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Economy gets a B+
Overall things are good but fears about jobs, the dollar and deficits keep it from getting an A.
January 15, 2004: 1:25 PM EST
By Mark Gongloff, CNN/Money Staff Writer

NEW YORK (CNN/Money) - The signs are clear: the economy's roaring. But there's that Achilles heel called the job market, and just one more worry that's keeping some economists up at night.

The good news: Consumer spending is hanging tough, business spending has improved, manufacturing has finally come back and inflation and interest rates are at rock-bottom.

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The bad news: The job market hasn't recovered as quickly as it usually does, and it may stay relatively weak this year, keeping wage growth slow and discouraging consumers.

But what's more, some analysts fret about the growing budget deficit and the chance of a sudden collapse in the dollar, which is unlikely but not impossible. If it did occur, it could have ugly implications for the United States.

Aside from these risks, however, the economy seems to be in much better shape than in the fall of 2002, when CNN/Money gave it a C+.

Consumer confidence: Despite big gains in the stock market, the capture of Saddam Hussein and other happy news, consumers haven't yet fully embraced optimism.

While the ABC/Money confidence index hit an 18-month high, broader measures from the University of Michigan and the Conference Board, a private research firm, have stalled at good, not great, levels.

Consumers will need to see real improvement in the job market before they'll be as confident as they were in the late 1990s.

"One has to wonder how long the consumer can continue to spend at ... dizzying rates without a material improvement in the labor market," said David Rosenberg, chief economist at Merrill Lynch.

Consumer spending: Consumer spending is an 800-pound gorilla, fueling more than two-thirds of the world's largest economy.

Robust spending, fueled by tax rebates and cash from mortgage refinancing, pushed third-quarter economic growth to 8.2 percent, the fastest pace in two decades. The rebate checks and refi cash were temporary boosts, however, and consumer spending growth slowed in the fourth quarter.

Though holiday sales were decent, and consumers will get more cash this spring from tax refund checks to adjust for last year's extra withholding, most analysts believe spending will hang tough, but won't lead the economy's charge in 2004.

Business spending: After a long slump, business spending has recovered smartly. A government measure of business investment rose at a 12.8 percent rate in the third quarter, the fastest since the second quarter of 2000.

But in November, the latest data available, new orders for non-defense capital goods excluding aircraft, a proxy for business investment, shrank 5.1 percent. And the Conference Board said its monthly measure of CEO confidence slid in December, with corporate execs growing slightly less sanguine about growth prospects for the first half of 2004.

Still, businesses are flush with cash -- a recent Goldman Sachs note said corporate profits have risen 31.7 percent since the third quarter of 2001, the biggest such gain since 1950, while profit margins are at their highest since World War II.

"High margins are an inducement to invest more aggressively," wrote Goldman Sachs senior economist Jan Hatzius.

Labor market: One thing businesses are not doing aggressively, however, is hiring. The pace of layoffs has slowed dramatically -- the number of new weekly jobless claims fell last week to its lowest level since early 2001.

But the Conference Board's December consumer confidence survey indicated jobs were still relatively scarce, payrolls grew by a measly 1,000 jobs in December and the Federal Reserve's Beige Book survey found hiring remains "quite minimal" in many parts of the country.

Nevertheless, many analysts say stronger economic growth will force businesses to hire more U.S. workers soon -- surely they can't all be replaced by machines or by workers in China, India and other low-cost countries.

Housing market: A strong housing market is critical for economy, making homeowners wealthier and encouraging consumer spending on household goods.

Rising interest rates have apparently brought an end to the housing boom of recent years. Sales of existing homes, the bulk of the market, slowed in November, the latest data available, and demand for mortgage applications faded last month.

Though interest rates haven't risen much and mortgage demand picked up steam last week, economists believe the housing market is likely to slow from its record pace in 2003 -- but not by much, thanks to the benefits of an improving economy.

Manufacturing: After a long, miserable slump, the sector has been booming. Factory orders fell in November, but that's been about the only bad news in recent months.

Otherwise, the closely watched index of factory activity from the Institute for Supply Management jumped to a 20-year high in December, and regional readings from Chicago, New York and mid-Atlantic coast states have been strong. And manufacturers are optimistic about 2004.

"After edging up only 1.4 percent in 2003, we expect manufacturing production will increase by over 6 percent in 2004," Jerry Jasinowski, president of the National Association of Manufacturers, said Thursday, which would be the fastest pace since 1999. "Manufacturing will not be a drag on the economy in 2004," he added.

Stock market: Stocks ended a three-year slide last year with flying colors. The Dow Jones industrial average surged 25.3 percent, the Nasdaq composite gained a bubblicious 50 percent and the S&P 500 jumped 26.4 percent. Further gains should help consumers and businesses feel more confident, make shareholders wealthier and give companies another way to raise capital.

Dollar: The dollar's decline -- about 12 percent since 2002 against a broad range of currencies -- has helped narrow the trade gap by making U.S. exports cheaper overseas.

But economists are growing more anxious about the prospects for a nasty dollar decline, which would hurt U.S. financial markets and force the Fed to raise interest rates, crippling the economy.

"This scenario is highly unlikely, but can't be ruled out," said Sung Won Sohn, chief economist at Wells Fargo. "The best outcome is a gradual and orderly fall in the value of the dollar improving the trade balance; this is in fact what has been happening."

Inflation: What inflation? Though the dollar's fallen and gold and commodity prices have risen -- all typically leading indicators of inflation -- consumer prices are dead in the water. The Labor Department's core consumer price index, which measures inflation excluding volatile food and energy prices, rose at the slowest pace in 40 years last year.

Low inflation helps ease the pain of weak wage growth for consumers, and it allows the Fed to keep rates super-low for longer -- all of which should help economic growth.

"With inflation this tame, the Fed will be in no hurry to raise rates," said Joel Naroff, president and chief economist at Naroff Economic Advisors in Holland, Pa.

Overall: Things have clearly improved, and most economists expect the economy to grow at a 4 percent clip or better in 2004 -- not too shabby. But with lingering concerns about the labor market, the dollar's health and a growing federal budget deficit, it's clearly too early to give the economy an A.  Top of page




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Market indexes are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer Morningstar: © 2014 Morningstar, Inc. All Rights Reserved. Disclaimer The Dow Jones IndexesSM are proprietary to and distributed by Dow Jones & Company, Inc. and have been licensed for use. All content of the Dow Jones IndexesSM © 2014 is proprietary to Dow Jones & Company, Inc. Chicago Mercantile Association. The market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved. FactSet Research Systems Inc. 2014. All rights reserved. Most stock quote data provided by BATS.