recession

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Unemployment: The Key to Our Future

This morning’s release of the monthly ADP Employment Report adds some fuel to the green shoots argument. The story is the same as that we’ve been following for a couple of months now: things are getting worse less slowly. I suppose that means things are getting better in a perverse kind of way.

According to ADP the economy is still shedding jobs at a prodigious rate: we lost another 473,000 in June. The good news in this is that the monthly losses are significantly smaller than those we saw at the end of last year and the beginning of this. The average monthly loss during the second quarter was 492,000 compared with an average of 691,000 during the first quarter.

So that’s the good news: we lost under half a million jobs! Whoopee.

“Unemployment will be the key to our return to economic health, and the prospects are mediocre at best.”

I have tried to emphasize all along that the real issue is not the recession itself, we have the policies to halt the onset of depression, but the recovery. Unemployment will be the key to our return to economic health, and the prospects are mediocre at best.

We will learn later this week what the unemployment figure has grown to. Many analysts are thinking it will hit 9.6% or even slightly higher. Given that we are still losing jobs at a steady rate, and that there seems to be no re-hiring en masse on the horizon, the unemployment rate is almost certainly going to peak at about 10.5% by late this year or early next. Remember: unemployment lags behind the economy as a whole. Employers fire workers after a recession has started and re-hire after a recovery is well under way. So the drag effect of those lost jobs tends to hang around even after there are plenty of other signs of recovery: business investment usually picks up as firms retool for an uptick in sales, but the try to retool with a shrunken workforce rather than take on the expense of hiring more workers.

When we delve into the consequences of this drag effect it becomes obvious why this particular recession and recovery represents a challenge.

The bulk of our economy’s purchasing power comes from salaries and wages. This is reported through the personal income data. Last month, as I discussed at the time, most of increase in personal incomes came from the arrival of the stimulus checks. Wages contributed a decline. This was because unemployment reduced the number of workers receiving wages, not because the average wage fell dramatically, although there are signs that average wages are now beginning to fall.

Economic theory argues that wages should fall in line with a decline in overall activity because workers should prefer to receive a lower wage rather than none at all. Obviously this doesn’t reflect the real world: unemployment insurance mitigates job loss, at least for a while, and so reduces the incentive workers have to accept lower wages; union restrictions on wage changes also slow the process down; and earlier on in a downturn workers seem more willing to gamble on getting a new job at the old wage rate rather than accept a pay cut. For all these reasons wages are notoriously ‘sticky’. This stickiness invalidates much of the analysis that flows from standard economic modeling.

Nonetheless, the flow of wages will ultimately determine the tone of the recovery.

This is not good news.

As workers contemplate their financial situations they will have to decide how much to spend and how much to save. That balance is always a critical factor in the economy. The less savings the more consumption, and thus growth is faster. One component in this equation is the level of indebtedness. If workers are secure in their prospective employment they tend to be willing to take on debt in order to supplement wages as a source of cash for consumption. Furthermore, as long as paper sources of wealth such as house and stock price inflation, are rising, people feel that they can absorb the cost of debt because they have a ‘backup’ way to liquidate the debt in emergencies. The destruction of paper wealth over the past two years has been catastrophic for most consumers. It has eliminated their sense of security and has pushed them into a shift towards higher savings. In other words the unwinding of the housing bubble is contributing to surge in thriftiness.

Couple this effect with a massive run up in unemployment which, as I mentioned above, sucks out incomes from the economy, and the outlook for a strong rebound in consumption is very dim.

This is why high unemployment levels become so critical. The associated loss of spending power cripples the economy’s chances of entering the much hoped for ‘V’ shaped recovery – a rapid decline followed by a rapid recovery.

But then we have to confront a self-fulfilling prophecy: lower consumption resulting from high unemployment will prolong the period of high unemployment. Because wages are sticky and do not fall to help the job market correct itself the way the textbooks argue, an economy can easily get stuck in a self reinforcing cycle of low growth associated with relatively high unemployment. The only way to break out of this rather depressing cycle is more government stimulus. The argument is already being joined. Unfortunately the administration seems not to have the necessary nerve to press for it. That’s too bad since it is are only ‘escape card’.

So the longer we shed jobs, even at the diminished rate that now seems to pervade, the more sure we can be that the recovery will be a longer and slower one.

We are already breaking through the ‘worst case’ levels of unemployment that many analysts foresaw at the onset of recession and are likely to keep on going. This can only be bad news.

Which is why today’s ADP report, while good in some ways, was nowhere near good enough.

Dig in. The road ahead is long and arduous.

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Joklahoma? Sally Reveals the Real Causes of Our Recession.

I normally don’t do this here.

But.

This is just plainly stupid. It is so far from anything even vaguely sensible, legitimate, or responsible that I had a hard time taking it seriously.

But.

This is Oklahoma after all. A state with its rather full quota of lunatics and fringe idiots.

So with no further ado, I present to you: the real causes of the recession according to Oklahoma State Representative Sally Kern.

Not the collapse of banking. Not sub-prime loans. Not over zealous de-regulation. Not the illusion of derivatives. Not even the silliness of AIG. None of these things.

Nope.

The recession was caused, according to our redoubtable Sally by … debauchery. Or more precisely:

“abortion,pornography, same sex marriage, sex trafficking, divorce, illegitimate births, child abuse, andmany other forms of debauchery”

Aaah. I see now. No wonder I have had a hard time with all those green shoots. I wasn’t searching the Bible. Silly me. None of these great causes of recession appear in any of my economics textbooks. Rats.

I have no doubt that Sally is a very earnest person. Perhaps she even believes this stuff. And perhaps the moon really is made of green cheese.

The only problem I have with Sally’s ardor is that it reveals a side of America I would prefer to ignore. There are people who think like this all over the world. Some of them are very important. But mercifully their ranks are thinning.

Except here. In America they are a very vocal and large minority. They wield great power. And they have cowed the media into giving them a dignified hearing. We are told to ‘respect people of faith’.

Rubbish.

Oklahoma was the state that recently passed a resolution banning Richard Dawkins the world famous evolutionary biologist from speaking at the state university because he teaches things that contradict the Bible story of the origins of life. Fortunately the university let him speak anyway – to thunderous applause.

And now this.

How are we going to get this country to overcome its economic problems, or any other problems for that matter, if people like Sally can waste public money and time passing, or attempting to pass, absolutely inane legislation like this ‘bill’?

There’s a joke here somewhere.

Either Sally is just having some bible thumping fun at our godless expense. Or Oklahoma is a joke.

Unfortunately I fear it’s the latter.

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Green Shoots: Unemployment Gloom?

While everyone seems to be convinced that the recession is now approaching its end, or is at least getting worse less slowly, the data continues to wobble back and forth. So I repeat: look at trends, not single pieces of data. This morning’s release by the Bureau of Labor Statistics [‘BLS’] of last week’s claims for unemployment assistance is a case in point.

“… the message is starting to improve. Just not drastically.”

The headlines all blare that the news is disappointing: new claims – people who are making their first claim for aid – ‘jumped’ by 15,000 to 627,000. The general view amongst analysts had been that the figure would drop to 600,000, so the increase jarred the stock market.

I don’t see why.

This is what I said just two days ago:

“But unemployment continues to pile on the agony: mass layoffs reached a record just last month, so all the talk of improvement is an illusion. The data will get worse throughout the year. The green shoots that some saw in those claims numbers last week are very weak.”

The point being that the mass layoffs data gave us all a big hint that the new claims data may blip up.

How should we react?

By being consistent. Rather than jumping up and down every time a piece of data comes out that seems to contradict our hypothesis that things are getting better we should keep testing our ideas against the longer term trends.

Even with this jump up in claims that four week moving average – the figure I keep an eye on – scarcely moved. It has flattened out somewhat. As long as this average doesn’t snap back upward we can be assured that the worst is behind us. So far it is holding steady.

Also: take a look at the total insured unemployed figures in the same BLS report. The pattern is the same. The weekly figure rose, as we might expect given the new claims number, but the four week moving average fell slightly. This supports the same story: the rate of new job losses seems to be very slightly better than earlier in the year.

All this means is that the rate of decline is leveling off and that we can expect a turn around sometime in the next few quarters. This is deliberately vague since caution is still paramount. The world’s economy is still very fragile and that could become a drag on the US.

The OECD has published a revised economic outlook that is quite encouraging. It has taken the green shoots to heart and now expects the US economy to fall only between 2.75% and 3.0% during 2009 before growing slightly in 2010. that is a significant improvement over the 4.0% decline they forecast back in March. Obviously they are reading the same trends we are and concluding much the same thing: the recession most likely will end this year.

But the damage has been horrendous and will have lasting effects. By the OECD’s measurement the US has permanently lost about 1% from its GDP potential. They measure this loss by looking at things like business investment that was not just postponed but eliminated entirely. Plus they try to estimate the impact on workers: the loss is especially high amongst older workers who are highly unlikely to be able to find new jobs at or above the level of skill required in the jobs they lost. That diminution of skills in older workers represents a permanent loss of capacity in the economy. Indeed some of those older workers may simply drop from the ranks of those looking for work and so shrink the labor pool.

Even so, the permanent damage here is not thought to be as bad as in some other countries: the UK may lose 4% for instance.

Finally I would be remiss if I didn’t mention this morning’s release of the revised GDP figures for the first quarter: the revision has the decline at 5.5% rather than the original 5.7%. There’s not much to comment on in the report since most of the revision simply stems from more complete data gathered over the last month. Obviously a drop of 5.5% is awful, but I fully expect the second quarter to be dramatically better.

That’s the problem with green shoots. Sometimes they’re an illusion, and other times you miss seeing them altogether.

Stick to the moving averages and other trend data: the message is starting to improve.

Just not drastically.

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Green Shoots Watch: All Orange!

Our mid week green shoots watch produces two contradictory data points:

Durable goods orders rose 1.8% in May, that’s better than expected, there have been gains in three of the past four months, and this is an excellent leading indicator of manufacturing.

Great. Ring the bells. Blue skies ahead.

Not so fast.

Sales of new homes fell 0.6% in May. That’s down from an April figure that was also revised downwards. It means that sales in may this year were 33% lower than a year ago. The unsold inventory of new homes is rising very slightly, rather than falling: it is still in the ten months range compared with a ‘healthy’ six months range.

Bad. Rotten in fact. We are doomed.

Not so fast.

The point being that we are at that stage of the recession where there are plainly signs of a bottom being reached. The durable goods orders are usually a very good indicator of future activity. They definitely show a slight improvement in the manufacturing outlook. But that is still way off. It will be a very long time before this slight change translates into many new jobs. For the near term layoffs will vastly outnumber new hires.

As for housing: there can be no surprise that housing will remain very bumpy. The one-time boost provided by the new home buyers tax credit is wearing off and mortgage rates are rising as the ten year bond rate goes higher. Both these will tend to stifle rapid improvement: they may even make things worse. Foreclosures are still running very high. Buyers appear to be waiting for further price cuts. And unemployment casts a long shadow over consumer willingness or ability to make long term purchasing commitments.

So today’s message remains one of caution. In a system of red, yellow, and green signals, we are decidedly orange still.

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Green Shoots Watch: Patience Please

There aren’t any.

The problem I have with the economic news at the moment is that everyone seems to be in a hurry to get the recession over with, presumably so that we can all get on with something new. After all this economic stuff is getting boring and detracts from really important things like reality TV shows and summer vacations.

Why, we are beginning to read in the media, is the stimulus not working?

And after a run of extraordinarily tepid data releases all of which engendered breathless analysis that the turning point had been reached even the optimists seem to be in a funk. Wall Street, which houses the more extreme group of optimists, is already getting edgy about the ‘failure’ of stimulus. I can understand why they would feel this way: they have sales quotas to meet and the economy isn’t cooperating. And plenty of them opposed the entire stimulus plan on ideological grounds, so they want to pile on the grief quickly rather than wait and see whether the plan actually works.

Plus today we get poll results telling us that the ‘public’ too is getting concerned. Confidence in the stimulus plan is waning.

So here I go again:

Who cares what the public thinks?

The biggest risks we have are all downside. That is all the significant issues that could tilt the economy off of its current trajectory are ones that would make it worse. I cannot think of a likely event that would spark a rapid burst of growth. We are well and truly stuck in this slow motion unwinding of years of mismanagement and imbalance. It took the best part of thirty years to dig this hole. It will take at least two years and maybe many more before we have healed all the damage.

So we absolutely have to stay the course.

Relapse is highly likely.

Let me recap:

  • The stimulus was too small to start with, it was half the amount needed for ‘quick results’.
  • It was badly constructed: too much went in tax cuts that have little stimulus effect.
  • Even so, it will have an impact: much of which will turn up later this year and early next. The Congressional Budget Office, Washington’s non-partisan score keeper, estimates that the economy will be operating below potential for at least four years, maybe more, but that stimulus will stop it slipping too much further this year before adding to a recovery next year.
  • Meanwhile the economy still is shrinking albeit it at a much slower rate than last last year. The worst is over.
  • But unemployment continues to pile on the agony: mass layoffs reached a record just last month, so all the talk of improvement is an illusion. The data will get worse throughout the year. The green shoots that some saw in those claims numbers last week are very weak.
  • Bank loan losses are about to get worse again: the wave of credit card and commercial real estate defaults is building.
  • The banks are not restored to health anyway: some have raised capital others have merely shifted cash around different buckets on their balance sheets. The usual suspects remain very weak. And the tail of potential losses on all the stupid gambling stuff [aka derivatives] still lingers in the background: a downturn could cause an implosion there and use up what precious reserves have been built leaving the system exposed and exhausted.
  • Consumers are staying away from stores still. They prefer to save rather than spend. So demand is still way off the levels we need to get business back to hiring.
  • Wages are declining: some businesses are cutting wages rather than firing. While this saves jobs near term, it also drains spending power from the economy.
  • Housing is stuck in the doldrums and won’t come back any time soon. Nor should it. We need to build an economy on productive assets not real estate. Most people have forgotten that practically all the growth during the 2000 – 2007 period came from construction and related activities. The rest of the economy was loitering about going nowhere.
  • Trade is dead. Actually it’s worse than dead. International trade bickering is breaking out which could eliminate what chance we have of getting growth from exports.
  • And: we are about to double our national debt just to stay afloat.

In short the only definitively positive activity in the economy is government spending.

That’s it.

The dyke between us and the flood is the stimulus.

Getting bored with it, or thinking it is ‘failing’ is utterly laughable. It is beyond that: it is downright irresponsible.

So, as we watch for green shoots in this week’s data: patience please!

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