Sewell Avery is a footnote to history. In 1945 he headed Montgomery Ward, then the leading rival to Sears, Roebuck as America's major retail chain. A smart and crusty student of history, Avery knew that depressions followed most wars. So he refused to expand after World War II. Land prices would drop in the depression, he reasoned. Robert E. Wood, the head of Sears, saw no depression. He believed that postwar Americans would eagerly suburbanize and built stores to serve them. By the mid-1950s, Montgomery Ward had fallen far behind. Avery lost his job.
I feel a vague sympathy for him these days. It's hard to be a skeptic when everyone's a believer. Like Avery, I think that history matters. Through the early '90s, this made me question the reigning pessimism about the U.S. economy. Our industries supposedly were failing. We'd lost "competitiveness." Incomes were stagnating. All this was vastly exaggerated -- as we now know. But the past also makes me suspicious of today's unbridled optimism.
Unlike Avery, I don't envision a depression. But neither do I think that human nature has changed or that people have lost their capacity for error. History teaches that economic slumps often originate in miscalculations. People and businesses go to excess, and once the excesses become apparent, spending slows and the economy slips. Many signs now point to potential excess. Let's review the obvious candidates with, to be fair, plausible rejoinders.
A stock market "bubble": At the end of August, William Melton of Melton Research judged Standard & Poor's index of 500 stocks to be 13 percent "overvalued." A study from the brokers at Salomon Smith Barney puts the overvaluation of the Dow Jones Industrial Average at 17 percent. A sharp drop in stocks would depress confidence and, probably, consumer spending and business investment. (Stock prices reflect what investors think is the present value of future profits. Estimating whether the market is "fairly valued" involves assumptions about profits, interest rates and risk.)
Rejoinder: Abby Joseph Cohen of Goldman Sachs thinks the market is fairly valued. And she's usually been right.
Consumer overspending: Cheered by plentiful jobs and rising stock prices and home values, Americans are spending more than their after-tax incomes. In 1999, the personal savings rate has been about minus one percent. Going back to 1929, the savings rate has been negative only twice (1932, 1933). Negative saving results from cashing in stock profits, reducing bank accounts and borrowing. In 1998 more than half of home mortgage loans were made with less than a 10 percent down payment, reports the Chicago Title Corp. Slower consumer spending could curb jobs and profits.
Rejoinder: Consumers are spending only a tiny -- hardly unreasonable -- share of stock profits, perhaps 2 percent or 3 percent. Also, statistical revisions (due in October) may make the savings rate positive.
Exploding trade deficit: In 1998 it rose 26 percent from 1997. So far in 1999, it's up 34 percent from 1998. Although U.S. demand for imports has aided Asia and Latin America, it risks job loss or an inflationary drop in the dollar's exchange rate.
Rejoinder: Economic growth is improving in Europe and Japan. This might help U.S. exports. Any drop in the dollar would be mild, because foreigners view the United States as a profitable "safe haven" for investment.
Excessive stock options: These have mushroomed and are perhaps overused. In the 1990s, the outstanding options of the largest 200 companies have doubled to almost 7 percent of their shares, reports Pearl Meyer & Partners, a consulting firm. (A stock option is the right to buy shares at a fixed price, say $10; if the stock goes to $20, the holder of the option has a profit of $10.) The idea is to make executives emphasize profitability, not empire-building. But if the stock market dropped, a selling wave might ensue before options became worthless. This could deepen any decline.
Rejoinder: Many firms require top executives to hold large blocks of company shares. This would check a selling spree.
Cheap capital: The ease of raising investment money has kept many profitless start-up firms in business. In 1999 almost 300 companies have already raised $43 billion through "initial public offerings" (IPOs) of stock, says Renaissance Capital, a firm specializing in IPOs. These include 143 Internet firms that raised $11.4 billion. As recently as 1995, all IPOs raised only $32 billion. A stock slump could choke off this capital and some start-up firms.
Rejoinder: So what? It's inevitable (even healthy) that some start-ups fail. The survivors will more than compensate. Remember, Microsoft was once a start-up.
By itself, this list proves nothing. It could have been drawn up a year ago. Prosperity endured. But the list depicts an economy operating on the edge, where all good things (more consumer spending, investment, jobs, higher profits and stock prices) feed on each other. It also suggests that the economy is vulnerable to anything -- more inflation, higher interest rates, lower profits -- that could throw the process into reverse. Bad things (less spending, fewer jobs, stunted profits, lower stock prices) might feed on each other.
Perhaps something has made the economy less risky. This is what Avery missed after World War II. In the 1930s, governments abandoned the gold standard: gold backing for paper money. This cut the link between war and depression. During wars, governments had often suspended the gold standard. Floods of paper currency fanned inflation; postwar efforts to restore the gold standard then caused depressions. Maybe a similar upheaval now improves economic prospects. Computers -- and their offshoots -- are one possibility.
But what I see are changes that add to risk: more global flows of money and goods; the potential disruptions of new technology (including the Y2K threat); greater global political instability. None of this denies today's prosperity, but it leaves me uneasy about tomorrow's.