mainly caused by a collapse of business investment and exports, which declined by 9 percent and 11 percent, respectively, in 2001.1 Recovery has evaded manufacturers for the same reason. By contrast, consumer spending has held up reasonably well, growing by 2.8 percent in 2001. In 2002, the recovery was largely driven by consumer spending, which accelerated modestly to a growth rate of 3 percent.2 At the same time, business investment declined by 3 percent and the export of goods increased slightly, by 2 percent, remaining 8 percent below the level of 2 years ago. This stands in stark contrast to the 10 percent growth in exports during the first year of recovery following the 1990 to 1991 recession. Weak business investment and weak export growth have constrained the recovery for manufacturers. In short, the expansion to date has been narrow, unbalanced, and historically sluggish.
Despite historically low interest rates and the fact that a bonus depreciation stimulus package was passed last year, there remain significant inhibitors to economic growth. Some of the challenges facing manufacturers are long-term problems that need to be addressed to create a better environment for manufacturing in America. For example, manufacturers are competing in a deflationary environment, with pricing power falling at an average annual rate of 0.9 percent since 1995. By contrast, the inflation rate for the economy overall has averaged 2 percent since the mid-1990s. At the same time, heavy regulatory and legal costs are undercutting business competitiveness. Combined, a heavy regulatory and legal burden in 2002 cost U.S. firms $697 billion, or 6.7 percent of GDP.3 Manufacturers are especially hard hit by these burdens. The cost of regulatory compliance alone adds up to $8,000 per manufacturing employee. This is 67 percent higher than the average cost to business overall. In addition, manufacturers’ health-care costs rose at an average of 13 percent over the past year.
According to 80 percent of NAM’s membership, there was a moderate to serious shortage of qualified applicants in 2001. This signals that a persistent skills gap remains a problem for manufacturers. U.S. share of world manufactured exports has fallen from 13 to 11 percent since 1997 due to the rise in the value of the dollar. And while the dollar has fallen since its peak last February, it still remains 15 percent above its historic level. Businesses have also become increasingly uncertain about the short-term outlook, evidenced by the fact that the ISM business activity index dropped 9 percent from May to December 2002. This lack of confidence has curtailed investment spending, which is the main reason why the current recovery has underperformed when compared to past recoveries.
Business confidence has been undercut since the final quarter of the 2001 recession for a number of reasons. First, the attacks of September 11, 2001, and the entry of the United States into a war on terrorism have created an elevated degree of uncertainty overall. Second, the emergence of several major financial scandals in 2002 undercut consumer confidence and sent the Dow Jones Industrial Average plummeting 32 percent between March and October 2002. As a result, consumer confidence fell to a 9-year low by October 2002. Despite healthy growth in real incomes throughout 2002, consumer uneasiness deepened. This dichotomy has caused businesses to put on hold their spending plans for fear that expected demand may not materialize. Third, the war in the Middle East, and its possible effects on world oil supplies and prices, has further elevated both business and consumer uncertainty.
Simultaneously, some important fundamentals of the economy have improved and have primed the economy for faster growth once uncertainty dissipates. First, there has been a steady and strong acceleration in productivity and associated gains in real incomes in 2002. By the third quarter of 2002, business productivity growth was 5.6 percent higher than a year