January 2005  Email this  Print this
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YOUR FINANCES
Economy: Back into Balance
by Melynda Dovel Wilcox
Not bad, just not booming. In a nutshell, that is the outlook for an economy caught in a tug of war between forces pushing it up and dragging it down. On the upside, businesses are flush with cash to invest in people and equipment, inflation will stay low, and consumers will keep spending. On the downside, the stimulus from tax cuts will have run its course, the Fed will continue to tighten interest rates, and businesses
will be reluctant to commit their cash until they see what happens to oil prices. Net effect: The economy will grow about 3% to 3.5% in 2005, down from more than 4% in 2004.
In the first few months of the year, we'll still pay dearly for gasoline and home-heating oil, and businesses will be slow to hire new workers when competition keeps them from raising prices to offset higher energy costs. But oil prices should drop later in the year, to about $40 a barrel.
We'll create enough new jobs in sectors other than manufacturing to lower the unemployment rate a few tenths of a percentage point, from 5.5% currently. "Even though we've lost three million manufacturing jobs in recent years, manufacturing output is growing because of rising productivity," says Sheldon Engler, an economist with Charles Schwab Investment Management.
With job growth picking up, consumers will continue to spend, says Diane Swonk, who is a past president of the National Association for Business Economics. Even though consumers are carrying a lot of debt, their debt service -- the share of disposable income going toward paying off borrowing -- is still manageable.
That's good news for the travel industry, among others. "We're moving from cocooning to Cancœning," Swonk says. "We've spent a lot on renovating our homes, and now it's time to venture out more."
For travelers, Cancún will be a bargain compared with Europe, where the dollar is hovering near a record low against the euro. The weak dollar will make some imported goods more expensive, but U.S.-made products will be more competitive abroad. If China floats its yuan -- currently pegged to the dollar -- our gaping trade deficit with China would narrow. But our deficit against other countries could widen.
Prices will rise at a modest rate of 2% to 2.5%, slightly less than the increase in 2004. With inflation in check, the Fed will be able to nudge interest rates up gradually. Look for the prime rate, now at 5%, to hit 6% to 6.5% by year-end.
Overall, Fed chairman Alan Greenspan's almost two-decades-long legacy of economic stability will remain intact when his term expires on January 31, 2006. It will be a long while before his successor wields as much influence as Greenspan has, says Engler.
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