDP growth, he says, because GDP measures output at a certain point in time.
“This is not to say that it doesn't have an impact. One to two years down the road, you'll see lost output that the capital stock would have generated. Most so that economic growth eventually will be boosted because these structures will be rebuilt.”
Even if the damage estimates reached $100 billion, it would represent only a small part of the overall economy, says Lamb. “With a $9 trillion economy, we're talking about only one percentage point in economic output in a given year. The estimates are that the total effect on GDP for September 2001 will be $25 billion in direct economic output.”
Another direct economic impact, he says, has been a recession which began in the third quarter of 2001 and continued into the fourth quarter.
“Some estimates would suggest that by the end of 2002, growth will be above 4 percent - that's optimistic. We're clearly in a recession, and we don't know how serious and substantial it will be. And, the recession is having a significant effect on the consumer sector. “Likewise, we're seeing a very weak outlook for the business sector. There's not much enthusiasm projected for the business sector until the middle of next year. If business doesn't see the consumer returning to stores, they won't invest in new plants and equipment.”
The federal government, says Lamb has responded to the terrorist attacks with an aggressive fiscal and monetary policy, pumping more than $100 billion in liquidity into the banking system and approving $40 billion for cleanup, recovery and security. In addition, $15 billion was approved for airlines.
“The Fed has signaled that it will do whatever is necessary to keep this economy working and avert a financial disaster. Central banks throughout the world have acted in concert with the Federal Reserve to lower interest rates and make liquidity possible.”
The key to the economic outlook, says Lamb, is how the consumer will respond. Consumer confidence was plummeting before Sept. 11, in response to a weak employment picture and declines in stock market wealth, he says, and further job losses are on the way.
All of this is not good for agriculture, he says.
“A jittery consumer will mean less spending, all the way around. Families will save in anticipation of an economic slowdown. Less spending means consumers are less likely to eat out, hurting food-away-from-home consumption. As a result, domestic demand for ag products will be dampened.”
A weakening U.S. economy, says Lamb, usually means a falling dollar, as investors lose interest in U.S. markets and interest rates fall from monetary policy actions.
At this point, however, declines in U.S. interest rates are being matched by declines in rates abroad.
“There is no visible decline in the value of the dollar, and the dollar remains the world's currency of choice. Agricultural exports will not benefit from a weaker dollar in the near term.”
While current conditions are not favorable, Lamb predicts an improvement in the U.S. economy over the long term. “The U.S. economy should return to healthy economic performance by the end of 2002.”