Why the Bear Will Lose Its Bite

Ste

phanie Harkness cheered the fall of Baghdad last week for more than patriotic reasons. As CEO of Pacific Plastics & Engineering, a medical and biotech equipment-parts firm in Soquel, Calif., she has been waiting for customers to give her the go-ahead on four large orders. In one case, she says, "they have the money in hand but have been saying they're not willing to make an investment until they know how the war is going to play out." Now that things are clearer, says Harkness, "I expect a flood of new projects."

If Harkness is proved right — and there's good reason to believe she will be — Americans can look forward to better economic times soon. Already, oil prices have plunged and the stock market has rallied. Despite all the anxiety over the war, retail sales surged 2.1% in March, and the University of Michigan's consumer-sentiment index rose in early April to 83.2, from 77.6. Initial jobless claims have edged lower, indicating that layoffs may be decelerating. The lowest interest rates in four decades are spurring a new round of mortgage refinancing that is leaving hundreds of dollars more in consumers' pockets each month. And as Harkness attests, the war's end should free pent-up business demand.

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President Bush, though, is taking nothing for granted, having learned from his father's neglect of a slumping economy amid his soaring popularity after the first Gulf War. Only moments after watching on TV a statue of Saddam Hussein come crashing down in Baghdad, Bush met with top advisers last week to discuss ways to pass as much as possible of his proposal to stimulate the economy with $726 billion in tax cuts.

Few forecasters believe a "double-dip" recession is in the cards. Many expect an economic-growth rate of 3% to 4% later this year. That's a solid and sustainable pace, though hardly the coiled spring that the unemployed, in particular, would like to see. More than 2 million jobs have been lost since Bush took office, and rapid job regeneration is unlikely without a bigger initial rebound — in the 5%-to-6% range — for at least a couple of quarters. To be sure, the road to even a moderate recovery won't be smooth. We're still working off the excesses of the Internet boom. Stocks generally remain highly valued relative to stubbornly weak corporate earnings — and analysts are slashing second-quarter earnings estimates at twice the rate they did last year. The rising costs of war, reconstruction and homeland security will siphon away productive investment. The budget deficit is swelling, threatening to push interest rates higher. And a Business Roundtable survey last week showed that more employers are planning to cut jobs than add them.

Yet those who believe things are looking much better have good company. Federal Reserve Chairman Alan Greenspan last week said the economy was "prone more to long-term growth and not stagnation." For him, that's downright exuberant. And the downbeat Roundtable survey held a hidden gem: more than half of big-company executives said their top worry was the resiliency of the consumer — who is demonstrably regaining confidence amid the rapid success and few American casualties of the war in Iraq.

Further boosting the mood at home has been the absence of any large-scale Muslim uprising. Indeed, Iraqi citizens welcomed U.S. troops into Baghdad, helping calm worries, at least in the short term, about massive numbers of new recruits to terrorist groups. And Saddam did not use chemical or biological weapons. These worst-case nightmares helped paralyze the economy for months. In poll after poll, executives said war uncertainty was their top reason for mothballing their checkbooks. With the war winding down, here's why you should be optimistic:

Energy
Falling oil prices allow consumers to spend money they otherwise would have sent to Saudi Arabia. Crude peaked at $37.82 per bbl. in March and had tumbled to $27.35 by last week. Gasoline prices won't come down fast, but prices at the pump are already falling. The drop in oil spending will put an additional $337 in the pockets of the average household by the end of 2004, according to one estimate.

Stimulus
Both houses of Congress approved a $2.2 trillion budget resolution last week that puts limits on the size of the tax cut--$550 billion in the House and $350 billion in the Senate. When those numbers are reconciled, the tax cut will be less than Bush requested, but it's still a load. Bush wants to end taxation of stock dividends and accelerate income-tax reductions already in the pipeline. The cuts have been criticized for probably delivering too little immediate punch while risking fiscal disaster in the long term. But they could help Bush avoid the fate of his father, who won a popular war in 1991 and 21 months later was tossed out of office. A tax cut would let Bush show action on the economy as the election draws nearer.