Thursday, July 29, 2010

Policy stuck in the doldrums? Consumers think so

Consumer confidence: that extremely coincident, but often cited as leading consumer spending, indicator of really just jobs growth during recovery has struck again, down near four points to 50.4 in July.

During the recovery phase of the business cycle, confidence is highly correlated with jobs growth. The chart below illustrates the recession and recovery path of consumer confidence since 1973. The 2007-2009 recovery in confidence - I mark the technical end of the recession at June 2009 but the exact month is not important- is tracking earlier "jobless recoveries": 1990-1991 and 2001.

The problem is, we can’t afford (economically, that is) a jobless recovery this time around!

Consumers are not feeling very good these days, with good reason! I like the way Dean Baker tersely puts it:
It is incredible that economists and economic reporters still focus on consumer confidence. Consumers are actually spending at a relatively high rate. (The savings rate is well below historic levels.) The problem is that they lost $8 trillion in housing wealth. The housing wealth effect on consumption is something that economists have known about for more than 60 years. It's too bad that they seem to have forgotten and so have the reporters who cover this issue.

The problem is not confidence. It is a lack of money.
That is why consumers are not spending more and will not anytime soon regardless of how happy they are.
Rebecca: In my view, it's (more precisely) the lack of money during the recovery of a balance sheet recession (Richard Koo of Nomura developed this idea). In order to lower household leverage (i.e., pay down debt burden) the easy way, a significant increase in nominal income is needed, wage growth. And a significant increase in wage growth only occurs when the demand for labor is rising...precipitously. Only then will workers have enough pricing power (in aggregate) to demand sufficient wage gains in order to deleverage the safe way (not through default).

Recently, economists have been testing the theory that structural unemployment is rising ( post here). In my view, focusing on structural unemployment is just a policy excuse. It gives policymakers a reason to mitigate the large(r) policy impetus that is needed. Bad idea.

Richard Koo argues that structural unemployment is not rising:
When the deficit hawks manage to remove the fiscal stimulus while the private sector is still deleveraging, the economy collapses and re-enters the deflationary spiral. That weakness, in turn, prompts another fiscal stimulus, only to see it removed again by the deficit hawks once the economy stabilises. This unfortunate cycle can go on for years if the experience of post-1990 Japan is any guide. The net result is that the economy remains in the doldrums for years, and many unemployed workers will never find jobs in what appears to be structural unemployment even though there is nothing structural about their predicament. Japan took 15 years to come out of its balance sheet recession because of this unfortunate cycle where the necessary medicine was applied only intermittently.
Rebecca: Although this may appear to be a normal jobless recovery, recoveries from which consumers have prospered in the past through debt accumulation, it's not. Jobs growth is key to the deleveraging cycle; and with forecasts of the unemployment rate in the 8%-10% range through 2012, still 7% in 2013, the prospect of sufficient private-sector income generation looks very gloomy.

Rebecca Wilder

Tuesday, July 27, 2010

Another illustration of the struggling US labor market: teen employment

This recession caused a severe disruption in the labor market for teen employment. The chart below illustrates the unemployment rate alongside the employment-to-population ratio for those aged 16-19 years.

The visual is quite striking: at the peak of the business cycle, December 2007, the difference between the employment-to-population ratio over the unemployment rate was roughly 17.3 percentage points (pps). In June 2010, however, the difference narrowed fully to -0.3 pps.

This is a growing problem for our youngest workers. In April, the OECD issued a press release (featuring related research) calling for government support for "youth" unemployment across the member countries:
The report’s message is that governments need to do much more to help young people. Some have benefitted from broader efforts to help the unemployed. But more policies are needed that target young people, especially those with poor education and skills. These “at-risk” youngsters now account for between three and four out of ten of all young people in the OECD and are at risk of long-term joblessness and reduced earnings.
Back in June, the LA Times argued that young workers in the US, workers aged 16-19, are being displaced by college graduates and other skilled workers; in better times, these workers would not take jobs normally filled by teenagers.

The recession has been particularly cruel to those aged 16-19. However, the chart above illustrates that the downward trend is both secular and cyclical, as the employment-to-population ratio has trended down since 2000.

At the turn of the century, the employment to population ratio for teens aged 16-19 years was 45% (average over the year), and just 35% in 2007. There’s a problem here. Workers aged 16-19 generally earn low hourly wages (unless they invented Facebook, of course); and in some cases, even the small monthly sum supports family income. And as the OECD report suggests, often young workers do not qualify for unemployment insurance when displaced.

The Federal Reserve’s latest Survey of Consumer Finance (2004-2007) indicates that much of the mean income growth is accumulating at the top 10% of the income distribution (Table 1). Spanning 2004-2007, the bottom 20% experienced 3.4% income growth, while the top 10% saw near 20% gains. And every bracket in between saw either negative or near-zero income growth.

Here’s the bigger picture: teen income is likely becoming increasingly important to the families at the bottom of the income distribution, while the jobs are becoming increasingly scarce. Without entry level jobs, aggregate work experience starts to decline, which translates into lower skill overall; and then productivity declines. Bad stuff.

Rebecca wilder

Monday, July 19, 2010

The answer is the domestic private sector

Jim Hamilton used the Federal Reserve Flow of Funds data to present a question: who will buy “the additional $8 trillion in net new debt that would be issued over the next decade under the CBO's alternative fiscal scenario.”

I thought that the analysis was curious and too "partial". If one believes the deleveraging story, then domestic private saving is going to rise. The answer to his question seems pretty obvious…

Let’s say that consumption goes back back to the 1960’s-style 62% of GDP, then get ready for household Treasury accumulation. Spanning the decade of 1960, households held on average 30% of the Treasury's liabilities.

A simple example illustrates my point. If the Treasury’s book doubles to $16.5 trillion, and the household share of Treasury holdings rises to 30% – as of Q1 2010 the stock of Treasuries outstanding was just about $8.3 trillion (see L.209 here) – then households will accumulate over $4 trillion of those new Treasuries. That's just households, and holding all else equal (like financial funds and businesses).

So the answer is: the domestic private sector.

Rebecca Wilder

Wednesday, July 14, 2010

Quandary about the Fed outlook

Paul Krugman beat me to this...but here's my take:

The FOMC members are asked to give their assessment of “the rate to which each variable would be expected to converge over time under appropriate monetary policy and in the absence of further shocks”. The 2012 forecast – the time frame that would provide enough of a buffer for the 1 year to 1.5 years lag in policy – includes persistently high unemployment and anemic headline and core inflation.

My quandary: all merits of monetary policy aside, doesn’t their forecast by definition imply inappropriate monetary policy? At the very minimum, it implies inappropriate fiscal policy.

Rebecca Wilder

Tuesday, July 13, 2010

Inflation expectations are jointly falling?

As a global economic slowdown is very likely underway, inflation expectations are being watched closely.

David Beckworth comments on inflation expectations in the US using the Treasury Inflation-Protected Securities (TIPS) market (he commented previously on an alternate measure of inflation expectations at the Federal Reserve Bank of Cleveland). He argues that the aggregate demand effect is the dominant factor dragging US inflation expectations.

However, inflation expectations are falling globally. The chart above illustrates the 10-yr break-even expected inflation rates for the UK, Germany, Canada, Italy, and the US using their respective inflation-indexed bond markets (TIPS in the US). Notably, declining inflation expectations is not specific to the US.

Of interest, the onset of the downward trend across break-even inflation rates coincides with policy announcements in Europe:
  1. the bailout of Greece, and
  2. the European Financial Stability Facility (EFSF)
Inflation expectations in Italy has taken the biggest hit, falling 55 basis points since May 2 2010 (as of June 12, 2010). But the trend has been broad-based, hitting even "sticky" UK inflation expectations.

The chart illustrates the same 10-yr inflation expectations rates as in the first chart but indexed to the start of 2010 for comparison.

Market participants in the UK, Germany, Canada, Italy, and the US reacted similarly to the European policy measures. The most likely reason for the drop in Eurozone country inflation expectations - Germany and Italy - is the direct adverse impact on aggregate demand of fiscal austerity measures and the indirect impact via trade. In the UK, Canada, and the US, the decline in the euro will have lagged and adverse impacts on relative trade patterns.

However, beyond the adverse impact on expected export income, it does seem that markets over-reacted a bit in the UK, Canada, and the US. Because the UK, Canada, and the US have one thing that Germany and Italy don't: fully sovereign policy. Domestic policy, monetary and fiscal, can offset the effects of the European crisis.

Rebecca Wilder

Friday, July 9, 2010

Relative employment is shifting

Today Statistics Canada released impressive June employment figures from its Labour Force Survey (LFS). In case you missed it, the April gains, +109,000 new jobs, set a record. And the June gains, +93,000, were nearly as spectacular. (Note: the unemployment rate for Canada in the chart to the left is through May, not June)

Canada’s labor market bounced back fully and then some. Spanning May 2008, when job loss became the norm as the global credit crunch started to take hold, to December 2009, 259k jobs were lost. However, this year through June 2010, the labour market added back 308k jobs, which is +50k new jobs during the expansion or roughly +500k in "US".

I’m afraid that the US labour market is a far different story. To regain employment lost since June 2008, 6.9 MILLION jobs need to be added back to the employment figures of the current population survey.

I digress. Every time I hear the Canadian statistics, I immediately multiply the statistic by 10 to control for the population differential; thus, +109,000 new jobs in Canada would be equivalent to roughly +1,090,000 in the US, all else equal. In translating the job gains into “U.S”, I understand the magnitude with more clarity – not very different form learning a new language by translating the words in your head.

Is +50k Canadian still equivalent (roughly) to +500k US? The short answer is pretty much – the 2009 US/CAN relative population was just over 9; but in thinking about relative population figures, I stumbled upon a rather remarkable relative employment figure between the US and Canada. The Canadian employment picture has become much much brighter than that in the US over the last decade.

The chart illustrates US employment relative to that in Canada, Germany, and Japan (Germany and Japan are there for comparison). As you can see, employment in the US relative to our neighbor to the North has dropped markedly. There is a secular downward trend in US employment relative to that in Canada.

And it’s not just a population issue. On a population-adjusted basis, the employment figures in Germany, Canada, and Japan are trending upward relative to that in the US - and for Canada, this is a secular trend rather than a cyclical phenomenon.

The US employment picture is fading compared to other developed nations. And remember, Japan and Germany saw near-zero annual population growth spanning the years 2000-2009.

Rebecca Wilder

Friday, July 2, 2010

Crib notes for G7 unemployment rates

Unemployment rates across the G7 illustrate a broad-based labor recovery. Fantastic - now let's get to the underlying stories.

(Note: The US is the first to release the June 2010 figures. All other unemployment rates, except for the UK, are current as of May 2010.)

Germany, France, and Italy
: Germany's labor market is ostensibly improving, as the unemployment rate continues its descent. However, don't be fooled by these statistics: the German government is subsidizing firms to drop hours in lieu of outright layoffs.

And across the Eurozone, fiscal tightening will drive unemployment rates up; look at what fiscal austerity got Ireland.

The United States: Spencer, as usual, gives his insightful take on the US employment release: not good. The real problem is that the US private sector is sitting on an iceberg of debt; and the only way to avoid the economic pain of large-scale default is by dropping leverage via nominal income (wages) growth.

Workers have NO pricing power. How can they when the employment to population ratio dropped 0.2% to 58.5% in June? Note that 58.5% is consistent with a 1970's-1980's style labor force with fewer females working. Wages are going nowhere until the labor market improves substantially, and the private sector can't do it atop the iceberg of debt. We need the government's help there.

UK: The pace of the labor market deterioration is slowing (not evident in the unemployment rate, which dates to just March, but more evident in the claimant count). However, the unemployment rate is expected to rise as the government's self-imposed austerity measures are put into play. Furthermore, look for weakening labor conditions to push further default amid big household leverage.

Canada: The labor market is strong as illustrated by the marked improvement in the employment figures. Expansionary policy was very likely too expansionary, and the Bank of Canada has initiated its tightening cycle. The economy is hot right now.

Update: A reader notes that April GDP was released a couple of days before this article published. Indeed the economy posted 0% economic gain in April - not hot over the month. However, the jobs picture remains solid on a month to month basis, as May 2010 employment gains were +25,000 and all (in net) in the "full time" category. Being a small-open economy, much of Canada's economic outlook depends on external factors, especially the outlook of the US economy.

Japan: The labor market is weak, as most industries posted job losses in May 2010 (access Japanese labor data here).

Rebecca Wilder