Economy Sinks Under Weight Of Inventory
Data Not as Bleak as Expected But Suggest Worst Is Ahead

By Neil Irwin and Annys Shin
Washington Post Staff Writers
Saturday, January 31, 2009

Consumers didn't consume, businesses didn't invest, overseas buyers of American goods didn't buy and unsold products piled up in warehouses in the final months of last year. Those factors combined to drive the economy to its weakest quarter in nearly three decades and signaled that the worst is still to come.

New government data showing that the economy contracted at a 3.8 percent annual rate in the fourth quarter was not as grim as economists had forecast. But the data on gross domestic product, released yesterday by the Commerce Department, were a portrait of an economy in a deep and broadening recession. Business inventories swelled as consumer appetites waned, suggesting that companies will cut their excess stockpiles and curtail new orders this year, pulling down growth in the months ahead.

Wall Street showed little enthusiasm on the report. The Dow Jones industrial average tumbled 1.8 percent, or 148 points, to 8001. At the White House, President Obama seized on the news to again urge Congress to pass his stimulus package, saying America's working families are facing "a continuing disaster."

It was a bleak end to a week of dismal economic news. U.S. companies in recent days announced layoffs at a frenzied pace, with companies including Boeing, Pfizer, Caterpillar and Target saying they planned to cut tens of thousands of jobs. Yesterday, Procter & Gamble, the giant consumer products company, cut its profit forecast in a sign that Americans are scrimping even on staples like Crest toothpaste and Tide detergent.

Not all companies suffered. Exxon Mobil reported a sharp drop-off in fourth-quarter earnings but still logged a record $45.2 billion profit for the year.

Analysts yesterday said the more they looked at the new data on GDP, the broadest measure of the nation's economic output, the worse matters seemed.

"Initially a cheer went up," said Mike Schenk, a senior economist at the Credit Union National Association. "But reality quickly set in, and as I look at these numbers, there's really nothing to be excited about."

GDP has four main components: consumption, investment, government spending and net exports. There were worrying signs yesterday on all fronts.

Exports, which kept the economy afloat for much of 2008, fell 19.7 percent, as the bottom fell out of the economies in nations around the world that buy American goods.

Government spending rose overall, but state and local government spending fell, indicating that the dire fiscal situation facing many municipalities is causing them to cut back.

Business investment, which had held up reasonably well through most of last year, plummeted, with spending on equipment and software down at a 27.8 percent pace. Investment in housing, which didn't seem like it had much further to fall, dropped at a 23.6 percent pace.

The biggest component of the nation's economy, consumer spending, dropped 3.5 percent, driven down most sharply by Americans' reluctance to buy automobiles, furniture, appliances or other durable goods. Consumers lack confidence about the future, their incomes are declining because of the moribund job market, and they are struggling to get credit to make major purchases.

"Sometime around October, businesses and households got the message to stop spending. Everyone read the memo at the same time," said Phillip L. Swagel, a former assistant Treasury secretary who teaches economics at the University of Chicago.

Many analysts noted that, because a rise in inventory counts as growth in calculating GDP, the overall figure did not decline as much as it otherwise would have. If the buildup in inventories had been excluded, GDP would have declined at an annual rate of 5.3 percent, roughly in line with expectations.

"The situation is demand is dropping like a rock. Businesses are unable to get rid of excess inventories they have right now from cars to retail stores," said California State University economist Sung Won Sohn. "Clearly it indicates sales fell faster than production, which resulted in higher inventories."

References to unwanted stockpiles have littered recent earnings releases and conference calls, as has talk of scaling back production and job cuts.

Speaking about the market for flat-panel televisions, Sony's chief financial officer, Nobuyuki Oneda, told analysts last week: "The inventory is higher than normal for the year because everyone is suffering the sales, the reductions because of the economic situation."

The holiday shopping season was brutal for Sony, which said Thursday that its profits in the last months of last year had plummeted 95 percent compared with the period a year earlier. It was hurt by intense price competition, poor cellphone sales and currency fluctuations. In December, the company said it would cut 16,000 jobs and close five or six factories.

Computer equipment maker Logitech is also grappling with high inventories. Its chief financial officer, Mark Hawkins, told analysts recently, "As the extent of demand deterioration became clear, lead times of some products made it impossible to quickly offset such a rapid deterioration in demand."

Businesses are bracing for more bad times. Although analysts initially anticipated the economy would take its worst hits in the fourth quarter, they are now predicting the economy will contract even more in the first half of 2009 as the few remaining pillars of growth give way. Exports are expected to remain weak, and commercial construction activity, which had been growing until earlier this year, is sputtering and likely to grind to a near halt this year as financing for new projects dries up.

As Sohn put it: "The worst is yet to come."

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