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Several variables will define 2013’s economy

January 11, 2013
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We’ve returned to an unimpressive growth pattern. Despite the optimism of our November report, December and 2012 ended rather flat. Our closely watched index of New Orders came in at +4, considerably lower than the +17 last month. The Production index backtracked as well, coming down to +11 from +21. Activity in the purchasing offices picked up slightly to +11 from +8. In a similar move, the Employment index rose to +14 from +13.

As we look at individual industrial groups, December was a slower month than expected for the office furniture business. Specialty furniture firms did not have a good month at all. The auto parts suppliers remain positive, but with a couple of exceptions, continue to show signs of topping out. The capital equipment firms were widely mixed, probably because of the volatile nature of year-end activity. For industrial distributors, the performance came in mixed, although the bias was still to the upside.

At the national level, the Jan. 2 report from parent organization the Institute for Supply Management again came in modestly negative. ISM’s national index of New Orders eased to -7 from -5. The Production index also edged lower to -4 from -1. The best news came from ISM’s Employment index, which bounced back to the break-even point of 0, up from a three-year low of -7. After the usual statistical adjustments, ISM’s overall index edged back above the 50.0 break-even point to 50.7, up from 49.5. This is the fifth negative report in the past six months, which the survey author generally attributes to “uncertainty about government relations, taxes, and global economics in general as we approach 2013.” In contrast, the U.S. industrial survey from the British economic firm of Market.com came in at 54.0, up from 52.8. Most of the stronger performance was attributed to gains in the Production index. Go figure.

At the international level, the Jan. 2 JP Morgan international manufacturing report “held steady” at the end of 2012. JPM’s Global Manufacturing PMI rose to 50.2, up from 49.6. For the Eurozone, business conditions continued to worsen in all countries except Ireland. The downturn accelerated in Germany, Spain, Austria and Greece. However, China, Canada, Mexico, India and the U.K. posted slightly stronger performances. Many of the developing countries are also helping to boost the international economy, and the survey author believes the strong countries will continue to more than offset the weak countries as we head into 2013. However, this assumption is predicated on hope that the current efforts to refinance the European sovereign debt will remain on track and the U.S. will avoid a governmental shutdown over the debt-ceiling negotiations.

It’s time to look ahead at the factors that will define the 2013 economy:

Automotive: Largely because of automotive, Michigan’s recovery has been better than most states. After numerous tsunami-related supply interruptions, the auto firms are profitable and back on a roll. For West Michigan, auto parts suppliers are back to profitability and some are growing. For 2012, U.S. auto sales were 13 percent higher than 2011. However, the so-called pent-up demand, caused by the recession and super-tight credit, is now close to catching up with supply, and auto sales should soon top out at or near their present levels. Current projections call for a 2 percent to 3 percent growth rate in 2013.

Industrial inflation: Because of low interest rates that have prevailed for many years, many money managers have resorted to commodity speculation, resulting in periodic speculative spikes in the prices for key commodities. With the world economy slowing, speculative spikes seem unlikely for 2013. Hence, industrial commodity prices should behave for most of the year, barring any other financial crisis.

Consumer inflation: Given the slow rate of economic growth, consumer inflation is unlikely to be a problem in 2013. The more dangerous problem of consumer deflation would become a problem only if the economy weakens significantly.

Interest rates: At least for this year, rates will be held low by Federal Reserve policy. As long as the world financial markets continue to accept minimal rates for U.S. government bonds, we have nothing to fear. However, the Greeks saw their 2007 interest rates go from about 3 percent to 18 percent in a matter of months when the world concluded they would not be able to pay back their debt or even the interest on their debt. This is the real “fiscal cliff” that we will have to face if we do not change course.

Real estate: A couple of weeks ago, the monthly Case-Shiller concluded “it’s clear that the housing recovery is gathering strength.” According to Zillow.com, the housing price index rose by as much as 10 percent in certain areas of West Michigan. Record low interest rates will continue to make home-owning cheaper than renting. For those who rent, the worst of the price increases are over, but overall rental rates will remain high for the foreseeable future. After five years, the demand for residential housing is finally catching up with supply, and home value should continue to rise at a modest rate. However, because of continued foreclosures and bankruptcies, the housing market recovery will remain spotty on a state-by-state, city-by-city basis. The home builders who have survived the Great Recession should have a vastly improved 2013, barring a new recession.

Unemployment: There is a high probability unemployment will be lower at the end of 2013, but the path is less certain. As noted for the last few months, our Employment index has fallen from the highs in the 50 percent to 60 percent range down to the teens or single digits. Hence, reductions in the unemployment rates are apt to be low for the first half of the year. Most of the improvement is likely to come in June to December.

Uncertainties: We enter 2013 with one of the longest list of unknowns in history. We have a temporary deal on the fiscal cliff, but a major part of the problems still have to be resolved in another two months. The sequestered funds are unresolved for two months. The debt-ceiling debate is upon us again, and just to keep the financial markets jittery, both sides are already posturing for a fight to the 11th hour. Numerous new taxes for Obamacare kicked in Jan. 1 and we do not know the reaction of businesses. One thing is sure: Small business optimism is still very low by historical standards, and these new taxes will have a negative impact on hiring. Small business is also struggling with the health insurance mandates required under the law. Nearly 40 percent of firms under 200 people say that the insurance requirement mandate is the prevailing negative factor inhibiting hiring. Finally, the financial situation in Europe is far from settled. Although progress has definitely been made, the world markets will continue to react to individual events throughout the year and throughout 2014 until the situation fully stabilizes.

Overall economy: With the president and Congress digging in their heels for the next big fight over the debt ceiling and sequestered funds, it is hard to imagine the poisonous atmosphere in Washington will dissipate anytime soon. This will tend to erode consumer confidence, which is already far below levels of six years ago. Furthermore, it is difficult to assess the impact the new health care taxes and health care insurance requirements will have on the business community, particularly small business. Historically, large tax increases have been followed by at least some degree of economic weakness. Hence, it would be easy to project economic weakness for the first half of 2013. However, offsetting this is the housing sector, wherein housing prices should continue to rise for most of 2013 in some geographic areas. Bottom line: The best we can hope for in early 2013 is very slow growth. It is most likely we will see business conditions remain dead flat, or even decline somewhat. If the business community is able to decide how to deal with the Obamacare mandates and taxes by mid-year, we should see slow growth for the last half of 2013.

Brian Long, Ph.D., is director of supply chain management research at Seidman College of Business, Grand Valley State University.

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