Category Archives: Wage Growth

One small picture says it all

Standing about 2-3 inches tell and 1-2 inches across, a small chart in page A6 of this last weekend’s Wall Street Journal, sums up our economic predicament. The article, Japan Firms End Yearslong Price Freezes, reports that a growing number of businesses are reporting that labor shortages and increasing demand are leading to price increases. The chart shows a pleasing, gradual but clear rise in prices in Japan over the last year, now approaching 1%. This is important.

Though 1% inflation sounds measly for Japan it could be a short-term boon. The nation has been bedeviled for over 20 years with meager growth, stagnant wages, and tepid productivity growth. In fact some economist suggest that Japan’s fall from economic grace that preceded the West’s financial crisis of 2007, demonstrated early what would happen in a deflationary economy with massive quantitative easing. QE did not drive Japan’s economy to growth; it does not seem to have done so in the west, though it may have saved it from crashing and now we see how it’s persistence has led to financial and investment dislocation.

The news all around us is quite positive:

  • Most recent quarterly GDP in US was restated up to 3.3%, almost unimaginable a year ago.
  • EU economic growth rates are forecasted to grow above their recent meager levels in recent OECD reports
  • ‘Currency war’ reports appear in the press infrequently, even though global trade remains torn by the idea that the US wants a stronger negotiating position (for what is, essentially, a very small part of the US economy).

But inflation remains stubbornly low almost everywhere. If Japan soon demonstrates ongoing growth in inflation, and global commodity prices push up, the result will be a wave of input price increase around the world. Some months later the US and more clearly the EU will see producer price increase and so consumers may see pass-through increases. This will encourage central banks to continue their march toward normality.

The downside with a return to inflation: Debt servicing becomes more onerous as interest rates increase in response to inflation increases. As such, governments and businesses that stocked up on cheap debt during QE and the near-zero interest rate period will have to squirrel away more cash to pay their interest charges. This will reduce what’s available for investment, thus slowing down growth.

The cycle feeds on itself so it can sometimes stabilize or other events can kick it into maddening swings. We will just have to see what happens. It may depend on how fast inflation growth returns. But for now, that little picture on page A6 looks very nice in a chilly autumn morning.

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US Economy Not Out of the Woods – Beware the Hype that Says Otherwise

You would think that, given the press coverage, much of the US economy is making great progress.  Apparently interest rates will continue to rise in response to the Fed’s feeling that the economy is doing well; near-full employment, GDP recovery, stock market growth, bond and dollar strength and all that jazz.  But these data points mask some other troubling items that suggest any recovery will likely be lopsided and even short-term based.  You only have to look under the covers at, say, unemployment, credit, or housing.  

  • Unemployment: despite low levels of reported unemployment many economists are concerned that the participation rate is at very low levels.  In other words, there is a lot of unemployed that is not being reported in the official KPI.  Some economists suggest that real effective unemployment maybe nearer 6 or even 9 percent.  Thus the result of economic growth may not lead to wage price pressure so soon, since the participation rate may improve the so pick up some of the slack.  This is good news overall but not if the Fed believes that they need to head off wage inflation likely to appear due to pressure on a really tight labor market
  • Consumer Credit:  Student and auto loans are running ahead at full steam, and mortgage debt continues apace.  While many firms have cleared their balance sheets of bad debts, consumers – which drive a massive part of the US economy – are amassing debt easier than looking for a hot meal.  On February 27th the US print edtion of the Financial Times carried an article, More US car owners behind on loan payments than at any time since 2009.  What is realy funky here is that if you go into the market now to look for a new or used car, you will be offered a loan for repayment now past the 5 year window.  It used to be that 5 years was the maximum and this was only a few years ago.  Now you can get a loan over 6 years or longer.  So the consumer part of the market is building up a nice bad-debt situation.
  • House prices: Yes, house prices have recovered, so we are told, to near pre-crisis levels.  So that part of the market is secure, right?  Wrong.  Home ownership is a its lowest levels in years.  It turns out that the buyers that are driving up prices are investment firms and conglomerates that are snapping up property then leasing them to. So first time buyers are being squeezed out.  The housing market has not recovered in the way we would want it or need it to for effective sustainment.

So we have a very lopsided economic recovery.  It is not stable and even the strong shoots are some challenging weeds hiding just under the covers.  Even if Trump can delivery on +2% GDP growth, I am not altogether sure that woudl mask the issues that are building up today.

When Connecting the Dots Disagrees with the Data: Something Fishy in the Housing Market.

My original title for this blog was going to be just, “Something Fishy in the Housing Market”. But I changed the title once I realize that this blog was more about how conclusions, based on data change, once triangulation of that data is sustained.
First the good news from the Global Dailty Economic News alert from the World Bank’s Economic Prospects Group October 26, 2016:  Advanced Economies, US:

“New U.S. single-family home sales rose 3.1 percent (m/m, saar) to 593,000 in September, from downwardly revised 8.6 percent decline to 575,000 sales in August, and above the market expectations of a 1 percent decline. On a yearly basis, new home sales jumped 29.8 percent in September, according to the Commerce Department. Demand for new homes remains strong, reflecting employment growth, wage gains, positive demographics and mortgage rates near all-time lows.”

So it seems good news. The economy is functioning well, yes? 

Now the bad news Bloomberg July 28, 2016: Homeownership Rate in the U.S. Drops to Lowest Since 1965.  

The U.S. homeownership rate fell to the lowest in more than 50 years as rising prices put buying out of reach for many renters.

The share of Americans who own their homes was 62.9 percent in the second quarter, the lowest since 1965, according to a Census Bureau report Thursday. It was the second straight quarterly decrease, down from 63.5 percent in the previous three months.

Now the analysis that emerges when you overlay the two data points.

Per the World Bank, it seems that demand for housing is up. But per Bloomberg, the new housing is not actually housing that is sold. It so happens that many new (and old) houses are being acquired – that’s true. But who is buying them? It turns out, according to Bloomberg, that large swathes of the housing sector are being snapped up by cash rich organizations that are then renting the property. 

Actual home ownership is down – which is caused by a number of factors. One is that many cannot afford the first-time costs, either through lack of a job, low wages, or a bad credit score. And as more and more housing is purchased and turned into rental property, the pricing for those houses increasing, making the challenge harder.

So the increased demand for new housing is not a sign of increased wages and strong employment, as the World Bank suggests. It’s very likely the investor class, flush with cash from quantitive easing and cheap loans (due to historic low interest rates), are snapping up property and then renting them.

The two articles, taken separately, lead to one conclusion. But when you link the two, a new analysis comes forth. What will happen next? I can foresee several items.

We should now expect socially progressive typesto suggest that the market is working against the middle-class, and that government should force mortgage firms to lower standards and let those with weaker credit scores and low paying jobs to obtain loans for these new houses. The problem is with QE and near-zero interest rates. It is ruining numerous markets and distorting all manner of normal investor practices, such as capital investment for future productivity and now the housing market. 

There is a possible silver lining to all this rental action going on. A third factor is dragging the US economic growth down. It is the reduction in the American worker’s willingness to move to where the jobs are:

“Census Bureau data show that the annual rate at which people relocated to a different state — which is often an indicator of job changes — fell to between 1.4% and 1.7% of the overall population since the Great Recession. That contrasts to interstate migration rates at or close to 3% from 1947 through the middle of the last decade, with only a few exceptions.”  LA Times, June, 2016

If more and more people set up shop in a rental property, it might lead to an increased ability to move. It is possible this may happen and this should help the labor market and the economy – that is assuming there are jobs worth moving for.

But there is also a cloud related to the drop in home ownership. It will likely lead to more instability in the nuclear family, the so called bedrock of modern society. The nuclear family has been under attack since the 60’s as wave after wave of progressives have taken up power and decided they know what’s best for us, even more than we do ourselves. The declines in home ownership will likely undermine the nuclear family again. But we cannot afford, we must not, adjust policy to accommodate the need to encourage the proportion to middle class. We should focus on opportunity and growth instead and let the invisible hand do its work.

A US Recession Would Require Fed to Raise, not Reduce, Interest Rates

I read with alarm this morning, as I tucked into my poached eggs and sausage at the China World Hotel, Beijing, a CNBC article where a previous Fed economist (Marvin Goodfriend) was quoted as saying the Fed would have to target negative 2 per cent interest rates if the US entered a recession.  See “Why the Fed might need to cut rates to minus 2 percent: Former Fed economist.” 

At this point there are few signs the US will hit a recession any time soon though the US economy is certainly in what might be considered the down-slope from the last growth ‘peak’. Private firms operating margins are being cut which is about the only non-maladjusted metric (as in no government intervention) we can relay on as a sign.  

But Mr Goodfriend’s point is logical: in some of the past recessions the Fed has had to push interest rates 2 per cent below long term rates. As it currently stands the 10 year interest rate is at around 1.5 per cent. So logically we should expect a record breaking negative 2 percent interest rate. But this is not going to work.

At near zero interest rates many ofthe economic and behavioral assumptions related to how the market works are distorted and are not working. If negative or near interest rates were a solution to growth and recovery, why hasn’t the US, UK, Europe or Japan bounced out of the current stagnation? With near zero or negative interest rates there are numerous distortions that suggest more of the same medicine would be, to say the least, daft and ineffective:

  • Private industry does not open up their strategy play-books due to changes in interest rates. Business strategy precedes interest rates. A change in interest rates simply signals to the CFO or Treasurer that there might be alternative funding models for those strategies that need funding. In other words, if there are no strategies for growth, lowering interest rates does not seem to create them. Thus capital investment seems impervious to interest rates at such low levels.
  • Cheap loans fund bad business habits. Where private firms have exploited near zero interest rates is to take out loans to fund both stock buy-backs and fund what I might call non-productive M&A. Stock buy-backs improve earnings per share (EPS) and thus reward executives according to their bonus scheme. But there is no change in the productivity of those firms led by those executives. As such the EPS metric is creating a drug that executives are finding hard to resist but it will rot their, and our, teeth. Second, so much M&A (which is running at record levels), is not actually tied to business strategy developed over time to drive improved performance. So much M&A is short-term or even knee-jerk planning from firms as opportunities to take out a competitor, muddy the market, or upset someone else’s strategy. Thus the companies being acquired are not necessarily sick or struggling. The cheap cash is being used ineffectively and not in accordance with creative destruction.

If you throw on top of this quantitive easing (QE) you can see that the vast majority of the free and cheap money goes to the well-off and investor class and this goes to explain the worsening inequality we see in the US.  And top this lot off with anti-business political policies designed to:

  • Slow growth of start-ups
  • Favor the hegemony of very large, atrophied private business
  • Force direct reallocation of funds to the less well-off versus policy to encourage expansion of employment of the same resources at a more productive and therefore higher paying level

One can see that the current medicine was only good insofar as it stalled the collapse of the financial system some 5 or more years ago. The medicine has gone off; it is now as much a poison to the economy.

Should the US fall into recession the Fed should urgently raise interest rates 2 percent. This will cause the following to happen:

  • Private industry will look at the data and start to behave more logically. Funding choices will start to resemble normal conditions. To grow a business normal business strategy will return to the fore. Capital investment over cheap M&A should start to look more desirous.
  • Stock buy-backs will slow thus forcing a more useful employment of the relatively cheap money. The stock market rally will peak and the economy will start to right itself. Not immediately but over a business cycle money will again flow to firms that grow through innovation and productivity, not intervention and policy.
  • Other sovereign nations will have to respond with similar interest rate increases since the dollar will appreciate rapidly and so the Fed could lead the gradual return to normality around the world.

The challenge will be with government for it will and does today, get in the way. Polices, outlined above, are actually preventing growth. If we don’t remove them, the success of the Fed path, to raise rates to head-off a recession, will be at risk. But this risk is smaller than what will happen if the Fed cuts rates as Mr. Goodfriend suggests.

Alarm Bells Ringing: Productivity Dives and Credit Card Debt Soars in US; Private Investment in China Falls

Today’s US print edition of the Wall Street Journal was not a happy bunny. Articles on the front page (Productivity Fall Imperils Growth), inside front cover (Plastic Is Back In Style), and back cover (China’s Private Sector Withers as Growth Slows), pretty much portrayed a state of global gloom.

First, productivity. Readers of this blog will know my thoughts about productivity. Advanced economies are struggling to demonstrate productivity improvements and so our collective long-term growth prospects are falling. We can’t just adding more hours to get back to reasonable economic growth and pay off our debts- we need to become more productive.

Increasing red tape, political gridlock or uncertainty, uncompetitive tax rates, quantitive easing, low interest rates, and a regulatory framework that dissuades both business risks (in banking) and start-ups and capital investment (private sector investment) are crimping opportunities for productivity improvements.  Capitalism is being strangled.  I might even go as far to say that the technology or the IT industry is also struggling to demonstrate the value it can bring to business. Whatever the case, productivity is critical to our long-term success and few governments or leaders are even talking about it.

Second, credit card debt. From an economic cycle perspective the US economy is past the high-point of the recovery and most likely moving down toward the next down-cycle. Though you would not know this from the economic data. However, consumer debt is suggesting a bit of a problem is bubbling away.

After the financial crisis US consumer debt (and private sector debt, for that matter) took a bit of hiatus. We all took time off to unload some of our liabilities. However the report suggests that all the debt cycles are now trending up: mortgage debt ‘recovered’ first, then student loans, automobiles, and finally now we see credit card debt on the increase. What is interesting though is that this growth is mainly associated with those of us with a subprime or low credit score. In other words, that part of the consumer population that is most at risk of non-payment are stoking up on credit. The percent of the population with high credit scores has remained the same over the last ten years.  

Finally, China. The news is not good. The article clearly only refers to a few individual company interviews but does report on some economic data, for what it is worth. Private sector capital investment in things like factories and vehicles grew 2.8% in 1H 2016, compared to 30% in the last 10 years. June was the first time it actually fell since China started tracking the data in 2004.

Public sector spending has been very high recently, partly as an attempt to replace the loss of private investment and also to support of the needed investment to convert the Chinese economy from a supply-based manufacturing oriented economy to a demand-based consumer model. This will take years; all the while public sector debt is pilling up. The article also highlights a government official who suggests that falling productivity is part of the problem.

So with just one coffee out of the way, I was already not feeling good about the world. Off to go cook breakfast for the boys. I hope they have a better time back at school today!

Freedom or Socialism- Which You Want? ¬†Guess which you Have?

There was an interesting article in today’s US print edition of the Wall Street Journal. It was titled, “New Labor Law Curbs Small Forms’ Plans” and it explains how new rules introduced by the National Labor Relations Board are causing small business to curtail growth plans. These are the very growth plans this country needs in order to drive fair paying, not low paying, salaries and private (as opposed to public) sector growth. So what are the new rules?

The National Labor Relations Board referees workplace disputes and oversees union-organizing elections. The new rules are designed to hold businesses more accountable for labor law violations and to help workers unionize more easily.

So here is he choice we have. We can: 

  • Increase the cost and administration burden on small companies through extra administration to comply with additional red tape and bureaucracy on a system already over burdened, 
  • Seek to create tension between workers and owners, given workers are already protected and can get another job if they want to

The result of the above rules will increase costs and thus reduce the opportunities for growth and new hiring, and might even lead to contraction of jobs and growth.

Or we can avoid such polices and instead remove red tape or streamline current rules to help reduce costs. This will create more profits, avoid patronizing unions, and seem to encourage fair with-profits reward schemes for all employees, if anything.

But this story is typical of the battle playing out in many Western economies. Though the press suggests we are operating under capitalism and that capitalism inset working, this is not capitalism.  We are not working in a free society; we are under the cudgel of heavy, ongoing, pernicious government intervention. These government agencies need to write rules to justify their existence; new rules mean new hires to them. And they generate no wealth for anyone, other than the government elite. 

I wish we had a candidate for November that stood up for smaller government. A leader that would vow to leave office after four years with a smaller US federal budget than when they began office. Now that would lead to the change we need, and return us to the same freedom this country was built on.  

Brexit: Mainly the Right Decision for Mostly the Wrong Reasons?

The title of this blog captures how I would summarize Brexit, the U.K. Referendum to leave the European Union. After watching the story unfold intently from afar, the visiting and immersing myself in local dialog over the last three weeks, the tittle of this blog captures the essence of the situation.

The reality is much worse, again for the wrong reasons. Let’s first look at the decision.

  • Technically the process and the method by which the UK will leave the EU has not even started and won’t until October.
  • How the divorce will shape up will be subject to protracted negotiation. Clause 50 has never been tested. Also the UK is a large economy, with several advantages, namely its own currency and exchange rate (to buffer any risks) and the city of London financial center.
  • There are numerous related dominoes that make scenario planning more useful than predicting one single outcome. This includes the foolish attempt by the leader of the SNP who wants to turn Brexit, a UK referendum, into something about Scotland.  

Now let’s look at the pre-Brexit political, or should I say marketing, spin:

  • Neither those for Remain or Leave debated honestly. They could not even agree common terms of reference; how much money the UK gave to the EU versus how much was given back in terms of subsidies, could not be agreed. 
  • There was significant scaremongering from the Remain campaign, led by the generally liberal or progressive establishment, supported by economic groups including the IMF. Yet a minority of smart investors who have continually beaten the pundits like the IMF identified great opportunity for the UK. One wonders if much of the ‘economic advice’ was more political than practical. No act by the EU to penalize the UK would be countenanced long since a) it penalizes both sides, and b) the very arguments used by the EU for open, friendly, collaboration would be exposed for what they really are- unelected dictatorial bureaucrats.
  • The Leave campaign led their supporters in the belief that immigration would stop with a vote for Brexit, as if humanitarian aid were an EU and not a national or moral concern.  There are significant immigration challenges for all countries; remaining or leaving the EU is not central to the real issue.  

The bottom line is therefore the Brexit vote was more an emotional vote, and nor a rational vote.

Finally let’s look at the post-Brexit situation on the ground. In no particular order:

  • The leader of the Scottish National Party wants to reposition the UK referendum as if it was a Scottish referendum. Since the majority of scots voted ‘remain’, and since the UK voted ‘leave’, surely it means Scotland is being forced against its wishes? Utter rubbish. London also voted to ‘remain’- does London cede from the Union?
  • The Prime Minister, David Cameron, is to step down. This is a great shame as he is a good negotiator and politician. He has fallen in his own sword, a rare political act these days. By comparison, the socialist leader of the Labour Party, equally culpable in losing the ‘remain’ vote, has no idea where his sword is. I am not so sure he has one. But 24 hours later he is being stalked by his own resigning front and back benchers.
  • The pound has taken a beating. This was to be expected. It will recover soon, though it may take time. The recovery against the euro will be dependent on the stability of the euro, not the fragility of the U.K. economy. Spanish and other elections in the next 12-24 months will sort this out.
  • U.K. stocks took a beating but already they are recovering, whereas continental markets are suffering more pressure. This is a leading indicator of sentiment that will again show up in currency values in the next year or so. 

And to top it all off you have to understand the irony of Brexit. In the 1960s France vetoed the UK (twice!) and prevented it from joining the Common Market. And this was only 20 odd years after the close collaboration during the Second World War. De Gaulle felt that the UK’s demands for joining would weaken France’s position, and they would have. The result was that aspects of the Common Market and EEC developed without direct UK input and one could argue therefore that the groundwork of the EU was therefore weakened, and the UK never felt central to the initiative.  This was to haunt the experiment as Britain never really forgave France this veto.

More recently dissatisfaction with ever closer European integration was rejected. Initially countries would vote “no” and reject the the EU Constitution changes. Then those same countries were pressured to re-vote in order to get a “yes”. Finally the Dutch and French rejected the Constitution and it was killed off. However the EU continued. Fifty years after De Gaulle’s unfortunately selfish veto hobbled Europe, it is the UK that triggers what could be the straw that breaks the EU. Fair play, and what irony.

The divorce won’t be clean. There will be much acrimony and hard, complex negotiation. The City of London will be diminished initially, until the cracks in euro fracture and break open.  The U.K. economy will reflect increased short-term uncertainty across the global economy, yet will bounce back towards more positive UK growth within a year. Again, as the euro struggles, so the pound will benefit.  

But in truth no one wins with Brexit. The U.K. will suffer more short term; europe, the EU and euro zone in the longer term.  Everyone will be poorer for Brexit. The reality is that we need a rethink for how Europe wants to live and work together. An unelected bureaucracy is not the answer. We need a new model. The real valuable question is not what happens to the EU now; the visionary question should be “who will document, discuss and lead the ideal EU II framework?”   Let’s demand our moribund politicians work for us and work for a future, not argue over the trappings of an idea that died years ago.