Call it the revenge of the Old Economy. America’s revival is no technological miracle but part of an age-old cycle. It’s economic Darwinism–survival of the fittest. In boom times, there’s enough business for everyone. But a slump triggers a shakeout. Weak companies shut down, merge with stronger rivals or lose market share. Even the survivors often cut costs through layoffs and the closing of unneeded plants, warehouses and offices. Sooner or later, higher sales and profits at the survivors restart overall hiring and investment. That’s where the economy is now.
The business cycle creates some anomalies–productivity, for instance. Almost certainly, the 5 percent gains won’t last. Productivity usually rises sharply in the early stages of recovery. Companies won’t hire until they’re certain of robust expansion. In this cycle, the severity of competitive pressures–at home and abroad–caused companies to keep reducing employment even after modest economic growth resumed in late 2001. The combination of economic growth and job losses automatically boosted productivity. As companies start hiring, productivity gains may fall.
What separates the United States from Europe and Japan is a tolerance for painful adjustment. Unlike in Japan, banks don’t rescue large troubled companies; unlike in Europe, government doesn’t. Americans seem to harbor an unstated faith that, sooner or later, they’ll find a job. Consider: in March the economy had lost 600,000 jobs since the previous year, but that resulted from the elimination of 31.7 million jobs and the creation of 31.1 million.
The paper industry is a good metaphor for the churn in the U.S. economy. In 1997 there were 526 mills scattered around the country making everything from copying paper to tissue. Since then 98 mills have closed–a figure four times the number in the previous six years. Employment has dropped 56,000, or 26 percent. “We’ve downsized, we’ve merged–and there’s been a lot of pain,” says Stanley Lancey, chief economist for the American Forest & Paper Association. But despite the shutdowns, the industry’s capacity remains roughly what it was in 1997: 100 million tons a year.
The wrenching cuts, not new technology, improved productivity. All the largest U.S. companies–International Paper, Weyerhaeuser and Georgia-Pacific–bought smaller rivals. The costliest plants shut, and production became more concen–trated. From 1995 to 2002, the top five producers of containerboard (used for shipping boxes) went from 44 percent of output to 71 percent, says analyst Mark Wilde of Deutsche Bank Securities; for newsprint, the top five went from 49 to 81 percent of output. “You tend to run the machines on a smaller number of products,” says Wilde. “Companies get some good productivity gains just by not switching machines.”
What happened in paper occurred everywhere, as dominant firms shoved aside competitors. In the past three years, Dell’s share of personal-computer sales has risen from 18 to 28 percent in the United States and from 10 to 15 percent worldwide, estimates Gartner, Inc., consulting. Over the same period, Hewlett-Packard–fortified by its merger with Compaq–has increased its world market share from 7 to 15 percent. Among the losers: IBM, Gateway and Apple.
Or consider retailing. In 1998 America’s top three chains were Wal-Mart, Sears and Kmart, reports Stores magazine. By 2002 Wal-Mart’s sales had grown 79 percent to $247 billion and its number of stores expanded a third to 4,694. Meanwhile, Sears’s sales stagnated at $41 billion, and Kmart’s actually declined almost $3 billion, to $31 billion; together they closed almost 1,300 stores. Economist Cynthia Latta of the forecasting firm Global Insight found that retail productivity gains were higher after the stock-market bubble than before. Car dealers went from annual increases of 3.1 percent (from 1993 through early 2001) to 5.3 percent; furniture stores went from 2.2 percent to 6.2 percent. “The large number of retailers fighting for market share has driven them to find ever-cheaper sources for their goods and try to mark them up –slightly less… than the competition,” wrote Latta.
In short, the least efficient companies succumbed to stronger domestic rivals or cheaper (though not necessarily more productive) foreign competitors, helped by the high dollar. Since 1997, for instance, paper imports have tripled from 2.6 percent of U.S. consumption to 7.6 percent. And what about all the new information technologies? Yes, they also contributed to the weeding-out process and the resulting productivity gains. But their role was secondary.
Sometimes the fittest firms are technology leaders–Dell and Wal-Mart, for instance. Both companies excel at using information systems to regulate inventories and orders. Well-deployed new technologies almost always enable companies to cut costs and expand markets. Phillip Merrick, head of the software company webMethods, cites the experiences of two customers: a seller of office supplies reduced order errors by integrating the computer systems that receive orders, run warehouses and do billing; a large cable-TV company streamlined its installation of broadband modems by integrating computer systems that take orders with those that dispatch crews.
But just because companies compete on the basis of technology does not signal the return of the New Economy. The reality is more complicated. The United States is now experiencing a classic business-cycle recovery. The Dow is hovering around 10,000, about 35 percent higher than its 12-month low (7416.64), in March. Business investment, including spending on computers and software, has started to rise after steady declines beginning in 2000. Profits have rebounded sharply. In the third quarter, pretax profits exceeded $1 trillion (at an annual rate) for the first time.
Compared with Europe and Japan, the U.S. recovery is strikingly energetic. The American advantage, its flexibility and tolerance for change, does not ensure that the recovery will be long and satisfying. It may–or may not. Consumer spending might weaken once gains from tax cuts and mortgage refinancings fade. Jobs might be lost to cheap imports from China and elsewhere. On the other hand, reviving profits and stocks could bolster consumer confidence and spending, and a falling dollar could help the trade balance.
No one knows, and that’s the point. The illusion of the New Economy was that it had dispensed with all the uncertainty, risk and disruption of the market system, thanks to continuous advances in technology. There would be many winners and few losers. It was a glorious bit of make-believe. But let’s suppose, just for argument’s sake, that the economy does well over the next decade. It experiences a few mild recessions. Unemployment averages 4.5 percent, and productivity gains almost 3 percent annually. There’s precedent for this sort of performance–not the 1990s but the 1950s, another golden era of American prosperity. Maybe the Old Economy isn’t so bad after all.
