Tuesday, June 21, 2011

It is no secret that I am puzzled why economists don't pay more attention to how critical business and consumer confidence is in determining which way the economy goes. It's as if, in the words of a pretty smart guy, they "focus on the engine and ignore the fuel".

And sometimes, even when they do pay attention, they don't get it right.

Today's example is Alan Blinder.

According to Blinder, increases in business purchases of equipment is evidence that confidence isn't in the toilet.

While Blinder is probably right that such purchases are being made, those purchases don't prove confidence is up, let alone growing. And his assertion that it does is an example of economic GIGO... you're not going to get it right if you don't know how the people who run businesses operate and think.

First, not every business is in a position to make big investments in equipment and technology. Some businesses are rather low-tech, in that office PCs and an electronic mail machine are the only pieces of equipment that they have. Other businesses don't have the cash (or access to financing) necessary to cover a large outlay. These businesses can only grow by hiring people... and yet they're not hiring. Why?
Because they're not confident about the future.

Other businesses have options, they can invest in either new stuff or new people. For some companies, it is more cost effective to hire people, for other companies, buying stuff might represent the best use of available resources.

And yet, for all of the buying of stuff, there isn't any real hiring of more staff. Why? Because, as odd as it might sound, there is less risk of buying a new piece of equipment than there is in hiring additional staff.

With equipment, you know what you're going to pay, you know what it is going to cost to install and operate. You can pretty much figure on the production you're going to get from each piece of machinery.

That isn't the case with hiring people. No manager today can say with certainty that they truly know what it is going to cost the company in terms of salary and taxes and benefits. Is health coverage going to stay at (for example) 10% of salary? Or is it going to jump to 14%? Are unemployment taxes going to stay constant? Or are they going up? Are the costs of reducing staff going to stay the same? Or is government going to make it harder and more expensive for a company to reduce staffing?

Let's look at it a different way. There is no good reason that a manager who was confident about his company's future wouldn't generally want to hire staff. And yet they're not hiring. If confidence is indeed the fuel that powers the engine, this can mean only one thing. The fuel isn't there.

grow by either hiring more people or buying stuff. And even though they may be buying stuff, they're not hiring. Why? Because they lack the confidence to hire more people.