Small Business Economic Trends - March 2011
Summary
Optimism Index
The Index of Small Business Optimism gained 0.4 points in February, rising to 94.5, not the hoped-for surge that would signal a shift into "second gear" for economic growth. Gross Domestic Product (GDP) growth in the fourth quarter was revised lower due to a large fall off in inventory building and weaker consumer spending then initially estimated. "Weak sales" still get the most votes by owners as their top business problem. Seven Index components advanced or were unchanged and three fell, but all of the changes, positive or negative, were small.
Labor Markets
Fifteen percent (seasonally adjusted) reported unfilled job openings (up two points from January), hinting that the unemployment rate could notch down a bit. Over the next three months, 17 percent plan to increase employment (up five points), and six percent plan to reduce their workforce (down two points), yielding a seasonally adjusted net five percent of owners planning to create new jobs, a two point gain.
Capital Spending
The frequency of reported capital outlays over the past 6 months fell 2 points to 49 percent of all firms. Owners remain in "maintenance mode", apparently unwilling to risk new capital investments or not seeing any need for them. Capital spending remains historically low in spite of very low interest rates and all sorts of expensing incentives. However, the problem is that "cheaper" equipment is still no bargain if you can't use it. The percent of owners planning capital outlays in the future was unchanged at 22 percent, and is still historically quite low. Seven percent characterized the current period as a good time to expand facilities (seasonally adjusted), down one point from January. A net nine percent expect business conditions to improve over the next six months, down one point, not a reading that characterizes a strongly rebounding economy.
Inventories and Sales
The net percent of all owners (seasonally adjusted) reporting higher nominal sales over the past three months was unchanged at a net negative 11 percent, 23 points better than March 2009, but still indicative of weak customer activity. The net percent of owner expecting higher real sales continued to rise, gaining one point to a net 14 percent of all owners (seasonally adjusted). A net negative eight percent of all owners reported growth in inventories (seasonally adjusted), a two point improvement. For all firms, a net two percent (up two points) reported stocks too low, historically a very positive level of stock satisfaction. However, plans to add to inventories lost a point declining to a net negative two percent of all firms (seasonally adjusted), consistent with weak sales trends, but not consistent with the improved outlook for real sales volumes.
Inflation
The spectacular period of price cutting in the small business sector was triggered by the sudden decrease in consumer spending late in 2008 and the need to get rid of inventory accumulated to satisfy the spending of a consumer that had forgotten how to save. The net percent of owners reporting higher average selling prices peaked at 32 percent in July 2008, fell to zero that November and to a negative six percent in December, a decline of 38 percentage points in just five months. For the next 25 months, the percent reducing selling prices exceeded the percent raising prices by as much as 24 percentage points. That's over! In January, the seasonally adjusted net percent reporting higher selling prices was negative four percent and in February, it hit a positive five percent. January was the 26th consecutive month in which more owners reported cutting average selling prices that raising them. February ended that trend and as the economy improves, more and more firms will be able to raise prices. The trend is clearly supportive of higher prices in future months. Plans to raise prices rose two points to a net seasonally adjusted 21 percent of owners, the highest reading in 28 months. With an improving economy, more and more of these hikes will "stick".
Profits and Wages
Reports of positive earnings trends improved one point in February, registering a net negative 27 percent. Better, bust still far more owners report that earnings are deteriorating quarter on quarter than rising. Part of this is due to price cutting, but that is fading in importance as the economy continues to grow. Large firms may be posting great profits, but the trend on Main Street is not supportive of solid hiring and capital spending. Labor costs, materials costs, interest rates - not the problem. It is still weak sales. Five percent reported reduced worker compensation and 15 percent reported gains, a seasonally adjusted, a net eight percent reported raising worked compensation, down two points. A seasonally adjusted five percent plan to raise compensation, up two points and the highest reading since November 2008. As labor markets tighten, compensation will rise.
Credit Markets
Overall, 92 percent reported that all their credit needs were met or that they were not interested in borrowing. Eight percent reported that not all of their credit needs were satisfied, and 51 percent said they did not want a loan. Twenty-eight(28) percent of the owners reported that weak sales continued to be their top business problem. The historically high percent of owners who cite weak sales means that, for many owners, investments in new equipment or new workers are not likely to "pay back". This is a major cause of the lack of credit demand observed in financial markets along with the deficiency in housing starts, a million units below "normal". Thirty-one (31) percent of all owners reported borrowing on a regular basis, still near the record low. A net 11 percent reported loans "harder to get" compared to their last attempt (asked of regular borrowers only), up a point from January.
Commentary
Fourth quarter GDP growth was revised down from 3.2 percent to 2.8 percent, more consistent with the NFIB survey findings during that period. Although manufacturing output has grown substantially (with consumers buying more cars), retail sales (ex auto) have not been a large positive partly because of the terrible weather that has plagued virtually the entire continental 48 states. GDP in the fourth quarter of 2010 reached $13.382 trillion, $21 billion ahead of the peak in 2007. However, total employment in 2010 Q4 was 139.066 million, compared to 145.856 million in 2007. Thus, we produced the same output as in the 2007 peak with 6.8 million fewer workers. Several factors explain this, including the dominance of manufacturing (fewer workers needed per dollar of output) in this recovery and weak consumer spending on services, a labor intensive sector of the economy. And, of course, owners did learn to operate more efficiently, employment at the end of 2007 did not anticipate a deep recession but was based on optimistic views about the economy. Perhaps the largest "hole" in employment remains housing, with starts still stuck around 500,000, a million below what might normally be expected. Five jobs per housing start average accounts for five million missing jobs.
February appeared to signal an upward shift in two important areas: (1) job creation and (2) inflation. The step up in job creation per firm was solid and hopefully is the first month in a string of solid job creation months. The end of price cutting signals a return in the months ahead to increases in average prices (energy aside) as supply adjustments (in the number of firms as well as inventories) are restoring pricing power. With improving growth (more customers), price hikes will stick as owners try to restore profitability.
The Optimism Index is still well below its historical average (the Index averaged 100 up through 2007) and improvement remains reluctant. Much uncertainty remains, leadership is weak, conflicts are spreading from Washington to the states. This will continue to dampen any exuberance that might show itself.
This survey was conducted in February 2011. A sample of 3,938 small-business owners/members was drawn. Seven hundred seventy-four (774) usable responses were recieved - a response rate of 20 percent.
Bill Dunkelberg, Chief Economist for the National Federation of Independent Business
Copyright 2011, the NFIB retains ownership. All Rights Reserved.
