Small Business Economic Trends - May 2009

Bill Dunkelberg


 Optimism Index

The Index of Small Business Optimism rebounded 5.8 points in April to 86.8 (1986=100), led higher by 8 of the 10 Index components. All three of the "hard components" (job creation plans, inventory investment plans and capital spending plans) rose, although they are still at anemic levels. Assuming April's numbers are not merely a brief interruption of a longer recession, this is good news for Gross Domestic Product growth and a rescue of the job market.

Labor Markets

Seasonally adjusted, there was a decline in average employment per firm for the first quarter by small business owners in April. Nine percent (seasonally adjusted) reported unfilled job openings, down a point from March, relatively stable for the past few months and historically low. Over the next three months, 10 percent plan to reduce employment (down two points), and 13 percent plan to create new jobs (up one point), yielding a seasonally adjusted net negative 5 percent of owners planning to create new jobs, a five point improvement. It appears that owners are not through with their labor-based cost cutting, but it is slowing. In addition to reducing employment, owners are reducing worker compensation. A record high 11 percent reported reducing worker compensation and a near-record low 12 percent reported raising worker compensation, helping to keep the lid on labor costs.

Capital Spending

The frequency of reported capital outlays over the past six months fell four points to 46 percent of all firms, 10 pointw lower than year ago levels. Owners continue to defer any project not essential to the survival of the firm (and consequently loan demand is lower). Overall, the performance was dismal. But, the longer owners postpone investment, the larger the pool of "pent up demand" for new equipment and improvements and expansion of facilities that will eventually re-start the economy. Plans to make capital expenditures over the next few months rose three points to 19 percent, historically very low, but headed up for a change.

Inventories and Sales

Small business owners continuedto liquidate inventories. A net negative 27 percent of all owners reported gains in inventory stocks (more firms cut stocks than added to them, seasonally adjusted), four points lower than March and a new record low. Inventories are being reduced at a record pace. For all firms,  a net negative five percent (a one point deterioration) reported stocks too low. But the net percent of all owners (seasonally adjusted) reporting higher sales in the past three months gained six points, rising to a net negative 28 percent, still in the tank but headed up, not down.


In April, 12 percent of small business owners reported raising their average selling prices (down one point), while 34 percent reported reductions in average selling prices. Seasonally adjusted, the net percent of owners raising prices was negative 24 percent, far more cutting prices than raising them. That translates into "disinflation." But prices probably cannot continue to be reduced, unless the firm goes out of business. The percent of owners citing inflation as their number one problem (e.g. costs coming in the "back door" of business) fell two points to four percent. The average percent of owners citing inflation as their #1 problem since the monthly surveys were started in 1986 is 3 percent. More firms reported cutting average selling prices than riasing them in all industries.

Profits and Wages

Reports of positive profit trends improved three points to a net negative 43 percentage points, not much to cheer about, but at least headed toward improvement. Pricing power has vanished and reports of sales declines are at record high levels because of reduced demand and widespread price cuts. Wage pressures are falling as owners not only reduce employment, but also the compensation of remaining workers. Seasonally adjusted, a net 5 percent reported raising compensation, one point better than the record low from March. Poor sales and price cuts are responsible for much of the weakness in profits. Rising labor costs are not an issue.

Credit Markets

As the economy weakened, loan demand faded as fewer capital projects were undertaken and inventory investment fell as stocks were liquidated. Thirty-three (33) percent reported regular borrowing, typicaly of the past 20 years. Because of the slowdown in the economy, the credit worthiness of many potential borrowers has deteriorated over the last year, leading to more difficult terms and higher loan rejection rates (even with no change in lending standards), but there is no rush to borrow money like that observed in the pre-1983 period. Thirty (30) percent reported all their borrowing needs met (up one point) compared to 8 percent who reported problems obtaining desired financing (down two points). The net percent reporting all borrowing needs satisfied rose three points to 22 percent. This data series has only covered the 2001 recession period, making historical comparisons more difficult, but it does appear that difficulties in arranging needed financing have become more frequent in 2009. So, it appears that as the recession drags on, financing becomes more difficult to arrange (profits do not improve, loan payments harder to make on time, etc.). The net percent of owners expecting credit conditions to ease in the coming months was a seasonally adjusted net negative 12 percent (more owners expect that it will be "harder" to arrange financing), two points better than the March reading. Owners do not see credit conditions easing in spite of the Federal Reserve's hugely expansionary policies.


Most commentators compare our current situation to our experience in the 1980-82 period. There are similarities in the behavior of owner optimism, although the problems facing the economy were quite different (15 percent inflation, 21 percent prime rate, 17 percent mortgage rates, 10 percent unemployment rate). The Optimism Index peaked in 1976:2 at 103.2 and fell to the record low reading of 80.1 in 1980:2. This was a decline of 23 points in 16 quarters. Optimism peaked in the current expansion at 105.8 in 2004:3 (although virtually identical readings occurred in the prior two quarters) and fell 22 points to 84.1 in January this year. Both declines were about 20 percent in magnitude and over roughly the same period of time. In 13 quarters, the Index rebounded 28 points to 107.7 in 1983:3, signaling the start  of the 1980s expansion. The April Index reading rebounded 5.8 points from March and is up 2.7 points from January. Perhaps this is the beginning of the end of the recession.

The 6.1 percent decline reported for GDP in the first quarter had some good news. Almost half was due to reductions in inventory to meet an unexpectedly solid increase of 2.2 percent in consumer spending. This means that inventory left store shelves at a faster rate, increasing the urgency to replace inventory in future periods. The NFIB date indicate inventory reductions are widespread, with an unprecedented 13 quarters during which double digit percentages of owners reported reducing stocks. Indeed, should spending recover at a faster pace than most expect, prices may come under pressure - on the up side. The gap between desired and actual inventories could be huge if sales rebound solidly.

Overall, "pent up demand" is building rapidly in the economy. Capitaly spending and inventory investment are at record low levels as are plans to increase spending. The reduction in employment is unprecedented in survey history and likely overdone. Prices have been cut to reduce inventory, but cut to unsustainably low levels. Car sales, usually around 15 million annually cannot stay at 9 million. New housing units are being constructed at a third the rate normally needed. Population growth and household formation continue apace and all the new households are not all going to live in Florida and California where excess house supply is huge. Trillions of dollars sit on the sidelines in money market funds earning virtually nothing. The "dykes" are starting to leak, a flood is a significant upside risk. In the long run, consumers spend a fairly steady share of their income. The rapid growth in paper wealth and easy credit allowed them to get ahead of themselves, but they are starting to even things out and this will support gains in spending as the economy recovers.

The uncertainty now lies with government policies. Just how much of a headwind will new regulations, "nationalization," higher taxes, spending that diverts private resources to public use and a stunning level of borrowing that could crowd out private investment pose for the economy? Can the Federal Reserve reclaim the liquidity it has created before inflation sets in? Time and politics will tell.

This survey was conducted in April 2009. A sample of 10,799 small-business owners/members was drawn. Two thousand thirteen (2013) usable responses were received - a response rate of 17 percent.

Bill Dunkelberg, Chief Economist for the National Federation of Independent Business
Copyright 2009, NFIB retains ownership. All Rights Reserved.


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