Optimism is Slowly Returning

Optimism is Slowly Returning

Two important segments of the economy: consumers and small businesses, are getting more optimistic. In surveys released last week by the National Federation of Independent Businesses (NFIB) and the University of Michigan, the measures of confidence both reached their highest level since the recession of 2007-2009 began.

The NFIB survey measures business activity and the expectations of small businesses across the US. The respondents are asked about their opinion on the economy and their plans to hire and increase capital spending. Using the answer to these and other questions, the Small Business Optimism Index shows the relative level of optimism by small businesses across the US. In March seven of the 10 index components increased, with particularly large improvement in plans to hire and plans to increase capital spending. The overall index rose 2.2%, the largest gain in a year and a half and stood at its highest level since December 2007. The Index was at the exact same level a year earlier in February 2011 before it plunged as the European debt crisis emerged and financial markets dropped.

Small businesses are a vital component of the US economy. Businesses with fewer than 100 employees account for 98% of all the businesses in the US and 55% of all the jobs. Historically when the optimism index is rising US payroll employment is increasing. The recovery is small business optimism is a positive for the economic outlook. The Index is still below its expansion levels of the mid 2000’s, but it is also well off the bottom and heading in the right direction If it can be sustained, and barring any economic shocks this is likely, it will point to stronger economic growth in the second half of 2012 and 2013.

The University of Michigan has been surveying consumers for more than 50 years. Its Index of Consumer Sentiment is one of the most widely watched barometers of the vital consumer sector of the economy. The Index is calculated from the answers to more than 20 individual questions. These questions can be broken down into two types: those that relate to current conditions (are you better off today than you were a year ago?); and those that relate to expectations about the future (do you expect to be better off in the next 12 months than you are today?). The “Current Conditions” Index is about pocketbook issues and it tends to more closely track with consumer expenditures. The “Expectations” Index tends to be a leading indicator, pointing to the future direction of economic activity.

In the preliminary estimate of this Index for May (the final index will be released in 2 weeks), the Current Conditions Index reached its highest level since January 2008. For the first time in more than four years, consumers feel about the same as they did when the recession started. This improvement suggests that households will continue to increase their spending in the weeks and months ahead. Like the NFIB Index, the Current Conditions index is still far below the levels achieved during the height of the last expansion in 2004-2006. It too is likely to continue to gradually improve, barring another major shock, pointing to further spending growth in the future.

Optimism is slowly returning to the US economy in both the business and consumer sectors. It was here a year ago, only to be derailed by the European debt crisis. While that crisis is alive and well and could flare up again at any time, the past year has seen enough improvement in the underlying fundamentals, from healthier labor markets to rising equity markets (even with the recent declines, US equity markets are well above the levels of last fall) that it appears increasingly unlikely we will see a repeat of last year’s disruption.

Overall, the improvement in optimism suggest that a stronger second half is in store.

Small businesses are getting more optimistic

Consumers are feeling better as well

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