Unemployment: The End in Sight?

This morning’s unemployment released from the Bureau of Labor Statistics makes for grim reading: businesses shed another 563,000 jobs bringing the total of people out of work to 13.7 million, and pushing the unemployment rate up to 8.9%, its highest in about 26 years. Overall in the past twelve months the unemployment rate has risen 3.9% with the number of jobless going up 6 million in the same period.

So why is everyone treating this news with optimism?

The economy seems to reached the bottom in terms of the rate of decline. Things are still getting worse, but now the pace of change has moderated. The employment figures, while awful at any other time represent a step in the right direction: losses are piling up more slowly than in the last few months.

The key point, as I always remind you, is not to get too carried away with this one data point. We can feel much better in the early summer when this month’s apparent change in direction has been confirmed by two or three more months.

Meanwhile, clearly the tone of the economy is shifting. Those green shoots Bernanke referred to a few weeks ago are now looking a lot more robust. So there’s hope the worst is over.

But.

No one should get too excited. Buried in the same report is the news that wages are virtually stagnant. This is supported by local and anecdotal information that indicates wages may even be falling. This is really bad news for the recovery.

Getting the economy to stop falling was the first task. That goal is now within sight. Our next task is to develop the shape or nature of the recovery. My view is that we have to acccomplish a few things in order to establish strong growth over the next few years.

1. We need to reduce debt loads: both for families and for companies. This will be hard to do if wages and profits remain weak. It will be impossible if wages or profits actually fall. I have written about the problems of deflation before,and at the moment I don’t think it is a significant issue because of the enormous amount of monetary stimulus the Federal Reserve Boards has used to stave off depression. Nonetheless while we may avoid deflation proper we must also be careful to avoid stagnation. My preference would be a return to a healthy 2% – 3% annual inflation rate that helps lift wages and erodes the value of debt without undermining it [as would be the case at a higher inflation rate.]
2. We need to establish a more robust savings culture. Savings have jumped recently from practically zero to about 4.5%. But I imagine that is a result of a temporary hoarding of cash rather than a permanent shift. Savings will allow investment to flourish since the financial system funnels savings into business via lending. The US has been the end point for much of the world’s ‘surplus’ savings for decades: the flood of foreign money into America provided the grist for the sub-prime mill. We need to wean ourselves off of foreign capital … why?
3. Because we also need to reduce our trade deficit. A trade deficit has to be financed. The way this is done is by sucking in money from abroad. If we end up buying more foreign goods than we sell abroad we inevitably end up financing it by selling more assets – bonds, stocks, buildings, businesses – to foreigners. We then recycle the cash we receive for those assets in order to pay for the excess goods we buy from them. This closely linked cycle is why the US and China are inextricably linked in trade: we need each other at the moment. The trade balance needs to be reduced … why?
4. Because we have to ensure the dollar doesn’t fall too fast in value. We have huge government deficits to finance for the next few years as we crawl out of the hole we built for ourselves in the years of indulgence. Much, though not all by a long shot, of that debt will have to sold abroad. In order to attract investors we will need to maintain a stable currency and attractive interest rates. If our savings rate is sufficiently high we can channel some of those savings into government debt to avoid reliance on foreign investment. But that might reduce the amount available for business to use to build new factories and so on. So we simultaneously need to …
5. Run a tight fiscal policy. That’s code for raising taxes. I am an avid supporter of fiscal stimulus as a short term expediency. If we have a great credit rating for our debt we should use it to acquire funds to spend our way from the edge of depression. But, we also need to ensure we get our books back in balance quickly so that the deficits don’t become permanent. Cyclical deficits are OK. Structural deficits are not. Our government’s books were in dire straits before the crisis because of decades of failed economic thinking and partisan bickering. That has to stop. Of course we can avoid heavy taxation by …
6. Making sure growth is both steady and strong. One of the failures of the Reagan era was that fiscal policy focused exclusively on reducing taxes. Unfortunately there was no ‘trickle down’ effect and the lower tax regime failed to ignite growth sufficiently to ‘pay for themselves’. That whole policy regime, along with the economic theories that underly it, is now thoroughly discredited. So in order to mitigate the negative effects of higher taxation wages have to grow strongly so as to allow consumers to buy things, save, and still afford the taxes. So wages have to return to their more normal share of GDP at the expense of profits. Remember: profits were the only major factor in the economy to show above normal growth during the past eight years. Wages have been virtually flat.
7. Finally: we need a financial system that focuses on the careful expansion of credit – loans to families and businesses – rather than on the yahoo wild west nonsense that we have seen since the early 1980’s. This implies heavy re-regulation and possibly the use of anti-trust laws to carve down the size of the ‘too big to fail’ banks that ruined our economy and started this crisis off. Remember the mantra: ‘too big to fail’ means ‘too big to exist’.

That’s a heady agenda. But as you can see it is all intertwined. Wages must be growing well for us to accomplish our goal of strong GDP growth. We need a better balance between thrift and consumption. We need a more conservative fiscal policy – and yes I mean conservative. And we need to eliminate the excesses and excessive behaviors that caved the roof in the last time.

Which brings me back to today’s release: that wage data tells me that a strong recovery is far off still. We may be growing slightly by year end, but the pace of that growth will be very poor.

Our efforts should all now be on acceleration. There are huge policy debates ahead that will determine our success. Most importantly re-shaping banking, and getting a better sense of fairness into our economy should top the agenda.

Wages over profits for the near term. And make banking dull.

They’re the two thrusts needed to get this place humming again. This morning’s data shows we have a long way to go.

But at least we have started.