The Economy: Why It Sucks
by Carl Hegelman
A SIGN INDICATING that the factory behind the gate on which it rests has
been shuttered. The economy is terrible right now. Almost everybody seems
to agree. The business community, as represented by the US Chamber of
Commerce, the Business Roundtable and most Republicans, has some ideas
as to how to fix it: cut taxes; reduce the deficit (!); rein in Big
Government spending (except defense); stop over-regulating business so
they can get on with business. The Democrats have their own idea: more
stimulus, in the form of, for example, extending unemployment benefits.
Who's right? If anybody?
As a corporate bond analyst, I get some perspective on this. My job is
to analyze companies and try to figure out whether they can service
their debt (pay interest and return the principal when it comes due),
or, perhaps more often, how much of a loss their creditors (banks,
bondholders, vendors, pensioners, etc) are going to take in the
bankruptcy, and what the company is going to look like when it has
screwed them all (except the lawyers and financiers) and emerges in a
relatively debt-free state from Chapter 11. I spend a lot of time gazing
at spreadsheets (in between ruminating over Solitaire, Hearts, Tetris
and Bridge), corporate slide-shows and SEC filings. I listen to a lot of
"earnings calls" (the conference calls given by management when their
quarterly earnings numbers are released). I read the Financial Times
every day. (Gave up the Journal a long time ago, fed up, finally, with
the one-sidedness of its editorials).
There's a thread that runs through most of the calls I listen to: Demand
is weak; we are responding by cutting the fat and becoming leaner and
meaner; when demand picks up, we'll be in good shape.
Most of the companies I follow have a line in their income statements:
Restructuring charges. When they close a plant and lay people off
("headcount reductions"), they have to pay severance and, for instance,
break leases. And that's what restructuring charges are all about.
Granted, I don't follow upper-class companies like Exxon or IBM or
Microsoft; but pretty much every US company I do follow has this line in
its income statement. And even most of the blue-chips have probably
taken these restructuring charges at some point in the past two or three
years. Yes, even Microsoft ($290 million in the March quarter of 2009).
Just as an aside here, there's a reason for them breaking it out like
that as a separate line-item in their expenses: that way, they can
present it as a "one-time charge". Analysts like me are supposed to
discount it in looking at their "real" underlying cash flow and in
forecasting their financial futures. It's a one-time charge. Trouble is,
it almost never is a one-time charge. That line, Restructuring Charges,
appears, for most of my companies, every single quarter. Sometimes you
begin to wonder what's left to restructure.
Most CEOs and CFOs on earnings calls are not taking the big-picture
view. They're focused on the details of their own particular business.
Still, I often ask myself if they see the connection that's staring you
right in the face: when is "the consumer" going to start spending again?
Well, maybe when you stop firing him.
This really seems to be the root of the problem here in the US, and
these earnings calls are like a microcosm of the whole US economy.
You've probably read a hundred times that consumers are responsible for
about two-thirds of GDP. (In the last four quarters up to 3/31/2010 it
was close to 71%). So if they don't have any spendable money because
they've been fired (or are afraid they're going to be fired), demand
will be weak.
In other words: If I fire everybody, then who is going to buy the stuff
I make? You can see how this turns into a vicious circle.
A corollary of this whole phenomenon, incidentally, is this: Private
enterprise "surplus" as a percentage of GDP has stayed at a pretty high
level—about 25% over the 12 months to 3/31/10. That's well above the
trough in the last really big recession in 1980, when it ran about 20%.
At the same time, perhaps not surprisingly, corporate cash is at $1.8
trillion, according to the Federal Reserve, which at 7% of assets is as
high as it's been since the 1960s. There's probably another reason for
that other than all the money they've saved by their "reductions in
force": they're haunted by the ghost of the credit crunch, when cash was
very hard to come by and you couldn't be sure your bank would survive.
Still, there's obviously a connection.
You probably think this is all leading up to a big rant against the evil
corporations. Not so. I mean, there's plenty to rant about, including
the extraordinarily high salaries of the corporate managers and,
particularly, the egregious parasitism of "financial services" companies
whose contribution to our economy is minuscule in comparison to their
cost; but staying "lean and mean" is just facing reality: keeping
employees hired just for the good of US-kind is a short-term fix with
bad long-term consequences.
The stock answer to this quandary is that we must invent new industries
and re-train workers in the skills required to drive them; but, frankly,
that's bullshit and I think we secretly all know it. The truth is, there
is no good answer to this quandary.
One thing does seem clear, though. The US Chamber of Commerce, Business
Roundtable and Republicans generally have the wrong answer. The reason
businesses are not hiring is not that their taxes are too high or that
they're over-regulated or that their healthcare costs are too high or
that they don't have enough cash or that they can't borrow. The reason
is that there's fewer and fewer people left to buy their stuff (except
the Chinese, but that's another story). It's not even clear, really,
that's there's anything government can do. But if we have to pick
between the Republican solution and the Democrat one, well, the
Democrats win by default.
Carl Hegelman (a pen name) is a corporate bond analyst and a connoisseur