U.S. Economy Looking Better

America's retailers are on tenterhooks, worried that this is the year when the Grinch steals Christmas. The Christmas shopping season starts next week, and the willingness of consumers to become Santa's little helpers will determine whether the retail segment ends the year with a whimper or a bang.

Some companies' problems have little to do with the state of the economy and more to do with special circumstances. Toys ‘R’ Us now faces a push into the toy business by mighty Wal-Mart. America's largest retailer is clearing space for huge stocks of toys and cutting prices to the bone because it knows that the shoppers it attracts also will buy a pair of jeans or a T-shirt or two. Toys ‘R’ Us, with no such ancillary lines to boost per-customer sales, has its work cut out to meet this new competition. Smaller retailers have decided that the high-stakes game of price paring is not for them, and they are relying on items not available in the big chain stores and providing services that bigger retailers can't offer.

Home Depot, the DYI chain that is America's second largest retailer, also faces tough sledding in the run-up to Christmas. Although its CEO, Robert Nardelli, has succeeded in cutting costs, sales volumes languish, in part because he has not yet found a way to compete for female customers with up-and-coming rival Lowe's.

Traditional retailers of Nike and other branded athletic shoes are finding it impossible to increase their sales in the face of competition from specialty chain Journeys, which is ringing up a 17 percent sales increase. The Wall Street Journal reports that the 601-store Journeys chain is riding the "Euro-shoe" wave, selling millions of the thin-soled, retro-style athletic shoes favored by suburban male teenagers. Because young males don't wait for price-cutting sales like young females do, Journeys has stayed out of the margin-depressing discounting game.

Most large retailers know that their fate depends more on the state of the economy than on special marketing issues. They have reasons for cautious optimism. John Bucksbaum, CEO of General Growth Properties, which owns and manages 168 shopping malls in 41 states, is one of the more conservative executives in the industry. Although he thinks that things are "fragile," he nevertheless says that October was a "pretty good" month and that he expects Christmas sales this year to be up 2.5 percent from last year. He adds that, with the shops' costs of acquiring goods down and inventories under control, retailers should turn a nice profit on that volume.

Even this may be a conservative forecast. The National Retail Federation is forecasting 4 percent growth. And parking lots at many malls were jammed last weekend as consumers got a jump on their holiday shopping. It seems that the West Coast longshoremen's strike and the lean inventory policies of hard-pressed retailers have kept many of the most popular gift items in short supply. Hanukkah comes early this year, and the "sale" signs are already up. Not even last weekend's foul weather kept consumers at home.

Another reason for cautious optimism is that both the stock and labor markets are showing signs of life. If current trends continue, share prices may recover almost all of this year's losses by the time the markets close on December 31. As for the jobs situation, the Labor Department announced late last week that new jobless claims recorded a surprising 25,000 drop, to 376,000, the lowest level since July. More important, that brought claims under the 400,000 level that experts such as Lehman Brothers economist Ethan Harris call "the rule-of-thumb for growth versus non-growth in the labor market."

The improvement in labor market conditions reflected in the jobless claims data is borne out by a new survey by Manpower, Inc. The employment agency's survey of the hiring intentions of a sample of 16,000 public and private employers in 470 U.S. markets shows that 62 percent of employers have no plans to change the size of their workforces, 20 percent are planning to hire more workers, and only 12 percent are planning job cutbacks. The survey concludes that "moderate job growth is expected for the first months of 2003."

Add to that anecdotal evidence from around the country, much of it ignored by New York-based media types who naturally give great weight to the headline layoffs of high rollers in the financial services sector. Here in the Washington, D.C., area, the unemployment rates in the district and in the neighboring states of Maryland and Virginia all fell slightly last month, amid signs that key service sectors such as the hospitality and healthcare industries are adding jobs.

All of this before three expansionary forces have been fully felt. The effect of the Federal Reserve's two most recent cuts in interest rates on mortgage refinancings that put so much cash in consumers' pockets is only now starting to hit the economy. The same is true of the easing of fiscal policy that has turned federal government surpluses into deficits. And just last week Congress passed a terrorism insurance bill limiting liability in attacks and mandating insurers to offer such coverage. If the new premiums prove economic, the bill will unblock at least $10 billion in construction projects that were postponed because contractors couldn't get insurance at any price, White House sources tell me.

So forecasts of a grim Christmas season for retailers are probably unduly pessimistic. After all, the economy seems to have grown at a better than 3 percent rate; housing starts, although they eased in rainy October, are well above last year's total, and there is a large backlog of permits for new construction; and the auto companies have once again found a tool - no down-payment - that should bring buyers back into the salesrooms. All of which should put off the day when consumers will have to begin restoring their balance sheets by paying down debt. With luck, that will be when businesses keep the economy moving forward by resuming investments in new plants and equipment.