unemployment

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Weak Jobs News, So Where’s The Stimulus?

The payroll processing company ADP released its regular report on payroll growth today. The news was not good. The private sector payrolls covered by ADP shed 39,000 jobs in September. Anyway you cut it this is a weak performance. The consensus amongst Wall Street analysts had been an expectation of poor growth, by about 20,000, so an outright decline like this is something of a shock. Clearly the summer doldrums took their toll.

The decline was also widespread which is a blow to those who argue we are facing some sort of structural employment problems. Usually such a problem manifests itself as a lopsided jobs market: some industries growing while others are fading. The ADP data has weakness everywhere except in services, and even there the addition to payrolls was a paltry 6,000. Meanwhile manufacturing lost 17,000, which along with the weaker reports coming from the Institute of Supply Management portray an economy stuttering along rather than in strong recovery mode. The latest ISM report had their manufacturing index at 54.5% down from its 2010 peak of 65.9% back in January. While any reading over 50.0% is good – it means that over half of all companies are expanding activity – the trend is disturbing. There is no momentum we can look to as the driving force for growth.

The ADP jobs data simply confirms this weak trend.

We have now reached a pivotal moment. Either we take up the challenge and do what is necessary to fix our ills, or we wallow in the morass. I suspect we will choose to wallow. As a nation we don’t have the courage to deal with this problem. Or at least the current signs are that we don’t.

There is a weariness in our policy elite that is almost fatalistic. They simply cannot bring themselves to convince the public of the effort required. They elide, dodge, and confuse instead of leading.

This weakness translates into inaction or inadequate action. That, in turn, fails to solve the problem and is interpreted as confirmation that our policy choices are exhausted. That leads to ennui and a feeling of powerlessness. We have lost our will to fight.

The problem is this: we have two weapons to use. Monetary policy, and fiscal policy. Monetary policy is the preferred option, as it has been for decades. That means using lower interest rates to boost borrowing and thus consumption and the economy overall. The problem as we all know is that rates are now so low we have nowhere to go. It’s worse in Japan, where just this week rates were dropped to 0.1%. Even that is thought not to be enough. Here we have marginally more room left, but given the size of the problem there is no way we can reduce rates to have sufficient impact. Using the rule of thumb measure I have described before, we need rates at about -5.0% to get traction against the current malaise. That’s not possible. So we are stuck. As they say in the trade we have hit the “zero bound” where normal policy fails.

This leaves the Fed with little option but to use abnormal and creative ways to pump liquidity into the economy.

The term used to describe these unusual policies is “quantitative easing”. This policy involves the Fed buying securities in the open market and holding them on its balance sheet. The idea being that the cash they use to buy the securities adds to the money available in the economy.

But even this is beginning to fade in its effect.

The problem is that when the Fed buys US bonds and other low risk securities, which is its first choice, it is simply substituting one risk free instrument, cash, for another. It isn’t shifting the yield curve, and it isn’t shifting the propensity to save. The reason for this is that the economy is already awash with liquidity. People are hoarding cash. Giving them more doesn’t alter their desire to hoard. Taking their US bonds and giving them cash simply means they hoard cash instead of risk free bonds which most investors regard as equivalent to cash anyway.

One way around this would be for the Fed to get even more funky and buy high risk assets. This would reduce the risk profile of investor portfolios and presumably allow them to hold less cash as a risk hedge. Look for the Fed to play this game, by purchasing commercial paper, medium term paper of various sorts and maybe even some more distressed assets. Whether this will work is open to doubt. The clouds hanging over the economy are dark enough that even this effort may fail. Or at least it may not prove to be as effective as we need.

Besides, as I have reported here before, there is an intense debate going on within the Fed as to whether it needs to take any action at all. So looking for leadership there might be a fool’s game.

That leaves us with one reliable approach: fiscal policy. The problem here is that the country is now gun shy of the debt needed to make this work. We have used one round of moderate stimulus which was hobbled by its poor design and slow implementation. Far too much of it was in the form of tax cuts which are well known to be ineffective as a stimulant. Political concessions to ameliorate opposition further weakened that effort. So while it was an unqualified success – much to the chagrin of the opposition – is was barley enough to slow the fall, much less induce a recovery.

It was a massive national failure of will. The price for which we are now paying.

But fiscal policy remains our only hope. We need to summon up the fortitude to do the right thing and pile on the deficit until the economy hums again. this implies running up the debt to GDP ratio to levels we have not seen in peacetime. Then again, we have not had to deal with a crisis like this since the Depression, so it is not unreasonable for our response to break records.

For those of you who fear the repercussions of that debt let me repeat my warning: the alternative is worse. The cost of the additional debt has to be weighed against the amount of lost wealth and the damage to our businesses and households. Since we are now operating at about 6% below our potential, that loss of wealth is accumulating at an alarming rate. Issuing enough debt to get us back on track, and thus to close that gap, is a worthwhile investment in our future. Not to do so is to succumb to a false short term perspective, and to fail to understand that we have the power to stop the rot.

I won’t hold my breath of course.

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Health Care Revisited

It seems a very long time ago that I last commented on health care reform. I felt I had exhausted the topic and so I have let it rest. But today’s nice article by David Leonhardt in the New York Times reminds me that reform rumbles on, and is having a number of odd consequences.

The most interesting problem surfacing is with the so-called “mini-med” programs offered by the likes of McDonald’s. The fast food chain offers its employees a “benefit” that costs $730 a year, for which they get a grand total of $2,000 in coverage. There is a richer plan that costs $1,660 and provides $10,000 of coverage. Neither of these plans amounts to much if you get really sick. The main objective is to provide some minimal benefit to people who are basically well. If they get really sick, tough. The country is full of these plans. They are totally insufficient for anything but the barest minimum, yet count as health care coverage in the existing pre-reform system.

The unintended consequence of the reform process is that these plans fail to meet the minimum requirements – as they should – and need to be replaced by something resembling proper coverage. The problem is that the cost of decent coverage would blow a hole in the budget of the employers providing these derisory plans. So drastic is the damage to profits that McDonald’s announced it was dropping coverage entirely, leaving its 30,000 hourly wage workers completely uncovered.

This is, of course, absurd.

The underlying and more intractable problem, is that our health care system is mainly funded as if health care is an employee benefit. It is thus a major cost for employers. Over the years this aspect of the system has inspired the need to provide employers with tax breaks in order to stop them simply abandoning coverage as a way to boost profits. Once McDonald’s went public with its decision to drop coverage the Obama administration was forced to open up loopholes in the new law to soften its impact in similar cases. Opponents of the reform immediately jumped in and argued that this was an example of how bad the reform is and that it should be shelved.

This, too, is absurd.

Our issue, once again, is the half hearted approach we took to reform.

Our system is irretrievably broken. It is very high cost. It provides those with means and adequate coverage access to very high quality medical treatment. It also completely underserves the majority of regular people. The result is a litany of bad results, poor health services, shorter lifespans, higher incidences of illnesses, higher error rates, misdiagnoses, and general waste. Our system has become a major burden on the economy and is likely to have an even worse impact in the future.

Both households and businesses are ill served by the current system. Households because they get inadequate service at high cost, and business because they carry the cost of coverage as a labor cost. This labor cost discourages job creation. This, obviously, is not in our best interest at a time when every job created is extremely valuable.

Into this mess came Obama. His reaction was typically understated. He sought to reform with a minimum of disruption. What he failed to realize was that the system is so riven through with faults that even a minor reform, such as the effort to bring mini-med programs up to a basic level of coverage, creates a major problem to businesses who operate on thin margins and have hourly wage workforces. So minimum disruption is very hard to achieve. In fact it may well be impossible.

As each step towards reform is taken we will expose more weak links and kluged responses. The edifice is rotten. It was cobbled together to avoid the responsibility for a thorough overhaul. The result is a high cost, low result, system that should be tossed out and replaced with a totally revamped alternative modeled on one of the very successful and lower cost foreign versions. This would require political will. Since we don’t have any of that I will not hold my breath.

Needless to say, though, this is only the beginning. As the current system unravels in the face of the puff ball reform being foisted on it, we will all realize we have been laboring under a massive illusion: our old system was not the envy of anyone but those who profited from it. Everyone else in the advanced world has made more progress and have better systems. We linger in that old dream that anything made here is, inevitably, better than anything made elsewhere.

As far as I can tell there is no perfect solution to the provision of health care. Inevitably the specter of rationing enters the calculation. Difficult decisions have to be made as to the efficacy of high cost treatments that provide only ameliorative or temporary results. This is especially true of end of life care. As I have mentioned many times do not be confused over that word “rationing”. All economic systems ration. Even free markets. Rationing is simply another word for allocation, and markets allocate via prices. If you cannot afford something you don’t get it. That’s allocation. That’s rationing by another name. The only issue, therefore, is how to ration.

And since health care is a universal requirement, and has many of the features of a “public good” – disease prevention being paramount amongst them – is makes little or no sense for the system to rely on business provided benefits. Health care should not be a component of labor costs. Removing it from the business realm would reduce employer costs, help create jobs, and make our businesses more competitive. That seems like it should fit on any right wing business oriented agenda. That it doesn’t is because the implication of removing the burden from the private sector is that it is moved to the public sector. Health care would have to be funded out of taxes rather than wage offsets and tax credits. It would be transparent and not hidden. And it would be cheaper. But it would be public, and that is too difficult a hill to climb for our right wing politicians.

So we are stuck with yet another kluge. A monumental fudge. An avoidance of the fact staring at us in that face: our current system is a joke. A very expensive joke. The minimal disruption of which threatens to bring the whole house of cards down.

Just for once I wish this country had the courage and will, or the imagination, to be bold.

We fudged bank reform. We fudged health care reform. We fudged stimulus.

For some reason we are hell bent on being mediocre.

I wonder why that is.

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GDP Revised Sideways; Jobs Edge Up

Todays has seen a little flurry of news, so lets’ just take a look:

The latests revision of GDP was released, and showed practically no change. At 1.7%, GDP growth was mediocre in the second quarter to say the least. The details are worth looking at because they give us insight into the probable course of the third quarter.

  • Personal Consumption contributed +1.5%
  • Investment contributed 2.9% [Fixed Investment being +2.1%; Inventories being +0.8%]
  • Net Trade contributed -3.5% [Exports grew 1.1%; offset by Imports growing 4.6%]
  • Government Expenditures contributed +0.8% [Federal growth being +0.7%; State growth being +0.1%]

The clear story here is that consumption is growing slowly, certainly not enough to push the economy out of the doldrums, but enough to prevent the onset of renewed recession. Add in the growth in investment, particularly in fixed investment, and the basic private sector is chugging along at a slow but decent pace. One spot of concern is that we have reached the end of the inventory cycle, so the addition to growth from that activity is declining quite sharply from the levels we saw at the end on 2009. That’s fine as long as fixed investment takes up the slack as it appears to have done in the second quarter, but we need to keep close watch on this in the coming months.

The other big news was the big shift in trade. Exports ticked up moderately which reflects the recovery going on around the world. Unfortunately there was a very large growth in imports that swamped exports and took a lot of the steam out of GDP overall. A couple of things seem to be going on there. One is that importers of finished goods appear to have brought in an unusually large amount of goods, possibly to re-stock shelves in anticipation of growth, all at once. Another is that the pick up in GDP generally always has the effect of sucking in things like oil: as the economy moves up a notch, so too do such imports. I doubt that the surge in imports will be repeated in the third quarter, so that alone will tend to boost GDP beyond its second quarter level.

The last factor to note is that government spending at the state level shifted into a positive gear, albeit at very low levels. One thing I try to point out relentlessly is that government spending at the Federal level is stimulative – its adds growth – but at the state level it has been negative as states try to balance their budgets. So much of the stimulus that attracts the eye of voters and media alike has been offset or neutralized by this state level contraction. In effect the states have worked against the Federal government and its effort to get the economy going. This is one reason that I have advocated allowing states to run deficits and have the Feds write checks to pay for them. That way local services and jobs are not sacrificed, and the national stimulus is not neutralized. I doubt that the positive shift at the state level can be maintained for long and thus expect the local drag on the economy to re-assert itself either this quarter or next.

Overall, this report is a sideways revision from the last release of data. We learned very little we didn’t know already. The economy is not declining, nor is it brimming with health. Most importantly there is no sign of sufficient health to get job creation out of its cellar dwelling existence.

Speaking of which:

Today’s release of the weekly numbers on new claims for unemployment assistance was a modest pleasant surprise. New claims declined by 16,000 to 453,000. While the absolute level is still way too high for this point in a recovery, we should acknowledge the modest progress. This is the third week of very slight improvement, which is better, obviously, than the alternative.

Nonetheless, businesses are now reporting weaker sales forecasts and are reacting by downgrading their hiring expectations. This is just awful news.

The entire outlook hinges on business expectations. As long as the prospect of weak demand lingers, so too will the prospect of a poor job market. Eventually the two interplay with each other and the poor job market creates the conditions in which businesses see poor sales. The economy is operating well below its potential, which is based upon the amount that could be produced were we at full employment and businesses were producing at or near full capacity. The gap between where we are and where we could be is now between 6% and 8% of GDP. That’s almost $1 trillion in lost wealth this year alone. Assuming that it will take us a while to get back to close to potential, this recession will end up costing us more than $6 trillion in lost wealth. We should be willing to spend, and borrow if need be, in order to reduce that lost wealth total. That’s one reason why people who wring their hands about the cost of the stimulus are wrong: they are looking only at the cost. They ignore the payback from that debt. The payback being the decrease in wealth lost as we recover.

The social benefit of stimulus far exceeds the social cost. We should think of it as an investment in our future. As long as the job market stays in its current funk we should be willing to endorse any plan to get it moving. If that means borrowing, so be it. The benefits outweigh the costs. By a lot.

I am tired of saying this: we need more stimulus.

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Consumer Confidence Slips Again

It’s tough to have a vibrant economy when the people who comprise that economy are in a funk. So the news that consumer confidence has slipped a little more and is now below where it was at the beginning of the year is not good news.

The Conference Board calls the 48.5 reading for September on its overall confidence gauge as “quite grim”. This was a decline from the August reading of 53.2. The index has a base of 100 back in 1985, and has been bouncing around in the 40 to 60 range for about 18 months.

While consumer confidence is not an economic factor in the way that spending is, it does give us insight into the likely trajectory of those more direct measures of activity. So this period of decline so far in 2010 does not augur well for the near term. We should expect consumption to wallow in its current range and savings to track higher as households either hoard cash or pay down debt rather than spend.

If this turns out to be the case GDP will be weighed down and will also stumble along at an unacceptably low level.

Perhaps the most alarming aspect of today’s report was the number of people who are expecting things to deteriorate. Whether it is business conditions or the employment outlook respondents in September’s survey were appreciably more pessimistic than those a month earlier.

The lingering malaise shows no signs of abating.

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Greenspan, Debt, and What To Do

Alan Greenspan who spent his life advocating free market solutions to every imaginable problem recently appeared on television, and with all the humility of a totally discredited thinker, went straight on advocating his old ideas. This only accomplishes two things: it perpetuates out of date thinking, and it confuses discussion. Perhaps worse: it validates wrong headed policy. We have plenty of that presently, so Greenspan’s comments only make thing more difficult.

Let me explain:

Basically Greenspan argues that economists are lousy at forecasting the economy – duh – and thus they should always choose the more conservative option when confronted with policy choices. This is an analogy to the old medical ethical statement of “first do no harm”.

The big problem is, of course, deciding which is the more conservative option.

During his television appearance Greenspan showed his old colors and declared without any empirical backing, that greater indebtedness was a bigger threat to the American economy than the current slow growth malaise. He consequently argued that we should, therefore, allow the Bush tax increases go into effect. As opposed to making any more effort to stimulate growth.

This is the option being pressed on us by a multitude of austerity advocates. They are completely indifferent to the consequences of such a policy, and seem inured to future of high unemployment, slow growth, and misery for millions of Americans.

The issue I have is that they are wrong both morally and in terms of theory. My position is that we should doing everything humanly possible to stimulate the economy, and if that implies adding more and more debt so be it.

Debt is the least we have to worry about.

The austerity argument starts with a false premiss and then proceeds to build on that wrongheaded foundation by piling up erroneous policy suggestions. The route that they head us down is called the road to depression.

Our economy suffers from a drastic drop in demand. People are simply not spending at the rate they used to. This means that savings are piling up, and that businesses are sitting on large amounts of idle capacity. The economy is awash with cash. No one is using it productively. Liquidity is not an issue. Opportunity is.

The austerity supporters diagnose things differently: they see issues on the supply side of the economy. They argue that we have a structural employment problem where labor costs are high because of government interference in the market – payroll taxes and pro-labor laws are oft cited examples; where labor skills are ill fitted to the current demand for labor; or where wages are simply too high. Each of these ‘structural impediments’ reduces the willingness of businesses to hire workers. Were they removed – were workers to take much lower wages for example – then our unemployment issue would go away.

The austerity crowd then augment this by suggesting that we cannot keep borrowing at our current pace. Sooner or later, they argue, we will hit a wall and our creditors will punish our profligacy. That punishment will come in the form of higher interest rates and even an unwillingness to borrow. The more aggressive amongst these folks ague we are fast approaching such a moment. To make matters worse, they also talk of a ‘crowding out’ of private investment by public borrowing. Crowding out is when private businesses of households find it hard to raise debt because the government has syphoned off the available cash for its own use through its own borrowing.

This argument is a non-starter.

Let’s attack the crowding out argument:

First, there is no evidence in the markets of the telltale rise in interest rates that would indicate the onset of creditor concern. On the contrary US rates are falling and are historically low levels. The evidence directly contradicts the austerity argument.

Second, as I mentioned earlier there is no crowding out going on. Businesses are knee deep in cash. They have accumulated historically high war chests of the stuff. There is no pressure in the credit markets from a conflict between the private and public sectors.

Third, in any case all the evidence – and I mean all the evidence – shows that the private sector is reducing debt. There is no demand for debt coming from that side of the economy. Deleveraging is still the order of the day.

So, lastly, with demand for debt non-existent, the private sector awash with cash, and debt reduction the order of the day, we have a massive potential problem: where does all that implied saving go? Into government debt. In simple terms the government’s huge increase in debt has simply offset the private sector’s equally huge reduction in debt and increase in savings. The money flooding the economy is being deployed usefully: it is helping forestall a depression.

And there is a massively important point to make here: we are getting a very high return on this debt.

Huh?

The reason is that for every day we linger in the doldrums we are foregoing the creation of wealth. An economy that operates well below capacity, as ours is, is missing the opportunity to turn that capacity into wealth. A further slide would make the loss of wealth worse. We should remember that this wealth is lost permanently. It cannot be earned back.

Now for the structural employment argument. There is no evidence to support it. When an economy develops structural issues it suffers from imbalances. High unemployment in one sector is accompanied by shortages in another with the result being a mix of high unemployment and high wage inflation. This kind of stagflation is a sure signal of supply side imbalances of one sort or another.

But we don’t have any such stagflation. We have high unemployment associated with low and declining inflation. Some would argue we are headed for a bout of deflation. These are symptoms not of structural supply side issues, but of a shortfall in aggregate demand.

Withdrawing government stimulus by allowing the Bush tax increase to come into effect can only make matters worse. Much, much worse.

One more thing: the austerity crowd overlooks history. Governments that cut spending in order to balance budgets have often so depleted demand that their economies shrink. Thus they collect less revenue – the tax base is smaller – their deficits grow rather than diminish, and they are forced to cut even more. In order to avoid this fate a government can cut less, but then it fails to achieve its goal also.

All of this leads us to the following set of conclusions:

  1. An economy in distress is forgoing wealth
  2. That wealth has more value than the cost of the debt required to forestall it
  3. Therefore more debt is the conservative option
  4. Rather than austerity which assuredly increases the loss of wealth
  5. Especially when there is no evidence of an impending credit crisis

So people like Greenspan are arguing something else. His argument boils down to the claim that economist’s really don’t know how to deal with this crisis, so we should throw in the towel and “allow nature to take its course”. What he really means is that the theories he has always advocates have failed, so we should just give in. Just because he has no idea, doesn’t mean that the rest of us don’t. The same goes for all the austerity advocates.

What makes me angry is that the policies do exist. And that this argument has been had many times before, with the same outcome. That the old guard persist and get attention detracts from our getting on with the job.

I think we have a moral obligation to mitigate the human misery caused by the failure of our market based system. That system went through a classic “Minsky moment” when ponzi financial practice imploded and produced a massive shift towards savings as businesses and households rebuilt their balance sheets. The outcome was a near depression as demand collapsed. A variety of government efforts simply put a bottom to the decline, but were not sufficient to impel a self sustaining recovery. So we are stuck in limbo with government debt accumulating and the private sector meandering along neither in sharp growth nor in sharp decline. Those government efforts were small with respect to the size of the problem: we built 10 foot levees to keep out a 20 foot wave. Yes, the damage was limited, but we are still under water. Those efforts were even more reduced in effect by their construction. Political pressures prevented them from being direct job creating activities such as government infrastructure programs. Instead the money went into tax reductions which were saved not spent, thus adding to savings and not demand, or into indirect spending that had a lesser impact, and which eventually found its way into company bank accounts rather than continuing to ripple on throughout the economy.

And while I am on the subject: we should ignore any debt to GDP ratio that uses current GDP. Why? Because it is depressed. The ratio of debt to GDP is often tossed about as if it represents an accepted rule for credit markets. It doesn’t. Were we to accelerate the economy GDP would rise quickly and the debt/GDP ratio would fall even if we kept exactly the same amount of debt. Debt ratios are helpful indicators not policy targets. We have to be mindful that we are solving the right problem.So when we assess the amount of debt appropriate for an economy, we have to take into account its wealth generating potential. A relatively fast growing economy can absorb a higher debt level than a moribund economy. That’s why it is vital we get our economy moving faster than its current 1.5% to 2.5% range.

This will be impossible if we give in to the austerity argument and reduce demand by cutting the deficit. At the moment we have enormous spare wealth generating potential waiting to be deployed. Plus we are facing low interest rates and a worldwide surplus of cash waiting for us to borrow. It makes sense, indeed it is the safest option, to take advantage of these circumstances and borrow that money, pile it into our economy, and get back to work.

No. Alan Greenspan has it backwards: the conservative policy is the one that energizes wealth creation. Not the one that limits growth.

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