Earlier this year, in his semi-annual monetary policy report to Congress, Federal Reserve Chairman Alan Greenspan devoted considerable time to a discussion of business and consumer confidence.
Businesses, he said, were reacting to the changing environment and "increased uncertainty" with a "reduced willingness" to invest. Consumers, he warned, when they become "less secure in their jobs and finances, retrench as well." For Greenspan the policy maker, abrupt changes in confidence pose a problem, not so much in and of themselves but because they can't be predicted.
"This unpredictable rending of confidence is one reason that recessions are so difficult to forecast," Greenspan said on Feb. 13, 2001. "They may not be changes in degree from a period of economic expansion, but a different process engendered by fear.
PHOTO: NY TIMES
Our economic models have never been particularly successful in capturing a process driven in large part by nonrational behavior." Fast forward eight months, and rational or not, consumer confidence is taking a dive. The Conference Board's consumer confidence index slid 11.5 points in October to 85.5, the lowest level since February 1994, when sentiment was on the mend following the 1990-1991 recession.
Both components of confidence plummeted this month, with the present situation index down 18 points to 125.4 and the expectations index down more than 7 points to 70.8. The latter index was this low in February, and rebounded through August before taking another dive in September, apparently unrelated to the Sept. 11 terrorist attacks.
Unlike the University of Michigan consumer sentiment survey, which showed a slight uptick in October, the Conference Board survey is heavily weighted toward labor market conditions. (The Michigan survey emphasizes financial and business conditions.) Two of the five questions in the monthly survey are directly related to employment conditions (current and future). A third question asks about expectations about family income, which for most families is tied to their job.
Clearly, consumers are feeling glum in response to the "thousands of layoffs that have taken place, and those still to come," arguing against "a rebound in confidence anytime soon," the Conference Board said.
None of the other measures of confidence was as bleak as the Conference Board index.
"Take your pick: you have three different measures telling different stories," said Henry Willmore, senior US economist at Barclays Capital Group. "The Conference Board was down a lot, Michigan was up slightly and ABC News Money Magazine was unchanged." What's more, "confidence doesn't tell us anything we don't already know," Willmore said. "Confidence is a reflection of what's going on in the job market and stock market. Once you account for those two factors, consumer confidence has little independent causality on spending." Whether confidence rose, fell or stayed the same in October, the level is low. How then to explain the ebullience of investors? A Gallup poll last week found that investor optimism soared in October, more than making up for the September decline.
The index, which stood at 86 in August, fell to 63 in September and jumped to 130 in October, the highest since January, according to the Oct. 25 survey by the Gallup Organization.
The index has three dimensions (presumably the twilight zone is not one of them): personal, economic and governmental. All three components registered quantum leaps this month.
The president's approval rating is at an all-time high. So why is consumer confidence, as measured by the Conference Board and University of Michigan, at a seven- or eight-year low? "Investors are not a cross-section of households," said Richard Curtin, director of the University of Michigan's survey of consumers. "They tend to be upper income and older." When asked about investing, that segment of the Michigan survey said now is a good time to invest, Curtin said. "Ask that segment about the economy, and they say the economy is going to worsen. Those are not inconsistent propositions. They see opportunities to make investments even though the near-term outlook is bad." Maybe that explains the double-digit gains in the stock market from the Sept. 21 post-terrorist-attack lows in the face of some God-awful news on the economy and corporate profits. With more than three-quarters of the Standard & Poor's 500 companies reporting so far, third-quarter profits were down 19.3 percent, according to Thomson Financial/First Call.
While stocks seem to have sobered up to reality yesterday and today, Curtin's explanation of the divergence between the economic and investment outlook makes sense: the time horizon is different.
A problem arises when the negative near-term economic outlook doesn't evolve into something that supports the positive long-term investment outlook.
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