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Don’t be fooled.
Yes, the economy grew by close to 5% in the third quarter of 2023, the unemployment rate is still well under 5%, inflation is almost back to the Federal Reserve’s target range, and stock markets aren’t far off their highs. But the situation is more precarious than it seems. Here are some questions to ask yourself as you prepare for the coming year.
Is your business sustainable if consumer spending lags?
One thing we’ve learned in the past few years is that the biggest trends in the economy will be driven by the consumer. When consumer spending was focused on goods, labor markets throughout the supply chain became extremely tight. When the consumer shifted to services, inventories started to build up in the supply chain and businesses began to trim payrolls.
Going into 2024, the consumer has much less money to spend. The excess savings that built up during the pandemic, when people weren’t spending as much of their income, will be gone in a matter of months. To keep up their current level of spending, consumers will have to dip into their nest eggs or take on more debt. But with high interest rates on credit cards, that will be an increasingly risky proposition.
When consumers decide to spend less, the first things to go are usually big-ticket items — especially when interest rates on financing are high — and luxuries that they don’t really need. Restaurant meals, travel and entertainment can all suffer. Yet there’s good news for businesses that sell smaller luxuries, especially for personal care; sometimes these take the place of more expensive goods and services as consumers dial down their spending.
It’s important to know which of these buckets your products fall into. If you can expect lower demand, do you need to put hiring plans on hold? Do you need to rely more on temporary or flexible workers? Should you lower your orders from suppliers? Do you need to renegotiate contracts? Can you diversify your product line to dampen these effects?
Will tighter credit become a problem for you?
Coming a close second to the consumer is the path of monetary policy. Right now, the Federal Reserve is unlikely to keep raising short-term interest rates. But long-term interest rates — the ones people pay on homes, cars and capital investments for business — are likely to remain higher than the unusually low levels that followed the global financial crisis.
There are at least three factors driving these high rates:
- There’s an expectation among investors that short-term rates will remain at around 5% for several years to keep inflation under control even as the economy booms.
- The glut of borrowing the federal government needs to finance its trillion-dollar deficits.
- The Federal Reserve is actually still tightening, even though rate hikes are on hold; by shrinking its balance sheet — that is, selling the securities it owns back into the financial markets — it is still pulling liquidity out of the economy.
Plenty of businesses have had to close or lay off staff as a result of high interest rates. The cost of borrowing money to build facilities and buy new equipment has risen sharply. Initial public offerings have become tougher, too, since investors can weigh new share issues against high returns elsewhere in the markets.
Financial markets may also have some surprises in store. Though there hasn’t been a big bank failure since Signature went under in May, lenders are getting stingier while rating agencies are getting antsy. A collapse on the order of subprime mortgages seems unlikely, but investors have often underestimated the capacity for credit crunches to be contagious.
So it’s crucial to think about how high rates might affect your plans for hiring, investing and raising capital. Will you be able to go ahead with your plans for capital expenditure? Will you be able to afford an acquisition? Can you count on the financing sources that were part of your strategy for 2024?
Are you prepared for economic shocks?
The labor market still looks strong, and the economy is still growing. There’s still an element of fragility, though. With spending likely to slow and higher interest rates starting to bite, a shock to the system could send markets tumbling and lead to recession.
Geopolitical shocks are often the hardest to predict. Will Russia use tactical nuclear weapons in Ukraine? Could the conflict in the Gaza Strip spread to other parts of the Middle East? Might China invade Taiwan? What if the presidential election leads to a chaotic situation here at home? Some of these possibilities may seem more likely than others, but all of them would have profound effects on the economy. Even if you think there’s only a 1% chance that they’ll happen, it’s still worth thinking about how to be prepared.
A geopolitical conflagration usually results in higher prices for commodities, insurance and security, especially for goods arriving from abroad. So have you hedged your costs for any of these items? Can you diversify your supplier base in case of outages? Do you need to move operations to ensure they’re not interrupted by conflicts, as well as to protect your people?
And of course, there’s the looming specter of the Covid-19 pandemic. It’s under control for now, but new variants keep popping up, as do new diseases. Stay-at-home orders played havoc with consumers’ spending patterns in the past few years — do you have a plan B in case your primary line of business has to go on hiatus? No one wants to have to deal with these questions, but they’re a part of life for business owners today.
On a somewhat brighter note, 2024 looks like a year of moderate economic growth, with easing prices, a loosening labor market and a reasonable level of activity in the supply chain. That would be a decent forecast for most businesses in normal times. It just doesn’t feel like something to bank on today.