News > Economy
Consumers hold the key
September 13, 2001: 3:55 p.m. ET

For the U.S. economy to recover from attacks, the consumer must spend
By Staff Writer Mark Gongloff
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NEW YORK (CNNfn) - In their grief, U.S. consumers are likely to spend less in the weeks following the worst terrorist attack in the nation's history -- putting the world's largest economy at risk -- but what happens in the following months still is in doubt.

Firefighters working in the wreckage of the World Trade Center in New York City
"Consumer spending had been in decline before this awful tragedy happened. Now comes this additional damper," said retail analyst Kurt Barnard, president of Barnard's Retail Trend Report. "Considering we are living in state of shock, sorrow and sadness, we really can't expect people to just go out on wild shopping binges."

On Tuesday, terrorists flew hijacked passenger jets into both towers of the World Trade Center in New York City and the Pentagon near Washington, D.C., killing and injuring untold thousands of people and causing billions of dollars in damage.

In the aftermath of the tragedy, U.S. stock markets have been shut, and economists have become worried that consumer confidence will be damaged, pulling the supports from under the sluggish U.S. economy and triggering a recession.

Barnard said he expects spending to be slow in September and "for some time to come," but to recover in the fourth quarter to previously expected levels as consumers use the holidays as an opportunity to comfort themselves.

"We think consumer spending will go back to the kind of level we expected for the fourth quarter before [the attacks] happened, and that level was not one of great strength," Barnard said. "We were thinking that it might be 2 to 3 percent above last year on a same-store basis, and last year was pretty bad. We would be coming off a weak base."

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Consumer spending fuels two-thirds of the U.S. economy and has been credited with fending off a recession during a year-long slowdown brought about mostly by sluggish spending by businesses. But data have indicated that hundreds of thousands of job cuts may finally be taking their toll on consumer confidence.

Last Friday, the Labor Department reported the U.S. unemployment rate jumped to 4.9 percent in August, its highest point in four years, causing a sell-off on Wall Street and leading to heightened fears of a recession.

On Thursday, the number of new claims last week for unemployment benefits jumped to 431,000 from a revised 410,000 the prior week, well above analysts' expectations. Also discouraging was the number of continuing unemployed, which rose to 3.36 million in the week ended Sept. 1.

"The pace of layoffs is rising again, while new hiring has stopped," said Steven Wood, economist with FinancialOxygen. "These trends will likely be extended because of the economic dislocations associated with this week's tragic events."

In the latest sign of eroding consumer confidence, the University of Michigan's closely watched consumer sentiment index came in at 83.6 in September, down from 91. 5 in August, according to a Reuters report Thursday. The survey was conducted through Sept. 10, the day before the attacks, Reuters said.

A poll taken after the attacks, however, was surprisingly more optimistic. Harris Interactive (HPOL: Research, Estimates) surveyed 4,600 adult Americans and found that, while most expected a financial downturn, they didn't plan to spend less, change their investment decisions, or even change their personal behavior, apart from cutting down on their flying.

"Our guess now is that there will be some incremental decay of consumers' expectations, especially in the New York area, but it will not be sufficient to upset our basic recovery story," said Ian Shepherdson, chief economist with High Frequency Economics Ltd.

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If consumers keep spending, then it's possible a long-standing inventory overhang can be sold off and businesses can begin spending again to build up their production capacity -- and hiring new workers.

"Businesses are going to be waiting and seeing. The most important factor is how consumers behave," said Sung Won Sohn, chief economist with Wells Fargo & Co. "The cost of capital is important, but in the final analysis, you've got to sell products. If you're not going to sell products, you're not going to need capacity."

In other hopeful signs for the world economy, European stock markets were largely higher and Asian markets recovered from a brutal day of selling Wednesday to post modest gains.

The Federal Reserve, which has flooded the U.S. financial system with billions of dollars since the attacks, agreed to swap up to $50 billion in cash with the European Central Bank.

The Fed also is more likely to cut its target for short-term interest rates for the eighth time this year in an effort to make money more accessible for consumers and keep them spending.

"The Fed will act sooner rather than later, more rather than less," said Ken Goldstein, economist with the Conference Board. They will act now and worry about having overshot at some later date."

The rate cut could come as early as Monday, when U.S. stock markets resume trading. They have been closed since Tuesday, the longest stretch of inactivity since World War I.

Investors urged to stay the course

The last U.S. recession -- commonly defined as two consecutive quarters of negative GDP -- was triggered by the Gulf War, which started when Iraq invaded Kuwait on August 2, 1990. GDP contracted in that quarter and continued to do so through the first quarter of 1991, during which time the U.S. bombed Iraq.

But a military action in the Middle East in response to Tuesday's attacks could have a different result.

"Unlike the Gulf War, it won't determine a recession," said Ken Goldstein, economist with the Conference Board. "There was long build-up to the Gulf War. We had troops over there for a month or two before they actually were engaged. I wouldn't expect that what action follows from here will last that long or have that much of a build-up."

Success in such an action also could have a positive effect on consumer sentiment, just as the resounding success of the U.S. and its partners in the Gulf War coalition helped boost GDP in the quarters following the war.

"If there's some action, it's going to depend on how we come out," said Robert Goodman, chief economist at Putnam Investments. "If there's a swift retaliation, and it's seen as successful, it could make people feel good, spur celebrating and give us a lift."

No matter what the resolution of the U.S. response, however, the best advice for investors is the same -- be calm.

"For an investor with a good, solid, long-term strategy, the best advice is to do absolutely nothing," Putnam said. "That's hard to do. But it's the best advice. If it was a good strategy a week ago, it's still good strategy. We're the No. 1 economy in world, and our capacity hasn't been affected at all." graphic


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