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Some US economists remain bullish

James F. Smith, author of the ``Business Forecast'' at the University of North Carolina is among a dwindling number of economists that are bullish on the US economy. Smith in his home in Chapel Hill, North Carolina. PHOTO: NEW YORK

Take a look at the economic picture these days: Job gains are weak, the latest government indicators are consistently mixed, each week brings fresh revelations of corporate wrongdoing and the bears continue to dominate the stock market. So why do two of the most accurate economic forecasters believe that the economy has picked up speed and will continue to achieve solid growth through the end of the year?

James F. Smith, author of the Business Forecast at the University of North Carolina, explains his bullishness by the "middle American" perspective he has gained sitting hundreds of miles from Wall Street

Nancy R. Lazar, executive vice-president of the International Strategy & Investment Group, says she places her faith in the economy's historical truths as much as the latest data.

A bevy of forecasters, from Wall Street and elsewhere, are now estimating that the economy accelerated from a meager 1.1 percent annual growth rate in the second quarter to about 3.5 percent during the summer -- a healthy pace supported by the surge in mortgage refinancing at low rates, strong car sales and a drop in imports.

Nancy R. Lazar, executive vice-president of the ISI Group in her office in Manhattan on Thursday. She remains optimistic about the US economy's prospects. PHOTO: NY TIMES

Still, the top economists at Wall Street's biggest investment banks expect those positive factors to dissipate by year's end, leaving the economy to lose more jobs and eke out growth of no more than 2 percent in the fourth quarter.

By contrast, both Lazar and Smith contend that the economy will continue to expand, advancing by at least 4 percent in the fourth quarter of the year. That is even more growth than tireless bulls like Bruce Steinberg of Merrill Lynch and Diane C. Swonk of Bank One have predicted.

"The Wall Street types are completely blown away by the decline in the stock market. Since they all have such a high proportion of their net worth tied up on stocks, they think everybody does"

James F. Smith, author of the `Business Forecast'at the University of North Carolina

If these more bullish analysts are right, that could mean an improving economic outlook in time for the congressional elections (the first report on third quarter growth is scheduled for Oct. 31) and perhaps a better holiday shopping season than many retailers are now anticipating.

Why pay attention?

But why should anyone pay attention to them? Because beyond having a consistently above-average record, Smith and Lazar (working with Edward S. Hyman, the ISI Group's chairman) have made some of the most accurate economic forecasts of anyone, anywhere, in the past six quarters. While almost every forecaster except the dedicated pessimists failed to foresee the recession, Smith and Lazar presciently predicted a drop in the rate of economic growth to 1 percent or less last year.

Looking ahead, Smith said he believes that Wall Street economists have overestimated the effect of the stock market's tumble and underestimated the effects of low interest rates on consumers' spending. The reason for the discrepancy, he claimed, is that Wall Street economists focus only on a very small but powerful cross-section of the economy.

"The Wall Street types are completely blown away by the decline in the stock market," he said. "Since they all have such a high proportion of their net worth tied up on stocks, they think everybody does."

The clients of the big Wall Street banks, he added, are not representative of the "real people" who drive the economy.

Smith's real people -- middle-class consumers -- will do more than enough to keep the economy growing at a speedy clip, he predicted. Many more families own their own homes, he pointed out, than own a share of stock or mutual fund directly. Smith said he could conceive of homeowners refinancing their mortgages at lower interest rates and then buying cars with zero-percent financing, perhaps leaving their total monthly payments unchanged.

Investment banks

The biggest investment banks, whose clients included fallen corporations like Enron, WorldCom and Tyco, still expect a sluggish end to the year. JP Morgan Chase and Goldman Sachs both think growth will be 3.5 percent in the third quarter, and 2 percent in the fourth. Morgan Stanley agrees on the third quarter, but places the fourth at just 1.5 percent.

Smith, who is betting on 3.8 percent growth in the third quarter and 4.2 percent in the fourth, stated proudly that he has never worked on Wall Street. "North Carolina's probably a better place to sit to look at trends than New York City," he said.

Lazar might have grounds to disagree with that last claim. She and Hyman have compiled an excellent forecasting record from their perch on Manhattan's East Side. Their forecast for economic growth in the fourth quarter is actually higher, at 4 percent, than it was at the beginning of this year. At the core of their predictions, Lazar said, are changes in government policy and trends in interest rates in the world's biggest economies.

"Changes in global short rates lead US economic activity pretty consistently by 12 months," she said. "If you lower the cost of capital, it should help to improve economic activity. It makes the cost of doing business cheaper, and it makes the cost of buying things cheaper."

While a number of forecasters fear another downturn will result unless the Federal Reserve gooses the economy by cutting rates further, Lazar said she is waiting for the full impact of last year's rate cuts. "There is a sense that the Fed's easing isn't working," she said. "I just disagree with that. We believe very strongly that it takes 12 months for changes in rates to work their way through the economy."

Consumer spending

Inflation-adjusted spending by consumers could grow by 5 percent or more in this quarter, she said, because of low interest rates.

Slow growth in wages and rapid gains in productivity are helping to bolster corporate profits, Lazar added. Companies are likely to hire more workers and especially to invest their profits in new capital, she said, again because of low interest rates. She predicted that spending on equipment could rise by as much as 10 percent this quarter.

The most recent data on the economy may signal a tilt in the bulls' direction, however. Instinet Research's index of chain-store sales rose by 0.6 percent in the first week of September. Consumers' retail spending improved by 0.8 percent in August, the Commerce Department reported Friday. Earlier in the week, the department announced that wholesale inventories expanded by 0.6 percent in July.

On the flip side, the Federal Reserve's "beige book" of anecdotal reports from around the economy, released on Wednesday, hinted at slow growth early in the summer. And a recent survey of chief executives by TEC International, a professional association, found that many were planning to postpone major business investments until next year.

Indeed, bearish voices like that of Richard B. Berner, chief US economist at Morgan Stanley, continue to warn that the economy will get worse. "A lot of the growth in consumer spending in the third quarter borrowed from the fourth," he said.

"Everything I hear from companies about capital spending continues to be downbeat."

Still, while some forecasters have become more cautious lately, economists generally remain more bullish about the outlook for the economy than many top corporate executives in America.

Perhaps that's because, as Moore put, at least among economists there are "some optimists out there to balance the pessimists."
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