Outlook: an Economy With Clay Feet

Joe Hollingsworth, a builder in Clinton, Tenn., is so optimistic about the economy that he's planning to construct $50 million worth of speculative factories and warehouses over the next three years. But Denis Kelleher, who runs a New York stock brokerage, worries that a declining market might reduce peoples' interest in trading - and thus his income.

These two views embody the economic outlook for 1998: an optimistic Main Street and a more cautious Wall Street.

Most experts now believe that America's "Goldilocks" economy - the just-right combination of high economic growth and low inflation that has been the envy of the world - will undergo a revision in 1998.

They expect the financial turmoil in Asia, combined with a strong US dollar, will start to eat into export growth. Consumer spending will moderate, as it did this holiday period. Moreover, some forecasters even predict that stock prices, which have been volatile, may drop for the first time in seven years.

The bottom line for the economy will be a growth rate of about 2 to 2.5 percent by the end of the year, less than this year's 3.5 percent rate. But there is some uncertainty in this forecast.

"We are at the top of the mountain and going downhill," says Sung Won Sohn, chief economist for Norwest Corp. in Minneapolis. "The question is, do we hit the flat green spot called the soft landing, or do we slide into a deep ravine that could be a recession?"

Outside Wall Street, though, the outlook is far less sober. Indeed, interviews with five Americans from vastly different walks of life reveals an optimism - even buoyancy - about the new year.

Brenda Francis, a senior software tester in Orem, Utah, is planning to build a new house. Matt Latzo, a Columbia, Md., truck driver and part-time gourmet (he even cooks his own polenta), plans to renovate his kitchen. Sara Zabriske of Brooklyn, N.Y., is trying to find a job so she can get off welfare. Even Mr. Kelleher is looking to expand his company, Wall Street Access, through acquisitions.

Their optimism is largely due to a good 1997. Ms. Francis's company, PowerQuest, is sending all 150 of its workers and their spouses to Hawaii because the company exceeded its sales goals.

Mr. Hollingsworth, the Tennessee builder, also had an excellent year. His firm, the Hollingsworth Companies, built an addition to one of its warehouses, started work on a national prototype for a trucking hub for the US Postal Service, and geared up for a major expansion into North Carolina and Virginia.

His future may well depend in large part on the Federal Reserve Board. This past year Fed Chairman Alan Greenspan raised interest rates only once, in March. Now, the turmoil in Asia has handcuffed the Fed, which does not want to drive the US dollar any higher or cause any more financial turmoil in fragile foreign markets.

"Absent the Southeast Asian crisis, the Fed would have already tightened [rates] since the economy is growing much too fast," says Lyle Gramley, a consulting economist at the Mortgage Bankers Association and a former Fed governor.

But any slight Fed tightening would not have a dramatic effect on the US economy. Francis, for example, says interest rates would have to pop up to about 10 percent to cause her family to change its plans to build a new five-bedroom house. "Interest rates fluctuating here and there are not an issue," she says.

Rising interest rates might impact Wall Street, though, because investors are usually leery of buying stocks when rates are rising. Ms. Sohn predicts the market will drop about 10 percent from its high point. This would lower the Dow Jones Industrial Average to about 7,400, or 250 points below its current level.

Why Kelleher is worried

Any hint of a bear market makes Kelleher nervous. "You find shops like ours do better when the volume is rising and when prices are increasing, not decreasing," he says. Despite this trepidation, he still expects his company, which specializes in a more personal touch in the discount-brokerage business, to make more money next year. "The biggest reason for our success is working hard and being optimistic," says Kelleher, who started on Wall Street as a messenger.

The Fed may be comforted by some signs that the economy is beginning to slow down. Seattle-based Boeing Company, for example, has already seen new orders dip. The aircraft manufacturer has announced it will lay off 12,000 workers, mainly through attrition. The auto industry may also begin to feel a pinch, says New York-based economist Jonathan Basile of HSBC Markets. "They are going to be getting a lot of competition from the Japanese," he says.

Good for the Hollingsworths

Ironically, Hollingsworth says a slower economy may help him, since robust growth and high profit margins can mask high labor costs or local taxes. "When companies start to look more critically at their costs, people do inspirational things, and it accelerates the need for fast-track and custom-made speculative buildings, which is what we do," he says.

A slower economy and import competition will also help keep prices in check. Normally, this would keep the Fed on the sidelines. But economist Sohn says higher labor costs will start to reverberate through the economy as productivity improvements slow this year. He expects unit labor costs to rise 3.7 percent compared with 2.5 percent the past year.

But as Mr. Latzo, the truck driver, can attest, most wage gains are going to be modest. His local union and employer, J.P. Food Service in Columbia, Md., agreed to a 45-cent-per-hour wage increase for 1998. For Latzo, who now makes $14.23 an hour, this works out to a 3.16 percent increase before taxes. The driver thinks he should have gotten more. "I'm not greedy, but I think I'm underpaid," says Latzo, who sometimes unloads 3,500 pounds of potatoes - and works from 3:30 a.m. to 5 p.m.

Although some layoffs are already rippling through the economy, economists expect the jobless rate to remain relatively low - about 5 percent by the end of 1998. The outlook for those transferring from welfare to work should remain relatively good, says Philadelphia economist Veronika White of First Union Corp. "It may not be the jobs they want, but there are lots of minimum-wage jobs available," she says. "I see 'help wanted' signs all over the place."

If this trend continues, it will help people like Ms. Zabriske, who has been on welfare since the end of 1991. She already has some college under her belt and would like to become a para-professional, working for the city. She is currently enrolled in a city workfare program, in which she works to earn her benefits.

"My priority is to get a job and help support myself," she says.

On a personal basis, most of the five plan to keep on spending. Hollingsworth will take about six weeks of vacation, just as he has for the past four years. After the Francis family builds their house, they may trade in one of their cars for a new model. Latzo, whose 1990 Ford Ranger has 149,000 miles on it, may buy a used truck after the kitchen renovation as well.

But all stress their spending will be modest - which may help keep the economy healthy for another year.