The Economy Won’t Move Because Managers Won’t Move

This economy needs more “animal spirit.” The great economist, John Maynard Keynes, coined this term to describe the willingness of business managers to expand aggressively and identified it as essential for economic growth. It is, he argued, what impels them to hire and spend. Companies today surely have the wherewithal to become more aggressive. Profits and margins are strong and balance sheets are in remarkably good shape. Yet, managers seem to lack the confidence to move. Hiring has remained historically restrained and so, accordingly, so have household incomes and spending, at least relative to past recoveries, and so also has the pace of overall economic growth. Spending by businesses on new facilities, equipment, systems, and intellectual capital has also remained historically restrained. Nor are their signs of a change in such patterns, at least not significant enough to alter the substandard character of this recovery.

Certainly, managements have the resources to be a lot bolder than they have been. According to the Federal Reserve, non-financial corporations have seen the value of their financial assets jump 4.7 percent a year since 2009 and 4.8 percent a year since 2012. Their cash on hand has increased during these two periods at annual rates of 3.3 percent since 2009 and a whopping 5.8 percent rate since 2012. Cash holdings now exceed 10 percent of total liabilities. The value of their real estate assets has increased at a 9.1 percent annual rate since 2009 and at a still stronger 12.5 percent rate since 2012. Total assets have jumped at annual rates of 5.6 and 5.4 percent during these two periods respectively. Business caution has, however, so held down the growth of liabilities that their net worth has jumped 6.5 percent a year since 2009 and 6.6 percent since 2012.

This story of improvement and caution is much the same for smaller business. Non-financial, non-corporate firms in the United States have seen their total assets expand 9.5 percent a year since 2012. Their cash holdings have grown less impressively than those of larger companies, but, like their larger brothers and sisters, caution in these smaller firms has held back increases in liabilities, which have expanded at only a 1.2 percent annual rate since 2009 and only a 1.9 percent rate since 2012. Their net worth, accordingly, has jumped at a 7.8 percent yearly rate since 2009 and a 6.6 percent rate since 2012.

Despite the impressive improvement in business’ financial resources, two considerations in particular have held managements back. First is the legacy of the great recession of 2008-09, perhaps “wounds” is a better word. During that difficult time, managements came up short on several counts. Many report that they had trouble making payroll. The financial crisis that accompanied the recession exaggerated such pressure. Many small and quite a few larger firms found lenders less than eager to honor lines of credit previously arranged. Little wonder, then, that managements remain reluctant to use their assets and their cash as fully and as aggressively as they once did. On top of these powerful influences, Washington, beginning in 2009, passed a great deal of complex legislation. The Affordable Care and the Dodd-Frank Financial Reform acts stand as prominent. Whatever the merits of these laws, their complexity created considerable uncertainty among managements about the costs of hiring or credit and even the future availability of credit, a consideration that greatly exacerbated the reluctance engendered by the recessionary experience.

Business has, accordingly, hired at a slower pace than in the past. Even the 2014 pickup in the pace of payroll growth falls short of the historic standard. So far this year, according to the Labor Department, payrolls have grown on average by 226,667 a month, up from 194,250 a month in 2013 and 186,333 in 2012. Though a welcome improvement, past recoveries in the 1980s, 1990s, and earlier in this century, have seen much stronger payroll gains, often in excess of 300,000 a month. Reflecting the slow pace of hiring, real incomes in this recovery have grown less robustly than in past cycles. The lavish use of overtime and an upgrading in the average skillset of new employees has helped overcome some of the effects of the hiring shortfall, but not enough to change the adverse incomes comparison. So far this year, overall real personal income has accelerated to a 3.6 percent annual pace of increase, from negligible growth in 2013 and 2012. Though also a welcome improvement, the established trend nonetheless remains well below that of past cyclical recoveries.

The present rate of growth in incomes is good enough to sustain some expansion in consumer spending, and also give some hope of an acceleration going forward, but nothing to match past cyclical recoveries. The strain is not just that households have seen their spendable resources grow along a shallow slope, but their sense of the shortfall, and the still constrained jobs market, has kept them from extending themselves as they once would have. To be sure, this caution on the part of households does guard against an over extension that might in time lead to a bust, but it also blocks a rise to that happy medium between excess and greater levels of economic activity.

Managements have remained reluctant to spend and expand in other ways as well. The most telling sign here is how little their capital spending exceeds ongoing rates of depreciation. In past recoveries, companies quickly increased spending on new equipment, premises, and intellectual capital, increasing it on average from barely over depreciation rates during the recession to almost 45 percent above such rates in the early stages of recovery and even higher later in the expansion. But this time their caution has held them back so that new spending on equipment, premises, systems, and intellectual capital, even after years of albeit slow recovery, still barely exceeds depreciation rates by 20 percent, less than half the historic average. Apart from directly holding down spending flows into the economy, this relatively timid behavior also limits future potentials for productive capabilities, productivity, hiring, and upgrading.

Sadly, there is little sign that the old “animal spirits” are likely to return quickly. Time, no doubt, will erase the bad memories of 2008-09 and perhaps permit more aggressive behavior among business managers. But as the evidence just presented indicates, it will likely take considerably longer before behavior changes substantively, and then the turn will likely occur only slowly. Meanwhile, the uncertainties connected with Washington’s ambitious legislation linger. Regulators have yet to write, much less clarify, many of the rules connected with the Dodd-Frank financial legislation, leaving all in business and finance up in the air about costs, availability, even required procedures in getting credit. There was some hope as 2014 approached that a full implementation of the Affordable Care Act would clarify its costs, benefits, and burdens. But so much of the bill has been modified temporarily, some for indefinite periods, that the most oppressive uncertainties remain in place. And all this offers ample reason to expect that this recovery will continue at an historically slow pace, if perhaps not quite as substandard as it has been his far.

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