2006 New Years

by Wendell Cayton

What’s not to like about this economy … especially looking forward to next year? Considering hurricanes, soaring energy prices, higher interest rates, and a war that won’t go away, the overall performance is a testament to the willingness of both consumers and business to spend and invest. According to Moody’s Economy.com®, the economy should enjoy a real GDP growth of over 3.5% this year. By their figuring, this will translate into the creation of over 2 million jobs and a 5% unemployment rate. They note that this in not on par with the 3 million jobs created annually during the latter part of the 1990s; labor-force growth has slowed, indicative of an increasing rate of retirement from the workforce.

As a nation, we are growing stronger balance sheets, both on the business and the household
sectors. Corporate profitability is up. And helped by historically low interest rates, corporations have strengthened their balance sheets and have plenty of cash on hand.

Household net worth is growing even more quickly and will soon hit an all-time high, six years
after the previous peak. Naysayers who continue to point to increasing consumer debt as the engine fueling consumer spending are neglecting to factor in increasing household incomes, increased retirement plan account values, and higher real estate equity.

Fears of higher inflation caused by higher interest rates and increasing fuel costs are perhaps
overblown, as core consumer price inflation is only 2% and the federal funds rate target and fixed mortgage rates hover around 4.25% and 6% respectively—both low by historical standards.

Looking forward to 2006, we see more promising signs of continued economic growth, with some bumps to be avoided.

The domestic auto and airline sectors can be described as anemic at best. Bankruptcy plagues both industries, leaving investors scratching their heads, wondering if they will ever return to profitability. Personally, I believe airlines will be increasingly impacted by the proliferation of broadband Internet and the spread of inexpensive video conferencing capability.

Speaking of inexpensive video conferencing, if you haven’t been in an Apple® store recently, treat yourself to a demonstration of their capabilities. With a setup in Grandmother’s home and one in your house, you can have everything you need to stay in touch (except for the cinnamon rolls and hugs) without the hassles and expense of air travel.

The combination of increasing interest rates and higher energy prices could also put a damper on the 2006 party. A disruption in supplies, or a colder than average winter, could drive oil and gas prices to much higher levels, which in turn puts pressure on economic growth. Lest we forget, higher interest rates in the home mortgage market could continue to drive down housing affordability and cool off the hot housing market.

Aside from the “bumps,” on the plus side we have increased business productivity, as growth in labor compensation has not kept pace. Moody’s points out that businesses are generating more than enough cash to cover their projected investment needs.

With cash to spend, it is a good bet we will see increased business investment spending, which should result in expanded payrolls and more jobs, which means stronger consumer spending.

Bruce Fenton is a financial consultant, a writer, and the president and founder of Atlantic Financial Inc. Bruce welcomes inquiries, comments, and questions. He can be reached by contacting The Fenton Report.