American corporations are sinking deeper into debt.
As their debt loads mount, which has been happening to a frightening degree in the last decade, companies will find it more difficult to expand and modernize their facilities.
The bottom line is jobs, the political watchwork of the 1980 presidential campaign.
The growing inefficiency of much of American industry has been recognized by economists and politicians alike. That's what the so-called reindustrialization debate is all about.
Without a vastly more efficient and expanded industrial plant, the United States will find it nearly impossible to provide the high-paying manufacturing jobs that were the bulwark of the U.S. economy for most of the century and that promise economic prosperity for many lower-income citizens.
For the deeper a company gets into debt -- and the shorter-term that debt becomes -- the harder it is to expand during periods of good times because it is that much harder to maintain the debt load during bad times.
Henry Kaufman, the chief economist for Salomon Brothers whose prescient forecasts of interest rates have made him Wall Street's latest guru, said that corporations face an "unprecedented" and perhaps unachievable challenge: "restoring balance sheets to some reasonable level of normality."
In a recent study, Kaufman and his colleagues James McKeon and David Foster noted that at the start of the 1960s equity -- stock and retained earnings -- accounted for two-thirds of the capitalization of manufacturers. Today equity accounts for only half.
"The extraordinary volume of debt financing has overwhelmed additions to equity. The growth of equity was behind debt in the second half of the '60s. The next decade, however, witnessed an alarming widening of this gap. For nonfinancial corporations, market debt alone grew more than $620 billion, while total liabilities (including bank loans) rose $900 billion, more than double the $420 billion . . . additions to equity."
Furthermore, companies have been finding it more difficult to sell long-term debt -- bonds -- and have been relying upon their banks, the commercial paper market and other sources of short-term money.
But the more a company relies upon debt, the more exposed it becomes to adversity and the shorter the term of that debt, the greater the exposure.
When times get tough, a company can omit a dividend or dip into its retained earnings. The company must keep up payments on its long-term bonds, but it has to continuously refinance its short-term borrowings.
As a company gets deeper in debt, an ever-growing share of its income must go to pay off its creditors.
In 1973, manufacturing companies as a whole had earnings about 6.1 times greater than their interest payments. In 1979 -- which in terms of the usual business cycle is equivalent to 1973 in being at the end of an expansion -- that ratio had fallen to 4.4 times.
But things are worse than they seem, Kaufman contends. The manufacturing sector of the economy includes the oil industry, one "whose capitalization has for long been higher in equity than most others and which has not suffered the same degree of deterioration that most have. . . . When this industry is excluded from the calculations, the balance sheets of nonpetroleum manufacturers are found to be even more seriously deficient in equity capitalization."
As business cycles run their normal course, companies usually fluctuate from being what economists call "liquid" -- that is cash-rich and clear of most short-term debts -- to being heavily in debt.
Companies are deepest in debt at the end of an economic boom. During the end of a recession and the beginning of a recovery, companies sell stocks and bonds in order to pay off the short-term debt.
Corporations have been issuing bonds at a record pace since May. But with interest rates coursing up again and bonds becoming more difficult to sell, companies have been moving back into the short-term market.
"But even if that proves short-lived, it would take well over a year of monthly public bond calendars exceeding $6 billion each, heavy private placement volume and unprecedented repayments of short-term debt merely to restore" corporate balance sheets to their best levels of the 1975-79 boom, Kaufman said. But the 1975-79 period was weak compared with the 1960s and 1950s, when the nation's industrial establishment was in good shape.
But because investors, shaken by the bond market collapses of recent years, are skeptical about investing their money in long-term securities and because the federal government is borrowing in the long-term market more than it did in 1975 and 1976, such a performance by corporations is unlikely, Kaufman said.
There are no magic solutions to the problem, although an end to inflation -- which would give investors the confidence to invest in long-term debts and stock again -- is the usual nostrum. An end to inflation, however, does not seem in the cards.
In the meantime, while politicians talk about reindustrializing America, building $12 billion jobs programs or granting tax incentives to businesses to invest, they must come to grips with the corporate debt overload.
A faster tax writeoff will be an inducement to step up investment only as long as a company does not substantially boost its debt exposure to take advantage of that tax incentive.