By Peronet Despeignes
Financial Times

Saturday 05 April 2003

US economists have grossly and chronically underestimated the US economy's weakness this year, in a fashion typically found during a turning point toward a new recession.

Over the past two months, forecasters have consistently predicted a resumption of the recovery and underpredicted big drops seen over the past two months in employment, production, retail sales and home purchases - even though most of those figures lag by a month, released by the time most of the developments of the reported month are already widely known.

For instance, economists, on average, underestimated the loss of payroll jobs in March by an average 80,000, or 80 per cent, following their prediction of a slight gain in February - when job losses, in fact, totalled more than 350,000.

The gap between their predictions and the actual numbers is now the widest in more than seven years, according to recent research by Goldman Sachs. That, in itself, is worrisome, say historians of the data.

"The consensus forecast typically makes enormous errors at turning points of the economy, when things change," said Anirvan Banerji, research director for the Economic Cycle Research Institute. "Most economists use forecasting models that in some sophisticated way just extrapolate from the recent past. These models fail to account for any possible change in the dynamic or any possible cascading effect."

Prakash Loungani, an analyst with the International Monetary Fund, who has also closely researched the historical accuracy of private-sector forecasts in the US and abroad, warns in a paper to be released this summer that forecasts for a recovery may be "good in cases where recessions end in about a year", since US recessions generally last only a year or less, but "recessions which drag on for a couple of years or which do a double-dip are poorly forecast".

"We are in a window of vulnerability - at a juncture where we could be tipped in recession or away from it," said Mr Banerji, "and the longer this period of vulnerability lasts, the more likely we are to be tipped into recession."

Asha Bangalore, an economist with Northern Trust Company in Chicago, further warned that forecasting could be made more difficult, because "if the US continues to perform poorly, the rest of the world will perform more poorly - there will be a feedback on exports".

The uncertainty about the economy's current plight and its future course has discouraged the National Bureau of Economic Research, the academic group seen as the official historian of US business cycles, from declaring an outright end to the recession, which it said began in 2001.

It has also prompted the Federal Reserve policymakers to abstain, for the first time ever, from making statements about the balance of risks between economic weakness and higher inflation.

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For Bush, Time to Mend Economy Is Running Out
By Dana Milbank
Washington Post

Saturday 05 April 2003

The Labor Department's report yesterday that the U.S. economy shed 108,000 jobs in March underscored an emerging threat to President Bush's reelection prospects: He is running out of time to restore jobs and economic growth.

The job losses in March, more than double the number analysts had expected, mean nearly 2.1 million jobs have been lost since Bush took office. Though the unemployment rate held steady at 5.8 percent in March, the private sector has lost more than 2.6 million jobs during Bush's term -- a drop that has been offset only by increased government hiring.

For Bush, this is not a short-term problem. He enjoys broad popularity as a war leader, and victory in Iraq would likely give him another boost. But, as happened to President George H.W. Bush in 1992, such support can diminish fast in a sluggish economy. Although the election is 19 months away, it can take a long time to restore growth and jobs.

Administration economists, and many outside of government, had hoped that a quick victory in Iraq would give a boost to the stock market and to consumer confidence, reigniting the economy. Some still expect this scenario. But increasingly, they are describing the economic problems as broader and more difficult to solve, regardless of how soon the war ends.

"The problem is not with the concern about the Iraq war. The problem is the underlying weakness with the economy," Treasury Secretary John W. Snow said in Orlando on Thursday. Asked about the possibility of a return to recession, he said that "we need to guard against it" because of a "clear weakness."

As a general rule, administration officials and private economists say, the economy needs to be growing by more than 3 percent -- and possibly well above -- for jobs to be added. Economists and political strategists also assume that such growth must be firmly in place by the second quarter of an election year for voters to feel the effects by Election Day. And, Bush aides say, because it takes nine months for the full benefit of a new economic stimulus plan to be felt, policymakers have little time to spare.

"The rule of thumb is second-quarter GDP [gross domestic product] growth in the presidential election year has to be above 3 percent," said Kenneth M. Duberstein, who was a chief of staff to President Ronald Reagan. "That's why everything this year is driven toward next year's second-quarter GDP."

If Bush's $726 billion tax cut is enacted in June, it will come just in time for the all-important 2004 second quarter.

"Given where the economy is and where it looks like the economy is going to be in the near future, our instructions are to get this growing as soon as possible," a senior administration official said yesterday.

Some believe the time has passed to influence the 2004 economy. "If you're talking about boosting the economy in a year, it's too late for that," said the Urban Institute's Rudolph G. Penner, director of the Congressional Budget Office during the Reagan administration. By historical measures, it takes two quarters of growth of about 3 percent to produce a large increase in jobs. That means Bush would need the economy to be humming by the fourth quarter of this year.

There is still a chance that could happen. The firm Macroeconomic Advisers wrote in a report last week that it expects 4.4 percent growth in the second half of this year because "a favorable outcome in Iraq . . . will be followed by improvements in business, investor and consumer confidence."

But that notion is much disputed. "I have no evidence that the start or finish of the war with Iraq has anything to do with the economy," said John H. Makin, a conservative economist with the American Enterprise Institute. As a result, Makin said, "there really is some urgency for this White House."

The cost of the war in Iraq has led to an effort to halve Bush's $726 billion tax cut, but even if he gets all of it, Makin said, it will inject only about $70 billion into the economy. Deduct from that cutbacks in state and local government spending, and the stimulus to the economy "will be well below half one percent" of the gross domestic product. "That's not a magical elixir, and people aren't in a mood to spend it, anyway," he said.

Some say Bush should restructure his tax cut to drop the dividend tax elimination, which accounts for half of the package but provides a negligible economic boost in the short term. "Rather than shoehorning the dividend plan in, they should be trying to shoehorn in the most amount of economic stimulus," said Bill Dudley, chief U.S. economist for Goldman Sachs.

Still, Dudley said, "I don't see any sign that they're changing their approach. The policies don't change even when circumstances change, and the economy is a good bit weaker than many people thought three or six months ago."

Although the White House has not made any adjustment to its tax plan since Bush unveiled it at the start of the year, the president and his aides have acknowledged a change in economic conditions. They have largely dropped talk about a fundamentally "sound" and "strong" economy in favor of gloomier language.

The same day the Treasury secretary was talking about the "underlying weakness with the economy," White House press secretary Ari Fleischer spoke of "bad reports" and "bad news": declining business activity and rising unemployment.

Democrats are hoping to exploit the economic weakness. After yesterday's jobs report, House Minority Leader Nancy Pelosi (D-Calif.) said it was evidence that Bush's "misguided economic plan has simply not worked" and blamed him for "the worst record on job creation of any president in nearly 60 years." Democrats point to disproportionately high job losses in "swing" electoral states such as Colorado, Michigan, Missouri, North Carolina and Ohio.

The administration's calculations show that the tax cut Bush is proposing would add 450,000 jobs this year -- slightly fewer than the number lost in the past two months -- and 1.4 million next year, just more than two-thirds of the number lost since he took office. A senior administration official yesterday called that a conservative forecast, arguing that the dividend tax cut would give a short-term boost to stocks, raising confidence.

But there are many problems outside of Bush's control. On Monday, the closely watched Blue Chip compilation of economists' forecasts will be released, and "people have had to mark down forecasts," said Randell E. Moore, the survey's editor.

First came the bad winter weather in February, then what Moore calls the "CNN effect" of the war in March. "Maybe the second-half [of 2003] excuse is going to be SARS," Moore said, referring to the contagious lung disease that first appeared in Asia and has hurt travel and commerce. "It could have an incredible effect," he said.

The end of heavy fighting in Iraq will help somewhat. "There's still the expectation among private-sector economists that a good part of what's holding back the economy is uncertainty about the war," Moore said. But even then, he added, a number of economists believe "there will be a sharp headwind."

The nation is using only 75 percent of its industrial capacity, the lowest level in 20 years. Working through that excess capacity -- and adding the jobs to do so -- "will take some time," he said.

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