Smith Faculty Opinion Article

By Dr. Peter Morici, Professor of International Business E-MAIL WEB SITE

June 4, 2009

Friday’s Jobs Report: Unemployment and Stock Prices Heading Up

Friday, the Labor Department will report employment data for May. In April, the economy lost 539,000 jobs, and the consensus forecast is for another 550,000 jobs lost in May. My forecast is for a 561,000 loss.

Unemployment was 8.9 percent in April, and professional prognosticators expect it to surge to 9.2 percent for May. My forecast indicates it will peak between 10 and 10.5 percent the end of this year or in 2010. Factoring in workers that have left the workforce and those who work part time but would prefer full-time jobs, the unemployment rate is greater than 16 percent.

From December 2007 through April 2009, the economy lost 6.0 million jobs. Construction and manufacturing shed 1.2 and 1.6 million jobs, respectively, as the credit market meltdown and trade deficit wrecked havoc on residential construction and manufacturing. In more recent months, layoffs spread to commercial construction, finance, retail sales, and other sectors.

The economy contracted at more than a 6 percent average annual rate in the fourth quarter of 2008 and first quarter of 2009—that’s a big number for a two quarter observation.

Construction was up in March and April, and May data, due July 1, will indicate whether a definite positive trend has been established.

Manufacturing remains lower than a snake’s belly, because GM and Chrysler are in bankruptcy, and non-auto manufacturing is caught between flagging consumer demand and exports from China subsidized by an artificially suppressed Chinese yuan. Also, China has beefed up subsidies to export recession wrought unemployment.

After a brief surge in January and February, retail sales and consumer spending slumped in March and April, deflating hopes of some analysts for a second quarter recovery in GDP growth.

Consumer spending and business investment should pickup in the second half, and the recovery will begin in either the third or fourth quarter. The timing is too uncertain to predict with any real confidence, though headline seeking economists will tell you they have uncovered the divine narrative of future economic history.

The stimulus package should raise GDP by about 2.5 percentage points in 2010 and 2011 and add about 3 million jobs. Most of those jobs will be temporary, and 3 million jobs will not be enough to replace the more than 7 or 8 million that will be lost before the recession ends.

A surge in business investment and a modest recovery in auto and new home sales could add more jobs, but my electronic Ouija board won’t give up such secrets of the Cosmos as of yet.

In all of this, the biggest uncertainties are first, how much the American consumer will come back, after saving more during the first half and refinancing mortgages to rebuild household balance sheets; and second, the length, scope and consequences of the production shutdowns at General Motors and Chrysler resulting from both seasonal factors and their Chapter 11 filings. President Obama’s men promise an orderly retreat in Detroit but no one has any meaningful historical experiences on which to base projections.

The uptick in May car sales demonstrate the consumer still has some appetite for a bargain, but so far everyday retail purchases remain subdued. Also, activity at new home showrooms and the surge in purchase contracts written by realtors on existing homes show buyers are responding to the lower prices on properties and lower interest rates.

Nevertheless unless the Obama Administration addresses the structural problems that caused the crisis—management issues at the big banks and huge trade deficits on oil and consumer goods from China—the recovery will accomplish only moderate GDP growth.

Simply, as the economy expands, businesses will struggle to find enough capital, and the trade deficits on oil and consumer goods from Asia will balloon. Those will create a shortage of demand for U.S. goods and services and new layoffs once the stimulus spending ends.

The trade deficit, which at the peak of the economic expansion exceeded 5 percent of GDP, is a huge drain on demand for U.S.-made goods and services. Imports exceeding exports by 5 percent require Americans to consume 105 percent of what they produce to keep the economy going. Essentially, China, Saudi royals and other foreign sovereigns and private investors have been buying the bonds that permit Americans to borrow to consume more than they produce. Will consumers and foreign investors be that silly again—President Obama’s policies, if not his words, indicate his economic brain thrust is banking on just that.

Oil imports and consumer goods from China account for 90 percent of the trade deficit. President Obama’s near term energy policies address mostly the more efficient use of domestic coal and natural gas and alternative energy sources to generate electricity, and will do little to quickly reduce oil imports. Increasing mileage requirements for cars and trucks will not have a meaningful impact on the value of oil imports for several years.

President Obama, like George Bush, is emphasizing diplomacy to persuade China to stop subsidizing exports, undervaluing its currency through currency market manipulation and blocking imports. It is unlikely that Timothy Geithner will be any more successful in prying open China than was Henry Paulson.

Stock prices will surge because companies have slashed payrolls and other costs so much that even moderate growth will deliver significant profits, and many U.S. companies are poised to exploit growth in Asia, through sales and investments there. In the materials and energy sectors, U.S. firms will benefit from the upward pressure on commodity prices stimulated by renewed Asian growth.

Simply stock prices fell twice, once on the recession and then on doubts about the banks.

A surge in bank profitability was just about guaranteed by generous low cost Fed lending at the short end of the yield curve, FDIC guarantees on bank bonds and stress tests for banks that looked more like a social promotion than serious final exams.

Professors Summers and Bernanke, knowing that their jobs depend on the progress of their students, graded the banks on a curve. Hence, the May surge in stock prices reflected renewed confidence in the old saws “too big to fail,” and “if the students need passing grades for the Professors to keep their job, then by God the students will get passing grades.” For all but the most crippled money center banks, cheap cash from the Fed and FDIC guaranteed bonds translate into upward pressure on stock prices.

Since Memorial Day, stock prices have continued strong, because the broader market smells recovery, and a good nose it has. The labor market may stink and Chrysler and GM creditors paid dearly for the President’s political debts to organized labor, but the American capital market—a.k.a. the NY Stock Exchange, NASDAQ, et al.—is poised for summer surge in anticipation of the second half economic recovery.

In Friday’s jobs report the key variables to watch are:

Jobs Creation. May 8 the Labor Department reported the economy lost 539,000 payroll jobs in April, down from 699,000 in March. However, a significant part of this improvement was a surge in temporary Census Bureau positions. The private sector still lost more than 600,000 jobs. In recent weeks, new unemployment claims have remained stubbornly above 600 thousand, and my forecast is 561,000 jobs lost in April.

Even if the economic contraction slows in the second and third quarters, job losses above 400,000 appear likely for the next several months. Job losses will top 7 or 8 million before the hemorrhaging ends.

The economy continued to contract at a 5.7 percent annual pace in the first quarter. The numbers would have been much worse but for a January surge in consumer spending.

Weak data for consumer spending and retail sales in February, March and April, notwithstanding, some analysts expect consumer spending to rebound soon.

Through April, the retail sector continued to bleed jobs, but if consumer spending is indeed strengthening, May retail jobs figures should show some leveling and point to recovery.

Unemployment. In April, the unemployment rate, as computed by the Labor Department, was 8.9 percent, and is expected to rise to at least 9.2 percent for May. According to my forecast, unemployment will reach 9.9 percent by the end of 2009.

Since President Bush took office, more adults have chosen not to seek employment owing to worsening labor market conditions. If labor force participation today were at the same level as when President Bush took the helm, the unemployment rate would be about 11 percent. The difference is discouraged workers that have quit looking for work that the Labor Department does not count when computing the unemployment rate. Add in part-time workers who would prefer full-time employment, and the hidden unemployment rate is above 16 percent.

Business vs. Government Payrolls. In April, government employment rose 72,000, as overall payroll jobs contracted 539,000. This indicates the private business economy shed 611,000 jobs.

Construction. In April construction lost 110,000 jobs. Since construction employment peaked in September 2006, the sector has lost 1.4 million jobs.

Those losses indicate the housing recession, credit crisis, high oil prices, and China trade deficit are infecting the long-term growth prospects of the entire U.S. economy. American businesses are simply not hiring or building for the future in the United States, and this bodes poorly for the level of GDP growth in the second half of 2009 and beyond.

Productive assets not put in place during the recession will not be available to produce goods and services after the slump ends. The U.S. economy will be on a permanently lower growth path thanks to mismanagement of the credit crisis, energy policy and trade with China and other Asian developing countries pursuing mercantilism strategies.

Retailing. Retail trade has shed 766,000 jobs since November 2007, and lost 64,000 jobs in March and 47,000 jobs in April. Again look for a jump in retail employment if the recession is ending.

Finance and Insurance. During the economic expansion finance and insurance, along with technology sectors offered some of the best new job opportunities, outside of health care and technology-related activities. Since December 2007, finance and insurance has shed 277,000 jobs, and 25,000 in April alone.

Manufacturing. Over the last 109 months manufacturing has lost 5.2 million jobs. The dollar remains overvalued against the Chinese yuan and other Asian currencies, and the large trade deficit with China and other Asian exporters is a key factor pushing down U.S. manufacturing employment.

To keep the value of the yuan low against the dollar policy, the Chinese government intervenes in currency markets, selling yuan for dollars and other western currencies at a discount from a market determined price. The yuan is at least 40 percent undervalued, and provides a like amount subsidy on Chinese exports into the United States and on Chinese products competing with U.S. exports in China and other markets around the world.

Many U.S. manufacturers find it easier to locate production in China and elsewhere in Asia than to add jobs in the United States to produce goods. U.S. made goods must scale considerable trade barriers and compete against subsidies provided by undervalued currencies in China, India and elsewhere in Asia and regulated fuel prices.

Were the trade deficit cut in half, manufacturing would recoup at least 2 million of the 5.0 million jobs lost since 2000. U.S. GDP growth would be in the range of 3.5 to 4.0 percent a year instead of 2.5 to 3 percent expected as the economy resumes growth in 2010. Real wages would rise briskly.

At his confirmation hearing Treasury Secretary Geithner acknowledged China is manipulating its currency and promised to work toward a realignment of currency values; however, the Administration has backed off this position.

President Obama must get behind a policy to reverse the trade imbalance with China, or preside over the wholesale destruction of many more U.S. manufacturing jobs. These losses have little to do with free trade based on comparative advantage. Instead, they derive primarily from currency practices that make Chinese products artificially cheap in U.S. and other markets and Chinese restrictions on imports. These Chinese policies deprive Americans of jobs in industries where they are truly internationally competitive.

In the end, without assertive steps to fix trade with China, as well as fix the banks and curtail oil imports, the Bush years will seem like a walk through the park compared to job and real income losses Americans will suffer during the Obama years. 

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