Sunday, 23 of July of 2017

Economics. Explained.  

No Commentary This Week — Vacation

Hi all,

Seems to be a rather quiet time.  Decided to take a few days off.  Back in full swing next week.

All the best.


Can Women Solve the Problem?

July 14, 2017

The economy’s speed limit has slipped from 3.5% during the 1990’s to 1.8% today.  That growth rate can be estimated by adding the growth rate of the labor force to the growth rate of productivity.  We have long argued that with so many baby boomers retiring that little could be done to stimulate growth in the labor force during the next decade.  Hence, the only viable way to boost potential growth was via increased corporate investment which would boost the growth rate of productivity.  But in a recent speech Fed Chair Yellen suggested that the U.S. could adopt policies designed to encourage women to work, boost labor force growth, and lift potential GDP growth in the United States.  Could potential growth rebound to the 3.5% pace seen in the 1990’s?  Perhaps.

Potential GDP growth represents the sum of two numbers – the growth rate of the labor force and the growth rate of productivity.   In the 1990’s the labor force was zipping along at 1.5%, productivity growth was 2.0%.  Add them up and the economy’s potential growth rate was 3.5%.  Today labor force growth has slipped to 0.8% while productivity has slowed to 1.0%.  Thus, potential growth today is 1.8%.  But it does not have to be 1.8% forever.  Policy measures can help.

With respect to the labor force side of the equation, when baby boomers retire they drop out of the labor force.  Given that the boomers will continue to retire for another decade we have argued that there is little chance for a pickup in the growth rate of the labor force.  Janet Yellen disagrees.

Citing a Cornell University study released in 2013 by Francine Blau and Lawrence Kahn, Yellen pointed out that between 1990 and 2010 the participation rate for women rose dramatically throughout Europe, but in the U.S. it was essentially unchanged.  For example, the non-U.S. average climbed from 67% in 1990 to 79.5%.  Furthermore, the pickup in female participation was widespread – Canada, Australia, France, Germany, Italy, and Spain all experienced a double-digit gain. Meanwhile, in the U.S. the female participation rate edged upward from 74% to 75.2%.  The survey included 22 countries.  In 1990 the U.S. ranked #6.  By 2010, it had dropped to a shocking #17.  Participation rates elsewhere not only caught up with the U.S., they surpassed it.

This result was no accident.  It came about because of family friendly policies designed specifically to incorporate women into the labor force.  Some women choose to drop out of the labor force to raise their offspring.  But others would like to work but the financial strains of doing so prevent that from happening.  Those women represent untapped potential GDP growth.

  1. Paid maternity leave.  In the U.S. employers must provide 12 weeks of unpaid maternity leave.  Elsewhere, maternity benefits were longer and usually paid.  During the survey period outside the U.S. these entitlements rose from 37.2 weeks to 57.3 weeks.   Having the right to get their job back almost certainly raises the job prospects who those women who leave the labor force during childbirth.  But several questions arise.  Does offering such a benefit encourage women to remain out of the work force longer than they otherwise would?  Does the employer benefit?  During leave time the employers must pay the person on leave as well as her replacement.  This raises the expected cost of employing women of childbearing age.
  2. Right to work part time. During the survey period many European countries adopted policies that give women the right to demand a change to a part-time work schedule.  Clearly this is a benefit to women.  But would employers be less willing to hire in a woman in the first place given that at some point down the road she could demand such a benefit?
  3. Publicly provided child care services. Such a benefit would be attractive to women because it reduces the cost of working outside the home.  And, unlike the part time benefit, it would not increase the employer’s cost of hiring women for part time positions.

Yellen noted that “policy differences – in particular, the expansion of paid leave following childbirth, steps to improve the availability and affordability of childcare, and increased availability of part-time work – go a long way toward explaining the divergence between advanced economies.”  And, “if the United States had policies in place such as those employed in many European countries, female labor force participation could be as high as 82%.”

But will higher labor force participation rates among women boost potential GDP?  Ms. Yellen thinks so. A Fed study concluded that between 1948 and 1990 the rise of female participation contributed about 0.5% per year to the potential growth rate of real gross domestic product.

So what might happen to potential GDP growth?  Suppose for a moment that the policies described above by Fed Chair Yellen boost labor force growth by 0.5%.  Let’s further assume that the combination of Trump’s proposed corporate tax cuts, repatriation of earnings, and a reduced regulatory burden boost productivity growth by 1.0% (which we have described in previous articles).  These policy changes would raise potential GDP growth by 1.5% from 1.8% currently to 3.3% or so.  That puts it back close to the glory decade of the 1990’s.  The economy may not be able to grow quickly today, but it can surely resume vigorous growth if our policy makers in Washington can get with the program.

Stephen D. Slifer


Charleston, S.C.

GDP Forecasts

July 14, 2017

First quarter GDP growth was revised upwards from an initially published growth rate of 0.7% to 1.2% and, most recently to 1.4%.   A lot of the weakness came in inventories which rose by just $2.6 billion in the first quarter compared to $49.6 billion in the first quarter.  Thus, the inventory component subtracted 1.2% from GDP growth in the first quarter.  The other source of weakness was consumption spending which rose just 1.1%.  However, consumer fundamentals remain strong.  The gains in employment are generating income which gives consumers the ability to spend.  Consumer debt is very low in relation to income.  The prospect of tax cuts later this year is boosting the stock market to a record high level.  The increase in stock prices is boosting household wealth.  Consumer confidence is at a multi-year high.  Gas prices remain low and are falling.  Interest rates remain low and are rising very slowly.  Consumer spending will not remain subdued for long.

We have edged our second quarter GDP forecast down from 3.0% to 2.8% based a soft retail sales report..

We continue to expect a pickup in growth for the final two quarters of the year.   First,  falling prices in 2014 and 2015 hit the manufacturing sector hard — the oil patch in particular — and negatively impacted GDP growth the past couple of years.  But with gasoline prices having risen, the earlier drag on GDP growth has disappeared as drillers are re-opening previously closed wells.

In addition, the 22% increase in the value of the dollar between October 2014 and the end of last year hit the trade sector hard — export firms in particular.  But the dollar has actually declined slightly in the past six months so this drag on the economy has also disappeared.

Likely cuts in both individual and corporate income tax rates along with simplification of the tax codes, combined with repatriation of corporate earnings currently locked overseas and huge investments in spending on infrastructure  should help.  Expect GDP growth of 2.8% in the second quarter of this year with 2.8% and 2.7% growth in the final two quarters of the year.

The recent price war amongst wireless phone providers and falling prescription drug prices caused by Trump-led intimidation of the industry has slightly lowered the trajectory for inflation.  However, the economy is at full employment and there is a shortage of available homes and apartments in the housing sector so inflation does, in fact, seem headed higher as the year progresses.   As a result we expect the core CPI to rise  1.9% this year and 2.5% in 2018 (versus 1.7% currently).  Slightly faster inflation will push long-term interest rates higher with the 10-year hitting 2.42% by the end of 2017 and mortgage rates climbing to 4.2%.

With GDP expanding at a pace at roughly its potential and inflation only slightly above its target, the Fed will feel compelled to continue on a path towards gradually higher interest rates.  It needs to do so to get itself into position to lower rates when the time comes, but it appears to have the luxury of taking its time.  We expect one more rate hike in 2017 which would put the funds rate at 1.25% by the end of this year.

Stephen Slifer


Charleston, SC


Consumer Sentiment

July 14, 2017

Consumer sentiment for July fell 2.0 points .from 95.1 to 93.1 after having declined 2.0 points in June. The 98.5 reading for January was the highest level of confidence thus far in the business cycle.

Richard Curtin, the chief economist for the Surveys of Consumers, said “The data indicate that hopes for a prolonged period of 3% GDP growth sparked by Trump’s victory have largely vanished, aside from a temporary snap back expected in the 2nd quarter.  The declines recorded are now consistent with just above 2% GDP growth in 2017.”

Based in part on the expectation of major changes in policy likely to be implemented by the end of the summer, we expect GDP growth for 2017 to be 2.5% and 2.8% in 2018.  We expect the economic speed limit to be raised from 1.8% to 2.8% within a few years.  That will accelerate growth in our standard of living.We expect worker compensation to increase 4.0% in 2017 vs. 3.0% last year. The core inflation rate should be reasonably steady this year at 2.0% thanks to a price war in the cell phone industry and falling prescription good prices caused by intimidation from President Trump.   However prices should rise by 2.5% in 2018.  Such a scenario would keep the Fed on track for the very gradual increases in interest rates that it has noted previously.  Specifically, we expect the funds rate to be 1.25% by the end of 2017 and 2.0% by the end of 2018.

The high level of  confidence was evident in both the current conditions and expectations components.

Consumer expectations for six months from now declined from 83.9 to 80.2.

Consumers’ assessment of current conditions rose  in July from 112.5 to 113.2 .

Trends in the Conference Board measure of consumer confidence and the University of Michigan series on sentiment move in tandem, but there are often month-to-month fluctuations.  Both series remain at levels that are consistent with steady growth in consumer spending at a reasonable clip of  about 2.5% in the quarters ahead.

Stephen Slifer


Charleston, SC

Retail Sales

July 14, 2017

Retail sales declined 0.2% in June after having dropped 0.1% in May.    During the course of the past year sales have risen 2.8%.  The economy has hit a soft path in the past few months.  However, as explained below, there is no reason to think it will be very long-lasting.

Sometimes sales can be distorted by changes in autos which tend to be quite volatile.  In this particular instance the unit selling rate for car sales slipped during May and June and, as a result, the car sales component of retail sales (which includes sales of used cars and trucks as well as parts) rose just 0.1%.  Clearly, this component has had a rough couple of months.

Fluctuations in gasoline prices can also distort the underlying pace of retail sales.  If gas prices rise, consumer spending on gasoline can increase even if the amount of gasoline purchased does not change.  Gasoline sales declined 1.3% in June after having dropped 3.0% in May.

Perhaps the best indicator of the trend in sales is retail sales excluding the volatile motor vehicles and gasoline categories.  Such sales declined 0.1% in June after having been unchanged in May,  but such sales rose 0.4% in both March and April.   In the last year retail sales excluding cars and gasoline have risen 2.6%.  It has slowed, but nothing to get excited about yet.

While there has been a lot of disappointment about earnings in the traditional brick and mortar establishments (like Macy’s, Sears, K-Mart, and Limited) the reality is that they need to develop a better business model.  The action these days is in non-store sales which have been growing rapidly. Consumers like the ease of purchasing items on line.  While sales at traditional brick and mortar general merchandise sales have risen 1.7% in the past year, on-line sales have risen a steamy 9.2%.  As a result, their share of total sales has been rising steadily and now stands at 10.9% of all general merchandise sales.  That percentage has risen from 10.3% at this time last year.

We do not believe the recent softness in retail sales represents a change in trend for a variety of reasons.  First of all,  existing home sales are selling at the fastest rate thus far in the cycle.  Consumers do not purchase homes and cars — the two biggest ticket items in their budget — unless they are feeling confident about their job and the future pace of economic activity.  If home sales are holding up well, car sales should  rebound in the months ahead.  As noted earlier, car sales are a particularly volatile category.

Second, the stock market is at a record high level.  That increase in stock prices boosts consumer net worth.

Third, all measures of consumer confidence are close to their highest level thus far in the business cycle.

Fourth, cuts in individual income tax rates are likely later this  year.

Finally, the economy is cranking out 170 new jobs every month which boosts consumer income.  Consumers have paid down a ton of debt and debt to income ratios are the lowest they have been in 20 years.  That means that consumers have the ability to spend more freely and boost their debt levels if they so choose.

Thus, in our view, the recent weakness is sales is not a harbinger of a consistently slower pace of spending in the months ahead.  We continue to expect GDP growth to quicken to 2.5% in 2017 and 2.8% next year.

Stephen Slifer


Charleston, SC

Industrial Production

July 14, 2017

Industrial production rose 0.4% in June after having risen 0.1% in May and 0.8% in April.  Over the past year this series has risen 2.0% and is clearly on the upswing.

Breaking industrial production down into its three major sub-components,  the Fed indicated that manufacturing production (which represents 75% of the index) rose 0.2% in June after having fallen 0.4% in May. During the past year  factory output has risen 1.2% (red line, right scale).  It has clearly hit bottom.

Mining (14%) output rose 1.6% in June after having risen 1.9% May.   Over the past year mining output has risen 9.9%.

Most of the recent upturn in mining has been concentrated in oil and gas drilling activity  which rose 6.8% in June after having climbed 3.8% in May.  It has now risen for thirteen consecutive months.  Over the course of the past year oil and gas well drilling has risen 101.8%.  The number of  oil rigs in operation continues to climb.

Utilities output  was unchanged in June after having risen rose 0.8% in May.  during the past year utility output has fallen 2.2%.

Production of high tech equipment rose 0.8% in June after having climbed 0.7% in May.  Over the past year high tech has risen 8.0%.   The high tech sector sector appears to have gathered some momentum during the past several months. This may be an early indication that the long slide in nonresidential investment may be coming to an end which would, in turn, signal some upturn in productivity growth.

Capacity utilization in the manufacturing sector rose 0.1% in June to 75.4% after having declined 0.4% in May.  It is still below the 77.5% that is generally regarded as effective peak capacity.

Stephen Slifer


Charleston, SC


July 13, 2017

The Producer Price Index for final demand – intermediate demand  includes producer prices for goods, as well as prices for construction, services, government purchases, and exports and covers over 75% of domestic production.

Producer prices for final demand rose 0.1% in June after having been unchanged in May.  During the past year this inflation measure has risen 2.0%.  It has been bouncing around in a range from 2.0-2.5% for the past five months.

Excluding food and energy producer final demand prices rose 0.1% in June after having risen 0.3% in May.  They have risen 1.9% since June of last year.  This series has not climbed above the 2.0% mark since April 2014 but it is obviously getting close.

This overall index can be split apart between goods prices and prices for services.

The PPI for final demand of goods rose 0.1% in June after having fallen 0.5% in May. These prices have now risen 2.2% in the past year (left scale).  Excluding the volatile food and energy categories the PPI for goods rose 0.1% in both May and June.  During the past year the core PPI for goods has risen 2.1% (right scale).  It steadily accelerated for more than a year but has leveled off in recent months.

Food prices jumped 0.6% in June after having declined 0.2% in May  Food prices are always volatile.  They can fall sharply for a few months, but then reverse direction quickly.  Over the past year food prices have risen 1.2%.

Energy prices declined 0.5% in June after having fallen 3.0% in May.  Energy prices have risen 4.3% in the past year.  These prices are also very volatile.

The PPI for final demand of services rose 0.2% in June after having climbed 0.3% in May.  This series has risen 1.9% over the course of the past year (left scale).  The 2.1% year-over-year increase for May was the largest 12-month increase in this services index since January 2015.  Changes in this component largely reflect a change in margins received by wholesalers and retailers (apparel, jewelry, and footwear in particular).  The PPI for final demand of services excluding trade and transportation rose 0.3% in May after having declined 0.1% in May.  It has climbed 2.2% during the past year which is the largest 12-month increase thus far in the business cycle..

Because the PPI measures the cost of materials for manufacturers, it is frequently believed to be a leading indicator of what might happen to consumer prices at a somewhat later date.   However, that connection is very loose.

It is important to remember that labor costs represent about two-thirds of the price of a product while materials account for the remaining one-third.  So, a far more important variable in determining what happens to the CPI is labor costs.  With the unemployment rate currently at 4.4%, the labor market is beyond full employment.  As a result, wages pressures are sure to rise, and once that happens firms are almost certain to pass that along to the consumer in the form of higher prices.

Some upward pressure on labor costs, rents, and medicare care will further increase the upward pressure on inflation.  We expect the core CPI to increase 2.0% in  2017 and 2.5% in 2018.

Stephen Slifer


Charleston, SC

Initial Unemployment Claims

July 13, 2017

Initial unemployment claims fell 3 thousand in the week ending July 18 to 247 thousand.  Because these weekly data can be volatile the focus should be on the 4-week moving average of claims (shown above), which is a less volatile measure.  It rose 2 thousand to 246 thousand.  The late February average of 234 thousand was the lowest level for this series since April 14, 1973 — 44 years ago!

Ordinarily, with initial unemployment claims (the red line on the chart below, using the inverted scale on the right) at 246 thousand  we would expect monthly  payroll employment gains to exceed 300 thousand.  However, employers today are having difficulty finding qualified workers.  As a result, job gains are significantly smaller than this long-term relationship suggests and are currently about 170 thousand.

With the economy essentially at full employment, employers will have steadily increasing difficulty getting the number of workers that they need.  As a result, they will be forced to offer some of their part time workers full time positions.  This series is still a bit high relative to where it was going into the recession.

They will also have to think about hiring  some of our youth (ages 16-24 years) .  But the youth unemployment rate today is the lowest it has been in 20 years so there are not many younger workers available for hire.

Finally, employers may also consider some workers who have been unemployed for an extended period of time.  But these workers do not seem to have the skills necessary for today’s work place.  Employers may have to offer some on-the-job training programs for  those whose skills may have gotten a bit rusty.  But even if they do, the reality is that the number of discouraged workers today is quite low — toughly in line with where it was going into the recession.

The number of people receiving unemployment benefits declined 20 thousand in the week ending July 1 to 1,945 thousand.  The four week moving average rose 2 thousand to 1,949 thousand. In mid-May the 4-week average came in 1,916 which was the lowest level for this 4-week average since January 12, 1974 when it was 1,881.   The only way the unemployment rate can decline is if actual GDP growth exceeds potential.  Right now the economy is climbing by about 2.0%; potential growth is  projected to be about 1.8%.  Thus, going forward  the unemployment rate will continue to decline quite slowly.

Stephen Slifer


Charleston, SC

Gasoline Prices

July 12, 2017

Gasoline prices at the retail level rose $0.04 in the week ending July 10 to $2.30 per gallon.   In the low country of South Carolina gasoline prices tend to about $0.25 below the national average or about $2.05. The Department of Energy expects national gasoline prices to average $2.32 this year — almost exactly where they are currently.

As the price of gasoline declined the economy got a tailwind. However,  oil prices today are 2.0% higher today than they were a year ago.  Hence, the tailwind effect on the economy has run its course but has not yet turned into a headwind.

Crude oil prices are currently about $45.00 mark.  The Energy Information Agency predicts that crude prices will average $48.95 in 2017.  As crude oil and gas prices have leveled off the underlying inflationary pressures have become more apparent.

The number of oil rigs in service dropped 79% to 404 thousand  after reaching a peak of 1,931 wells in September 2014.  However, the number of rigs in operation has actually rebounded in recent months to 952 thousand.  Thus,  higher crude oil prices are encouraging some drillers to step up slightly the pace of production.

While the number of oil rigs in production has been cut by 79% between late 2015 and the middle of last year, oil production has declined much less than that.  Since that time the rebound in oil prices has encouraged oil firms to step up the pace of production and at 9,397 million barrels it is now only about 2% lower than its June 2015 peak pace of production which was 9,610 thousand barrels.  We should match that record pace of production by early next year.  The Department of Energy expects production to average 9.3 million barrels per day in 2017 and 9.9 million barrels next year.

How can the number of rigs go down but production be relatively steady?  Easy.  Technology in the oil sector is increasing rapidly which allows producers to boost production while simultaneously shutting down wells.  For example, output per oil rig has increased by 27% in the past twelve months.  Put another way, a year ago some frackers could not drill profitably unless crude oil prices were about $70 per barrel.  Today that number has declined to about about $44 per barrel.  Six months from now that number will be lower still.

While oil inventories gradually declined for most of 2016 the increase in production earlier this year caused inventory levels to climb to a record high level in February.  Since that time inventory levels have been shrinking.  We know that OPEC output has been reduced, but its cutback has been largely offset by a significant pickup in U.S. production.  The other thing thing that could reduce inventory levels is strong demand which, in this case, seems consistent with an apparent quickening of GDP growth not only in the U.S. but around the world.

Stephen Slifer


Charleston, SC

Unemployment vs. Job Openings

July 11, 2017

This release in generally rather obscure.  But. Fed Chairwoman Janet Yellen often refers to data from it so its importance has increased in recent years.

The  Labor Department reported that job openings fell 5.0% in May to 5,666 thousand after having climbed 3.1% in April.    It is worth noting that there are more job openings today than there were prior to the recession (4,123 thousand in December 2007).   There were 6.9 million people unemployed in May.

As shown in the chart below, there are currently 1.2 unemployed workers for every available job.   Prior to the recession this ratio stood at 1.7 so the labor market (at least by this measure) is in better shape now than it was prior to the recession.

In  this same report the Labor Department indicated that the quit rate was unchanged in rose 0.1 in May to  2.2 after having declined by 0.1 in April.  It is at the highest reading thus far in the business cycle.  This is a measure of the number of people that voluntarily quit their jobs in that  month.  It is another series that Janet Yellen likes to talk about.  During the height of the recession very few people were voluntarily quitting because jobs were scarce.  So the more this series rises, the more comfortable workers are in leaving their current job to seek another one.  The quit rate today is 2.2; at the beginning of the recession it was at 2.0.

There is one other point that should be made about this report.  Janet Yellen claims that there are a large number of unemployed workers just waiting for jobs if only the economy were to grow fast enough.  She is assuming that these people have the skills and are qualified for employment.  We tend to disagree.  There are plenty of job openings out there.  What is not happening as quickly is hiring.  Take a look at the chart below.  Job openings have been rising rapidly (and are higher now than they were prior to the recession); hires have been rising less rapidly.

Indeed, if one looks at the ratio of openings to hires the reality is that this ratio bounces around from month to month, but basically it has not been higher at any point in time since this series began in 2000.  There are plenty of jobs out there, but employers are having a hard time filling them.  Why is that?

A couple of thoughts come to mind.  First and foremost, many unemployed workers simply do not have the skills required for the jobs available.  If they did, why aren’t they being hired?  Why aren’t some current part time workers stepping into the void for those full time positions? Why haven’t discouraged workers begun to seek employment with so many jobs available?  Why haven’t long-term unemployed workers bothered to go back to school and acquire the skills that are necessary to land a  job?

Or perhaps many of these people flunk the drug tests.  They might not be qualified for employment for a variety of possible reasons.

Perhaps also some people in this group find that the combination of unemployment benefits and/or welfare benefits sufficiently attractive that there is little incentive to take a full time job when you can sit at home do nothing and make almost as much.

Whatever the case, it appears that the decline in the unemployment rate in the past year is not simply a reflection of workers dropping out of the labor force.  Jobs are plentiful and the only reason the unemployment rate is not falling faster is because the remaining unemployed/discouraged/part time workers do not have the skills required by employers today, flunk the drug tests, or are unwilling to take the jobs that are available.

Stephen Slifer


Charleston, SC