There is a lot of talk in the mainstream media about the current economic malaise being the "new normal," i.e., sluggish growth with persistently high unemployment. While such media pronouncements often ironically indicate the end of the "permanent" changes they proclaim, it's clear that in the world of site selection and economic development, a "new normal" has been established - the struggle to make capital investment decisions in the face of broad and seemingly intractable uncertainty. Since uncertainty is the enemy of expansion, this has strongly impacted site selection activity as well as the economic development activity designed to attract such investment.
Capital investment is always made with an element of uncertainty. Decisions to make investments to produce goods or provide services are always based on some forecast and understanding of future demand and competitive environment. Global and local economic conditions, technology trends, financial considerations, demographic issues, and location choices are always part of the decision environment. In fact, one site selection objective is to identify and mitigate the geographic and location risk associated with such investments. These risks include site and infrastructure reliability, labor market conditions and trends, tax and incentive policies, and the dynamics of a community's quality of life.
How Did We Get Here?
Since 2008, the sometimes radical and remarkably persistent increase in the level of uncertainty has changed with regard to these investment factors. Here are some highlights from the past three years:
3rd and 4th Quarter 2008 - Dramatic Financial Uncertainty
- Financial crises (Wall Street debacles)
- Banking crises (mortgage disasters)
- Short-term credit crises (near overnight collapse of financial infrastructure)
- Clear indications of global aspects (government and institutional holders of mortgage-backed securities)
3rd and 4th Quarter 2008 - Political Uncertainty
- Lame duck party establishes initial bailout plans
- Presidential election
- New administration and new party in the White House
- New congressional majorities
1st Quarter 2009
- Confirmation of recession and its severity
- Spiking of gasoline prices
- On-going trauma in housing market
In February 2009, the first stimulus package was passed. Although considered by many to be loaded with "political pork," the stimulus was somewhat significant, and capital investment location activity clearly picked up in the 2nd and 3rd quarters of 2009. There appeared to be some pent-up expansion activity that was waiting for a signal that issues were being addressed and would get better. However, as it became clear that the stimulus bill impacts were not of the magnitude hoped for, and as unemployment and housing markets stifled growth in demand, stunning signals - such as the near 50 percent drop in automotive sector production - resulted in the postponement and cancellation of many ongoing expansion projects. For the remainder of 2009 and throughout 2010, activity appeared to be composed primarily of expansion of existing facilities, reducing investment risk, while forgoing the potential benefits of new capacity and/or new locations.
- Political uncertainty focused on presidential leadership, a deadlocked and ineffective Congress, and emergence of popular concern about the budget impacts of continued stimulus funding
- Mid-term elections resulted in divided control of government, and even divided constituencies within the two major parties
- Warnings of potential Euro Zone financial issues regarding numerous countries
- Warnings of potential severe commercial real estate market contraction on heels of continued difficulties in the residential real estate market
As 2011 came to a close, we saw the Euro Zone warnings develop into a full-blown Euro Zone crisis. The year could almost be measured by a new report every month of near bankruptcy of one European country after another. The debate over the fundamental feasibility of a common currency and monetary policy, while maintaining independent national fiscal policies, was revisited. And of more immediate and practical concern was the uncertainty of exposure to the highly risky foreign sovereign debt, typically understood to be the least risky type of financial investment. Even in the United States, budget and debt management was turned into a crisis with some members of Congress taking the position that a U.S. default was an acceptable approach to problem solving. When the U.S. government can sell treasury bills at zero interest, there is a serious concern about future stability and opportunity, and the situation is not favorable for new capital investment.
With the failure of the U.S. congressional budget super-committee to come to agreement, a U.S. national election in 2012, and the inability of the Euro Zone countries to agree on solutions to stem the current crisis and prevent new ones, the outlook for political and financial uncertainty is grim. However, there are some elements of the investment environment that show potential and promise.
Available Capital: Major banks have resources. The exposure to sovereign European debt tempers this somewhat, and the banks themselves often cite the new regulatory burdens blamed for slow release of capital. However, perhaps even more important is the fact that companies have cash. We are seeing the largest collection of balance sheet cash in generations, based on increased profitability as well as a steady decline in dividends distribution over the years. Companies continue to "hoard" foreign income in foreign markets, rather than repatriate and pay net U.S. income tax. Also, note that proposals for a lower foreign income tax rate rather than a domestic income tax rate will create a lucrative incentive to invest, but to do so overseas.
China: Chinese firms are ready to invest in U.S. markets. However, delays in such investment seem to result from extensive government involvement in deals. Also, pressure continues on China to promote consumer spending and move from the low-value currency/export-based strategy of emerging countries. If China adopts relevant changes in their economic policy, new inward investment from China should increase.
Consumer Demand: Unfortunately, we have seen roller coaster recovery behavior. Interest rates are very low and have stimulated more refinancing, but not stimulated housing recovery. However, households now have very modest mortgage rates; so when a recovery starts, they should be in a stronger financial position to spend.
While inflation remains under control, unemployment is sticking at relatively high levels (8+ percent). U.S. corporate profits are up, but hiring is not. The automotive market is recovering (12 to 13 million vehicles annually; up from low of 9+ million two years ago), but there still is room for growth to get to the levels of 16+ million seen five years ago. As automakers acknowledge that global financial uncertainty, particularly as expressed in exchange rates, and are driven to produce as much product as possible on the continent where they sell, a new wave of automotive capital investment is likely. The Asian natural disasters of 2011 (Japan and Thailand) also exposed the risk of global supply chains, adding to the interest in increased North American investment.
Government Policy: Despite all the problems, we did see the "salvation" of the U.S. financial system. The bailouts may have been generous to Wall Street firms, but the potential collapse was avoided. However, government monetary policy is limited, as interest rates have been driven to extremely low levels. We are seeing a form of "liquidity trap," where lower interest rates do not stimulate demand and capital spending. The cost of money is not what is preventing increased activity; it is uncertainty. However, fiscal policy is still struggling. Despite potential savings from reductions in war spending as Iraq involvement comes to a close and Afghanistan presence is reduced, political wrangling over fiscal policy, in an election year, does not bode well for a reduction in political uncertainty.
So, What To Do?
Given the financial activities that have happened in the past three years, the fact that any capital investment has been made is amazing.
Uncertainty is the enemy of capital investment. For companies, that will mean continued caution and exploration of alternatives that do not include new facility investment. And when considering new locations, maximum due diligence will be necessary. For economic development agencies, this means taking the time to reduce risk wherever and whenever they can - physical factors (site and infrastructure planning), operating factors (labor investment, controlling of public costs, especially to business), and quality-of-life factors (continued investment in such). Fewer active projects and more hungry locations imply even greater competition - ready communities with reduced risk profiles will win the day.