On Wall St., Economy Returns to Center Stage

Tumbling statues of Saddam Hussein were great television last week, but investors made clear that they need a better reason to take stock prices higher.

Wall Street now is focusing back on the domestic economy, and it is unsure whom to believe.

Federal Reserve Chairman Alan Greenspan has argued that business activity is poised to rebound just as soon as war uncertainties go away. Some recent data seem to back that view.

But last week, even as most of the war worries appeared to be evaporating, a survey of 120 top corporate executives found more pessimism about the economy than six months ago.

The Business Roundtable said its April executive poll, asking about plans for the next six months, showed a drop in the number of big companies planning to hire workers and an increase in the number expecting to reduce capital expenditures, both compared with the group’s November study.

“This survey reflects that CEOs are more concerned about the weakness in the economy than they were six months ago,” said John T. Dillon, chairman of the Business Roundtable and chief executive of International Paper Co.

Wall Street appeared to identify more with Dillon than with the (initially) jubilant crowds in Baghdad: The Dow Jones industrial average lost 0.9% for the week, to end Friday at 8,203.41.

Many investors, however, have learned to read between the lines of executive surveys; politics can be a factor in corporate responses. Indeed, the Business Roundtable’s news release with the survey declared that “Congress must pass a meaningful economic growth package that will put cash in consumers’ pockets and get the economy moving.”

In other words, big business wants a tax cut, at least for consumers if not for itself.

But companies take their cues from their customers. With or without a tax cut, if your customer begins to feel better about buying your product, you’ll feel better too -- and perhaps you’ll raise your output accordingly.

Economic expansion occurs when optimism among companies and consumers becomes increasingly contagious.

On Friday, the University of Michigan said its April index of consumer confidence nationwide surged to 83.2 from 77.6 in March. In a separate report, the government said March retail sales overall were better than many analysts had expected, thanks to a jump in sales of new cars and furniture in particular.

Yet there is significant debate about consumers’ ability to mount an extended spending spree that would pull the economy out of its lethargy. A strong argument is that there is little pent-up demand among consumers because their spending never fell off sharply in the last few years.

For that reason, many economists say the onus is on businesses to step up and start spending -- to replace outdated manufacturing and technology equipment, for example.

In fact, business spending on big-ticket goods has been improving over the last year, albeit slowly and erratically. New orders for non-defense-related capital goods totaled $49.4 billion in inflation-adjusted dollars in February, according to the Conference Board. The monthly totals have mostly been between $45 billion and $50 billion since mid-2001, stabilizing after plunging in 2000.

In the Business Roundtable survey, 27% of executives said they expected their U.S. capital expenditures to decline in the next six months, compared with 24% who said in November that they expected to cut expenditures for all of 2003. But bullish investors can make the case that 73% of firms still say they either plan to keep capital spending level (55%) or increase it (18%).

Similarly, 9% of executives said they planned more hiring in the next six months, down from the 11% who said in November that they would add staff in 2003. But the percentage expecting to cut staff has fallen as well, to 45% from 60% in November.

The employment picture remains the most troubling issue for many investors who fear that the economy will stall out, and with it any hope for a stock rally.

This is a worse “jobless recovery” than in the early 1990s, when the phrase was coined, said David Rosenberg, chief North American economist at Merrill Lynch & Co. in New York.

Since the economy bottomed in September 2001, total U.S. payrolls have dropped by a net 679,000 jobs, he said. By contrast, 20 months from the recession bottom in 1991 the economy had added 165,000 jobs.

There is a classic chicken-or-egg question here: Is rising employment dependent on the economy improving -- or is economic improvement dependent on rising employment?

Many investors obviously want to see stronger economic growth, and they may not care how it comes about.

But it’s worth keeping in mind that many companies’ efforts to restrain spending, though a drag on the economy, are aimed at bolstering the bottom line. That, in turn, could make stock prices more attractive relative to earnings.

The long, deep bear market since March 2000 understandably has made more investors reluctant to overpay for stocks. At the same time, Wall Street continues to ratchet down its long-term earnings growth estimates for blue chip companies.

Analysts now expect companies in the Standard & Poor’s 500 index to post overall operating profit growth of 11.5% a year over the next three to five years, according to earnings tracker Thomson First Call in Boston. The number has been dropping since early in 2001, and some critics say analysts still are overly optimistic.

Faced with declining profit growth expectations, some investors may come to find companies’ caution about hiring and capital spending comforting rather than disturbing.

Collectively, however, too much caution is a recipe for recession. “How much is too much?” may be the most pressing question that companies, and Wall Street, now face.

Tom Petruno can be reached at tom.petruno@latimes.com.