There will be no Weekly Commentary for the week of XXXXXX. Scott’s most recent commentary is available below.
Research on past recessions shows that downturns that are caused by financial crises tend to be more severe, longer lasting, and with more gradual recoveries than a typical recession. The current recovery is playing out largely as anticipated. The economy is improving, although the labor market remains weak. That should be no surprise to anyone. Monetary and fiscal policy efforts have helped minimize the downside, but have not – and could not – result in an immediate return to prosperity. The road to recovery will be long. It will take years to generate the number of jobs lost in the recession. Carping against those leading us out of this mess does not do anyone any good.
In the first quarter of the year, the economy appeared to be in freefall. Private-sector payrolls fell an average of 695,000 per month in 1Q09, a frightening pace. In the third quarter, the pace of job losses slowed to a 197,000 average, still high by historical standards, but sharply less than the pace at the start of the year. That improvement did not happen by accident.
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The Obama Administration has attempted to track the number of jobs created by the American Recovery and Reinvestment Act of 2009 (ARRA). Needless to say, this is an impossible task. The stimulus was geared toward supporting aggregate demand, which fuels job creation indirectly. Any estimate of jobs created will be inherently flawed since these jobs are inferred, not measured directly. However, look at the graph – clearly, jobs losses have moderated.
From the beginning, ARRA was not billed as a cure-all which would magically restore the economy to where it was before the crisis. The White House, the non-partisan Congressional Budget Office, the Federal Reserve, and other interested observers saw clearly that the stimulus would only minimize the downside, giving the private sector a chance to regain its footing. The unemployment rate is higher than projected, but that’s only because the downturn was more severe than estimated.
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As some argued back in February, the stimulus should have been larger and included more aid to the states, which are making things worse by slashing spending and raising fees and taxes (which is the last thing you want to do in a recession). In hindsight, it should have had more direct efforts to create jobs and focused more aid to small businesses, which typically play an important role in an economic recovery and have been severely restrained by the tightness in bank lending. Some have argued that a second stimulus may be needed, focusing on these areas. However, one dare not call it “stimulus” anymore.
A major issue in the economic downturn was the dramatic loss in confidence during the panic of a year ago. It takes a long time for confidence to be restored. Unfortunately, we’ve seen substantial criticism, even before President Obama took office. More recently, both the left and the right have piled on. The left is disappointed with the pace of recovery. The right is seeking political gain by claiming that the Administration’s policies have failed. Last week, there were calls from both parties for Treasury Secretary Geithner to resign. Such displays, no matter how unfounded, do not help build confidence in the financial system. Granted the financial sector bailouts have been messy and unfair, but we were in a severe crisis. The efforts of Geithner, as well as Fed Chairman Bernanke, have been considerable, helping to prevent a much more severe downturn.
Last week, the House Financial Services Committee approved a measure to audit the Fed more completely. This bill is supported by a majority of the House. In the history of bad ideas, this is one of the worst. The Fed is already audited, except, by law, its monetary policy and dealings with foreign central banks. Central bank independence is critical to economic prosperity. Hopefully, cooler heads will prevail in the Senate. If not, we really have something to worry about.
The federal budget deficit and the trade deficit are often referred to as the “twin” deficits. They’re not twins exactly, but they are related. The current account deficit, the widest measure of the trade gap, was cut in half in the recession, but now appears to be widening again. The federal budget deficit reached a record in FY09. The two deficits will play an important role in the economic recovery and the trade imbalance may become a bigger long-term problem for the U.S.
The current account deficit rose to a record $215 billion in 3Q06, over 6% of Gross Domestic Product, or $2.35 billion per day. The net trade dollar outflows don’t just sit there. They come back as net capital inflows and perhaps in weaker form (the net trade outflows match the net capital inflows and the dollar moves to equate the two). The current account deficit narrowed sharply in the recession, falling below 3% of GDP, as global trade collapsed. The good news is that the global economy is recovering, and along with it, world trade. The bad news is that the current account deficit is widening again. The 3Q09 current account data won’t officially be reported until December 16, but we have initial estimates of the trade deficit in goods and services for 3Q09, which is most of the picture.
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The dollar has been weakening over the last several years and the current account deficit has likely played a big part in that. A rising current account deficit means that net capital flows must rise accordingly to keep the dollar stable. The drop in the current account deficit over the last several quarters means that smaller net capital flows are required. Data available through the second quarter show that net capital inflows also fell sharply in the recession. However, there was some increase in the demand for dollars through the Fed’s swap lines with other central banks (effectively, troubled assets abroad were denominated in U.S. dollars, and efforts to defuse the situation contributed to an increase in the demand for dollars).
Another way to think about the net capital surplus (and in turn, the current account deficit) is the difference between national borrowing and national savings. The U.S. does not save enough or tax itself enough to fund business investment and the government. It relies on borrowing from the rest of the world. There’s nothing inherently wrong with this. It’s like borrowing money from a bank. The questions are, are you using the borrowed funds appropriately, are you able to make payments, and is the lender willing to roll over existing debt? In taking a personal loan from a bank, it’s a lot different if you use the money for a vacation as opposed to a college education. In the late 1990s, the U.S. had a rapid pace of business fixed investment, and those investments (mostly technology) paid off in the form of increased productivity. We were better able to service external debt. In recent years, the U.S. has borrowed money to fund war efforts in Iraq and Afghanistan and the Medicare prescription drug program, and to cut taxes.
The federal government ran a $1.417 trillion deficit in FY09, although the national debt rose by $1.885 trillion (the difference is that more money flowed into Medicare and Social Security trust funds than was paid out). Less than half of the $787 billion fiscal stimulus appeared in the FY09 deficit. The bulk of the increase was due to the recession and the financial rescue. Still, half of the fiscal stimulus will show up in FY10. Furthermore, under existing law, the budget deficit is expected to settle into a range of 3% to 3.5% of GDP after the economy has recovered and the temporary spending has faded.
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Campaigning for office, Barack Obama placed a strong emphasis on deficit reduction, but once in the White House, the depth and severity of the recession forced him to place that on the back burner. The last thing you want to do in a recession, or fragile recovery as the case may be, is to raise taxes, but taxes will have to be raised eventually to address the budget situation.
The economic data have been mixed in recent weeks. That’s something that typically happens in the early stages of a recovery, but it’s a big problem for the stock market. In equities, it’s all or nothing. Either the economy is booming or it’s falling apart completely. There’s no middle ground – but that’s where we are now. We did learn a few new things last week about the state of the labor market and what the Fed will be considering as its endgame approaches.
The unemployment rate jumped to 10.2% in October (vs. 9.8% in September), a larger increase than expected. However, much of the surge in the unemployment rate was for teenagers (which went from 25.9% to 27.6%) and young adults (which went from 14.9% to 15.6%) – that could reflect problems with the seasonal adjustment – or perhaps state budget strains are limiting the number of seasonal jobs available. Prior to seasonal adjustment, the number of unemployed teenagers and young adults actually fell. As anyone who has gone to college knows, there are many part-time jobs around and students count on those jobs for spending money or to make ends meet. In the current recovery, those jobs have become increasingly scarce. The unemployment rate for those aged 25 years and over edged up to 8.7% (from 8.6% in September and 5.3% a year ago).
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The job market difficulties for teenagers and young adults was apparent before the October numbers. Going forward, we may see policy efforts geared more directly toward job creation, but in the meantime, state and local budget pressures are likely to restrain job growth for the young.
Nonfarm payrolls fell by 190,000 in October. The decline was a bit larger than expected, but figures for the two previous months were revised lower. The pace of job losses has clearly moderated relative to the beginning of the year (payrolls average more than a 691,000 monthly decline in 1Q, vs. a -188,000 average over the last three months) and weakness has grown more concentrated within specific industries. Average weekly hours held steady at a low level in October. That’s discouraging. Normally, an increase in hours precedes an increase in new hiring. However, the hours data tend to be revised. Furthermore, hours did improve in manufacturing (overall hours and overtime hours). Productivity growth surged again in the third quarter, as firms did more with fewer workers. That hints that we may see some new hiring ahead.
Another encouraging sign was the increase in jobs in temporary help services, now up three months in a row (the October increase was the only “significant” pickup since the recession began, according to the BLS). A rise in temp help jobs would indicate that hiring is likely to improve.
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As was widely expected, the Federal Open Market Committee refrained from raising short-term interest rates last week, and policymakers signaled again that short-term interest would likely not be raised for some time. There was some speculation that the Fed could abandon is “extended period” language, replacing it with something similar, but spelling out more directly would conditions will lead to a Fed tightening. The Fed listed three conditions that would justify unusually low interest rates for an extended period. All of them are already incorporated in how economists view the Fed, but the listing of these conditions will make it easier for the financial markets. First, the Fed would have to see some increase in resource utilization rates – that means a lower unemployment rate. The second conditions is subdued inflation trends – that means core inflation would have to move significantly higher. The third is stable inflation expectations – as long as consumers and businesses expect low inflation, inflation is unlikely to be a problem. The Fed would have to work harder to wring higher inflation expectations out of the system once they become embedded. Now all we have to do is sit back and wait.
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