recession

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Unemployment: Improvement?

Is there light at the end of the tunnel?

Possibly. Today’s release of last week’s data on new claims for unemployment assistance shows a glimmer of hope, with claims dropping quite sharply to 435,000. That’s a decline of 24,000. The good news is that this drop brings the four week moving average down to 446,500, its lowest point in two years.

Before we get carried away we should all recall that the economy needs to generate a far greater number of jobs than last month’s 150,000 to break the back of unemployment. Plus the prospect of long term unemployment benefits running out for approximately 5 million people casts a considerable pall over consumer’s moods as we head into our prime retail selling season.

With the recent election producing a hung Congress there is extra pressure on the lame duck session to tackle issues like the extension of those benefits and those Bush tax increases scheduled for the new year. That adds up to some fraught and crucial decision making between now and year end. Without clarity on those issues we will enter the new year in an even more muddle condition than our current mess.

But at least unemployment seems to have reached its high water mark. How quickly it recedes depends as ever on whether the economy can get beyond its current 2.0% to 2.5% growth range. As of now the most likely GDP growth for the fourth quarter is stuck within that range. Which is, frankly, not enough to create much movement on jobs.

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What a Strange World

What a very strange world indeed.

This morning we have Joe Stiglitz, who has a reputation for being a bit of a renegade in economics, arguing against more quantitative easing in an op-ed piece for the Financial Times. At the same time we have Gavyn Davies reporting in the same paper that Bernanke is hell bent on just such a policy. Last I looked both Stiglitz and Bernanke were card carrying members of the economics elite. I wonder if they talk to each other.

Meanwhile in France the locals are all in a huff that the government is trying to raise the retirement age from 60 to 62. The fun part is that the main core of the striking horde is now made up of students whose retirement is, presumably, a fair way off. The French love strikes and take to them with gusto, but this is ridiculous. By the time those students retire the government will be bankrupt as it tries to pay for retirees living for 25 to 30 years beyond their retirement age, when the funding assumed they’d all only live for about 10 years. So they had better watch what they wish for.

But back to Stiglitz and Bernanke.

The central point that Stiglitz makes is based upon the thinking that earned him the Nobel Prize a few years back. This is that the economy is inherently uncertain. Well he didn’t go that far, he is way too establishment to be that controversial. He couched it in sensible and bureaucratically acceptable terms: there are “asymmetries” of information that disrupt the smooth and perfect workings of the market place. In vernacular terms: I may know something about the thing I am selling that you, that you, the buyer, don’t. Duh. Unfortunately this is the kind of commonsense that passes for dramatic and deep insight bin theoretical economics. Anyway. Stiglitz deploys this stunning piece of thought against the proposed monetary policy we know as “quantitative easing”, or QE2 – the ‘2’ implying this would be a second version.

Here’s his argument: advocates of monetary policy assume that we know the outcome of that policy. They argue there is a clear cause and effect. The cause being the introduction of a wad of cash into the economy. The effect being a surge in investment, and thus spending, associated with that wad of cash. Stiglitz points out, correctly in my view, that the relationship between cash infusion and investment/spending is not that clear. We only have to look at the current situation to see that. The economy is awash with cash that no one seems in a hurry to invest. Plus, the banks are flush yet are not willing to lend. Small businesses especially are finding it hard to get credit, and the rates being charged when credit is granted bear little relation to the Fed funds rate. So the causal link between the central bank’s action and the real economy is less straightforward than the theorists think it is.

Nonetheless Bernanke, ever the earnest academic, is fretting about what to do with the malaise. He has written extensively on the Japanese and their ineffective approach to solving a similar crisis. He berated them for inaction and for being tentative. So his current bout of ineffective and tentative policy making must be – I assume – driving him crazy. He is hemmed in by austerity freaks and assorted other anti-social elements within the economics fraternity, but I get the sense he wants to break free and do QE2 with gusto. The problem is that QE2, like all medicines, has unfortunate side effects. Which Stiglitz, unencumbered by the need to do anything on his own account, is kind enough to point out to us. You see it isn’t just that the connection between monetary easing and investment growth is unclear, there is also the small matter of the implied losses in the easing, and the potentially disruptive effects on global currencies..

When the Fed buys a ton of assets from the markets in order to inject cash into the economy, it is taking a risk. Like all investors it now has a portfolio that rises or falls in value as interest rates rise or fall. This is awkward. The whole point of stimulus is to get the economy going. The implication of a stringer economy is that the Fed will have to raise interest rates to head off potential inflation. The moment it does this its portfolio of bonds goes down in value. In effect the Fed is buying high and selling low. Not very sound. We, the taxpayers, will presumably underwrite that loss. Just add it to our – very extensive – tab.

Then there’s the impact that all those extra dollars will have on foreign markets. They will flood out towards high return economies and thus become “hot” money capital flows into emerging markets. The governments of those nations are none too pleased at the prospect of the Fed undermining their currencies and trade. So currency and trade wars are looming. This is not at all helpful: one of the things that made the Great Depression truly great was the breakdown of trade that went along with the responses made by governments of the day.

So, Stiglitz has a good point.

His alternative is to argue for fiscal policy instead of monetary policy. This is heretical since economic orthodoxy has become beholden to monetary policy being the more efficacious and thus the preferred option. Fiscal policy is viewed as a desperate last resort. Hence the hand wringing and wailing during the whole stimulus debacle. All those orthodox economists being dragged kicking and screaming into a Keynesian policy world was not a pretty picture. Now, as things settle down somewhat, those same economists are all reverting back to type by arguing that we abandon fiscal policy and go back to using the good old monetary approach. This is, by the way, the same policy approach that pumped the economy so full of debt that we created the internet and real estate bubbles. But, hey, who’s counting those?

Yet fiscal policy is far more precise. It can be targeted exactly. And we know what it does. Spending on unemployment assistance is well known to increase demand. The relationship is tight, and as exact as can be in any economy. So too does spending on infrastructure. Fiscal policy just works. The problem is that the cost is entirely exposed for all to see: the deficit rises, and the national debt goes way up. This allows the weaker amongst us to cry wolf: they see the debt as a burden on the future and a possible problem to our creditors. They prefer either that we do not act and just suffer through a depression; or that we sweep the cost of our action under the monetary policy carpet where we can pretend there is no lingering cost at all. But nothing costs nothing. And cleaning up the mother of recessions cannot be cheap. Besides proper government investment is well known to bring long lasting returns to society. Like the internet whose research and development was a government project. Or the interstate road network. Or, more prosaically, keeping thousands of fire and police workers on the job to protect us all from calamity. Fiscal policy works.

And that’s what its opponents cannot abide. The idea that the government is actually good at providing certain services, at lower cost and with wider coverage, than any private provider could is too much for the more ideologically committed free market supporters to bear. So they do everything in their power to denigrate the effectiveness of fiscal policy. Most often without the benefit of any evidence they simply rant about it and attack the supposed increase in government in the economy.

Which brings me to my last point on this strange day.

Despite what you might have heard, the size of government has not increased. It has tracked along with the economy pretty much as usual. The way to look at this analytically is to project what government spending would be as a relationship with the economy’s normal growth path. Once we do that we see that the share of GDP represented by government spending is stable. It has not suddenly exploded and swallowed the economy whole as some of our right wing friends would argue. Not at all. The image of a huge government takeover of the economy comes from two associated phenomena. First: the private sector collapsed into a monumental funk due to its vast over indebtedness. Second: government revenues dropped like stone as a result of that collapse. Taxes dropped because incomes dropped. But government spending kept on rising. In relationship to our severely depressed economy it appears to have grown substantially. But compared with where it would be had we avoided the crisis it is normal.

Which is exactly what we want to happen. That steadiness of government spending helps offset the private sector collapse. Imagine where we would be had the government gone on an austerity kick to balance its books. Deep in depression. On second thoughts don’t imagine that. It’s too ugly to contemplate. Far too ugly.

Yet there are people who would send us down that hole.

What a strange world it has become when some serious people would wish us to be in a depression rather than spending money to save ourselves.

Very strange indeed.

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Don’t Ask, Don’t Act

The military may be having an issue with its notorious”don’t ask, don’t tell” policy, but the economy is having an even bigger problem of its own. Policy makers and media don’t ask how big the problem is. Then, if they discover what’s going on by accident, they don’t act proportionately. Don’t ask, don’t act is not the basis for success in today’s crisis. It is the basis for a goodly dose of Japanese disease, which is something we should all want to avoid like the proverbial plague.

The New York Times, belatedly, has an article describing the ills that have befallen Japan in the decade or so since its economy went through a massive bubble, and then began what appears to be a long term swoon into mediocrity. Long gone are the heady days of “Japan Inc.”. Instead the subtle erosion of deflation has sapped all the vibrancy from the economy and made it entirely dependent on exports for growth. That strategy is now souring as the Chinese continue their assault on world trade. Before long the Japanese look destined for second class status and much diminished lifestyles. If they are not there now.

The story in the NYT is truly saddening. The people interviewed respond with a combination of resignation and confusion. They mourn the lost vitality and the yawning gap between the new prospect and the opportunity, now gone, in the old. A whole generation of Japanese people are growing up in diminished and straitened times.

So what’s new?

Nothing.

Nothing at all.

In fact the problem I have, and it is very disheartening, is that it has taken this long for the media to take Japanese style sclerosis as a serious enough threat to the US that they assign time and energy to reporting it. Up until now the typical American response has been one of arrogant “it can’t happen here” avoidance. Even the NYT falls into that trap by quoting, with obvious approval, several analysts who make the point that the US economy is somehow more flexible and energetic. This will, they suggest, ensure we do not fall into the same hole.

But we already have.

The issue is not the basic flexibility of the economy. Yes the US is structurally more adept that Japan. It is less tied to old fashioned ways. But that is looking more and more like the days of yore and less like the real US we now live in.

Why?

Politics and a deficient elite.

The problems Japan created for itself were sourced in its inability to meet a huge crisis with an equally huge response. Instead it meandered through years of half measures, politically compromised and watered down policies, and weak steps taken but then retracted. It was an epic example of lack of willpower combined with a bureaucratic complacency. The lack of willpower resided in the political leadership – what there was of it – and its unwillingness to describe the situation properly to the voters. The consequence was that the voters had less tolerance for the necessary scale of policy response. This then fed into the bureaucratic malaise which was typified by constant mistaken advice, fear of error, fear of mockery if mistaken, and fear of over reaction. There was always just sufficient evidence to support weaker measures. That evidence was pounced upon with glee by politicians and bureaucrats wanting to avoid strong policy stands. And even when strong policies were introduced, they were withdrawn at the very first sign, however tentative, of an improvement.

The result has been a dithering and deliberate slippage into perpetual deflation and contraction. The people of Japan have been betrayed by the weakness of their leaders.

That anyone can look at this and not see the obvious and exact parallel now being acted out here is beyond me. I see it very differently: we are already well down the same path, and yet we are in denial of the future we are choosing. We have decided to be mediocre.

Why?

Because fighting our way out is both risky and expensive.

It is risky because leaders actually have to bet their reputations, which is not something one does in a corrupt and weak political system like ours. And it is expensive because the banks did a number on us that we have not seen for seven decades. We seem not to grasp how toxic that combination can be.

And that is our central problem. Far too many commentators evaluate the US ability to avoid the Japanese trap through a rosy prism of self reference and self congratulation. They look at the US circa 1960 and think we are still operating with that level of bold decision and skill. We are not. The evidence is the past two years. We dithered in precisely the same way as the Japanese did. Our policies were riddled through with compromise that undermined their efficacy. The prescriptions were calibrated to be the least we could get away with, rather than strong enough for a certain cure. We have constantly misdiagnosed the depths of the problem, and then under prescribed against that misdiagnosis. And our political system is slow, unwieldy, and corrupt. It is time we took off those rose colored glasses and looked reality in the face.

We are no different. In fact we may be worse given our self absorption.

Even Bernanke, who made a reputation lashing into the Japanese government for its constant addiction to half measures, finds himself having to issue watered down statements and commit to weak policies because of the political atmosphere and the willful misinterpretation of our position.

And then there is the economic team. Ugh. Summers, Geithner and the others are petrified of doing anything that might upset the “system”, by which they mean the banks and the credit markets. It is the public’s interest that counts here, not the banks. The notion that we might be handing on to the next generation a much diminished economy, with weaker prospects and stagnant standards of living, should motivate our leaders to face down and eliminate the opposition of the banks. After all, the potential loss of wealth for society as a whole is vastly greater from stagnation than it is from any short term hissy fit the markets might throw.

Which is why I view the so-called financial reform as such a failure. It was a strategic error not to take on Wall Street and cripple its political influence. Not only would such action have been a popular vote winner, it would have been sound economic policy too: for financial instability remains the premier and most often quoted reason to support weak policy. “We mustn’t rock the financial boat”. That would not be on our minds if we had sunk that particular boat – or rather boarded and taken it over -when the time was opportune.

So, looking back over the last two years, I see a constant stream of decisions and policies that mimic the Japanese situation exactly. Of course the two countries are very different, but so far their reactions have been similar. That does not bode well for the US. More to the point: the fact that we have such recent experience as the Japanese malaise to see and educate us, and that we have ignored that possible education, speaks volumes about our own shortcomings. We have spent two years worrying about a surge in inflation that is nowhere to be seen. We have worried endlessly about budget gaps that need to be closed, but yet. We focus on structural problems that have no meaning without the crisis being dealt with first. We quiver at the sound of a bank CEO talking about the foreclosure problems that the banks themselves created. We dither over tax cuts even though we know the impact they will or will not have. We obsess over ratios that are meaningless in our current context. We underestimate the crisis. We overestimate the impact of our tepid response. We run away from the banking industry even though it was the root cause of our problems. We focus on endless political campaigning rather than government. We capitulate to the power of cash in our electioneering. In short: we have become unable to lead or be led.

And, given the malaise we are slipping into, that worries me a whole lot. Because the end of that road is a very poor legacy to hand into the future. Very poor indeed.

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What Jobs?

The jobless recovery chugs along. That’s the conclusion we draw from today’s very poor jobs report from the government. Total non-farm payrolls dropped by 95,000 in September, which was much worse than the consensus and August’s loss of 57,000. This is simply not good enough. The fact that private sector employment edged up by 64,000 was swamped by the loss of 159,000 government jobs. Some of the loss in the public sector was the reduction of temporary census workers and was thus entirely expected. The really bad number came from state and local governments who are cutting their budgets rapidly in order to met artificially imposed limits. Most states have to run balanced budgets, so when tax revenues fall they start to cut services. That means workers are fired. In September this process cost us 76,000 jobs. That some analysts were surprised by this is astonishing: we have seen the wave of state level austerity measures picking up steam for a while. I doubt we have sen the worst yet.

Amidst this gloom was a small ray of light: the unemployment rate stayed constant. Unfortunately this resulted from a slowdown in people entering the workforce. The ratio of workers to population continues to shrink as more and more people of working age simply stop looking for work and drop out. This is a sad and damaging trend for the economy. The implication is that our potential to generate wealth is becoming more limited as people decide not to participate in the economy. Long term this places a limit on growth. Skills atrophy and motivation disappears.

Also buried in the report were other down notes.

The average workweek has stalled. It remained unchanged overall and the factory workweek actually fell. Obviously businesses are not picking up steam. Plus the average weekly wage was unchanged in September, which means that wages have grown only 1.7% in the last year.

None of these numbers is a disaster in itself. But none are good either.

Add them together and we paint a very weak picture. Far too weak for an economy ostensibly in the throes of a recovery. Something is amiss and needs fixing fast. Otherwise we will linger in this muddle for a long time.

How long?

I am shocked at the variation in the predictions of the projected length of our malaise. It seems every week another economist tries to outdo the record for pessimism. Now it is commonplace for analysts to speak of a decade or so before we return to full employment. Some talk of two decades. No one argues for a quick return to normalcy.

As I have stated here endlessly: we have the means to fix this. It doesn’t have to be this way. Yet there is no political will to implement the policies needed. This is not a just failure of economic theory. It is a failure of national willpower.

And that’s just sad. Why would we want to wallow in misery when we can recover if we want?

You tell me.

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Supply Or Demand: Where’s The Problem?

We are all familiar with those old supply and demand curves so beloved of economists. Ever since Alfred Marshall introduced them to the world, economists have deployed them to illustrate and to help solve every problem imaginable. Yet the current crisis has opened up a chasm between the two. There are some who believe our crisis is driven by a shortfall in demand – fix that and all will be well. There are others who decry such a view and call for the bolstering of the supply side. These supply siders typically call for the easing up of corporate regulations, the elimination of wage restrictions like the minimum wage, reductions in payroll taxes, additional corporate incentives to encourage investment and so on. Their idea being that by freeing up businesses to generate profits we will simultaneously create the environment in which business starts to hire workers. Thus our unemployment problem will go away. To the supply siders the fact that we still have high unemployment is evidence that the market is being prevented from working its magic.

As you all know by know I find the supply side argument so weak that it is non-existent. It is vapor born of a belief in magic. The facts destroy it in an inkling, yet it persists.

Here’s a little evidence:

Corporate profits are booming. That’s right. Even though the economy remains mired in a no jobs malaise, business is wallowing in cash. This implies that the connection between productivity, profit, and wages has been undone. It was this connection that provided the engine for middle class comfort and wealth throughout the post war decades. As productivity grew, usually from technology improvements and the displacement of workers by machines, the profit generated was shared with the remaining workers. Wages rose in line with productivity. The perfect example of this from history is American agriculture: we produce far more now than we did a hundred years ago and yet the number of farm workers has shrunk to almost negligible levels. The labor thus freed up from the land went into other sectors of the economy, providing the workforce for industrialization and then the service economy we now have.

But corporate profits are booming now, and wages are flat. Not only that, but corporations are not hiring despite being flush with cash. They are hoarding instead. And many are contemplating raising their dividend payout to shareholders.

This means that providing extra incentives is completely unnecessary. Companies already have cash to invest if they wanted to. We don’t need to give them tax breaks or reduce red tape. They don’t want to invest. Giving them more cash is just a waste of time.

Plus, many of the big companies – GM is a good example – are creating more of their profit abroad rather than here. There’s no harm – perhaps – in that as long as we don’t provide the cash with which they go and generate jobs abroad. American taxpayer money should be used to bolster employment here not in China and elsewhere. GM now employs 52,000 workers in the US. It has 32,000 workers in China. It now sells more cars in China than it does here. In the old days a boom in a foreign market meant more jobs here and a similar boom in exports. No more. That surge in GM sales in China is met from production based there. Yet American taxpayers bailed GM out to save jobs here. The cash we infused into GM has gone towards building facilities offshore. Yes the skeleton of the old Detroit based GM was saved. But that 52,000 workforce today compares with a peak of 468,000 back in 1970. Now that’s a productivity gain. Coupled, as it turns out, with a ton of offshoring.

So GM’s shareholders are seeing a very different picture than its workforce. The two groups have a totally different perspective on the economy.

Profits are booming. Dividends are rising – Wall Street is clamoring for higher payouts rather than higher investments. And jobs languish. Capitalism flourishes while the middle class swoons.

The supply side argument has no impact on any of this.

Cutting wages, as many of them suggest, merely inflates profit. There is no evidence that business would hire more workers even if wage costs dropped. Why? Because there are no sales to justify expansion. Companies like GM are content to meet demand from current capacity. Even a near term growth in demand would be met from extending work hours of the current workforce rather than adding more workers. In other words GM would drive up productivity rather than add capacity. It’s more profitable in the short term.

That is where we are. Business is raking in the cash and simply sitting on it. Rather than boost capacity, and rather than make more stuff, they prefer to hoard cash or pay it out in dividends. That’s their right of course. My point is not to decry dividends – at least not in this discussion – but to argue that we obviously don’t have a supply side problem.

All the evidence contradicts the supply side argument. Yet we still hear it in influential circles. I am sure the Chamber of Commerce would like taxpayers to ante up more goodies for business. I understand why those folks want to press the supply side argument. But anyone else? That baffles me.

Meanwhile, back in the evidence based world of reality, our economy continues to suffer from a severe shortage of demand. That’s why corporations are forecasting poor sales volumes. With households using their incomes to cut debt rather than increase consumption, and with middle class wealth under siege from collapsed house prices, negligible wage growth, cuts in benefits, and perpetually rising health care and education costs I just cannot see a reason why consumption will accelerate much near term. Our lack of demand is set to be with us for a while.

So we have a demand problem. This, of course, screams out for more stimulus. But with serious minded people like Bernanke now warning about the size of our deficits the chances we will solve the demand problem is diminishing. That leaves us looking at the likelihood of a long slow and perilous climb out of our malaise. Along the way we will forego a massive amount of wealth we will never be able to recoup. The loss will fall mainly on those in the middle whose opportunities will narrow well below what they were even a decade ago. We seem determined to diminish ourselves. Quite why, when we know how to stop the rot, I cannot say. Our demand problem is tractable and solvable. We know how to deal with it. We just lack the will. In a sense we have capitulated to the scope and size of the problem. We imagine it too large, so we succumb.

That’s a shame.

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