Smith Faculty Opinion Article	December 7, 2007
By Dr. Peter Morici, Professor of International Business E-MAIL WEB SITE

Economy Adds 94,000 Jobs in November
Subprime Crisis Biting, Fed Likely to Cut Rates

Today, the Labor Department reported the economy added 94,000 payroll jobs in November, after posting a 170,000 gain in October. Economists expected a 70,000 gain in November, and my published forecast was 88,000.

The grip of the subprime mortgage crisis is apparent, as jobs growth has slowed to much less than the 115,000 necessary to keep even with labor force growth at one percent a year. Slow jobs growth, along with the shortage of business credit, declining home prices, and falling industrial production, indicate the risk of a recession is clearly above 50 percent. Either the economy has already entered a recession or the risk that a recession will begin soon exceeds 50 percent.

Strong productivity growth, reported earlier this week, indicates the Federal Reserve can aggressively cut interest rates to combat a recession without risking inflation. Strong productivity growth permits most businesses to absorb somewhat higher wage and energy costs without accelerating general inflation.

Weak Wage Growth, Inflation and Federal Reserve Policy

Residential construction, financial services, and manufacturing displayed weakness, indicating growth is slowing significantly in the fourth quarter and further raising prospects for an interest rate cut at the December 11 meeting of the Federal Reserve Open Market Committee.

Wages increased a moderate 0.8 cent per hour, or 0.5 percent. Moderate wage and strong labor productivity growth should help keep core inflation in check, and this should help abate Federal Reserve concerns about core inflation as it navigates the fallout from the subprime crisis.

Overall, the pace of employment growth indicates the economy is expanding much more slowly than the 4.9 percent annual GDP growth posted in the third quarter. Fourth quarter growth should be no more than 1.0 percent, and the downside risks for that forecast are ominous.

Growth could easily be negative in the fourth quarter, and economists define a recession as two consecutive quarters of negative growth

The unemployment rate remained steady at 4.7 percent in November. However, these numbers belie more fundamental weakness in the job market. Discouraged by a sluggish job market, many more adults are sitting on the sidelines, neither working nor looking for work, than when George Bush took the helm. Factoring in discouraged workers raises the unemployment rate to about to 6.4 percent.

The bottom line is that labor markets remain slack enough to keep wage increases down. Productivity growth should accommodate those increases and rising energy prices, the Federal Reserve can focus on managing the credit crisis.

Further interest rate cuts are a virtual certainty.

Betting on Stocks in Troubled Times

The stock market came through the subprime crisis reasonably well. Though still off its highs, stock prices should weather a slowdown or mild recession reasonably well. With growth remaining strong in China, India and elsewhere in Asia, many large U.S. companies earn significant profits from investments across the Pacific. The U.S. stock market will remain erratic but display surprising buoyancy in the face of continued markdowns in the financial sector. We simply dont know how deep the damage runs at Citigroup and other big financials.

The financial sector will remain troubled, even as other large caps offer opportunities to gains. Citigroups price to book ratio is around 1.35, and well below 2, which is considered a buying point for financials. This indicates investors remain skeptical about the veracity of Citigroups asset valuations, as they should be.

As Citigroup remains a bellwether for U.S. banks, focusing on the sound big capsfor example those outside the troubled auto patchshould be the winning strategy.

Manufacturing, Construction and the Quality of Jobs

The economy is adding jobs for college graduates, especially those with technical specialties in finance, health care, education, and engineering. However, for high school graduates without specialized skills or training, jobs offering good pay and benefits remain tough to find. For those workers, who compose about half the working population, the quality of jobs continues to spiral downward.

Historically, manufacturing and construction offered workers with only a high school education the best pay, benefits and opportunities for skill attainment and advancement. Troubles in these industries push ordinary workers into retailing, hospitality and other industries where pay often lags.

Construction employment fell by 24,000 in November after falling 9,000 in October. Housing lost 7,000 jobs, and nonresidential construction lost 17,000. Most of the new job opportunities will be in government infrastructure, commercial projects and industrial facilities, where tightening capacity should ignite activity. Tightening state and local budgets, caused by falling property values, remains a worry for public infrastructure projects.

Durable goods manufacturing lost 1,000 jobs, owing to the auto industrys woes and broader competition from Asian imports, benefiting from undervalued currencies and other subsidies, limits employment.

In November, manufacturing has lost 11, 000 jobs, and over the last 87 months manufacturing has shed more than 3.3 million jobs. Were the trade deficit cut in half, manufacturing would recoup about 2 million of those jobs, U.S. growth would exceed 3.5 percent a year, household savings performance would improve, and borrowing from foreigners would decline.

The dollar remains too strong against Chinese yuan, Japanese yen and other Asian currencies. The Chinese government artificially suppresses the value of the yuan to gain competitive advantage, and the yuan sets the pattern for other Asian currencies. These currencies are critical to reducing the non-oil U.S. trade deficit, and instigating a recovery in U.S. employment in manufacturing and technology-intensive services that compete in trade.

Peter Morici is a professor at the University of Maryland School of Business and former Chief Economist at the U.S. International Trade Commission.