Weak and Unbalanced: The Story of US Economic Growth Since 2007

We are now beginning our seventh year following the end of the previous business cycle. Most business cycles don’t last seven years. Yet the story is that we continue to struggle with recovery and despite a relatively strong end to 2013, many Americans believe we remain mired in a recession. So it is helpful to examine the last six years of growth to see what is what.

It is a pretty simple story. The economy is well below where it should be. The main strength in the economy has come from consumer durables largely the result of historically low interest rates and American’s love of autos. Close behind autos is government spending on non-defense items. While export sales of goods and services seem impressive – import sales on services have also increased – so even international trade ends up as a modest factor when we net imports from exports. On the negative side is a failure to revive spending in construction and reductions in state and local government spending. Federal government spending on defense has also not recovered to 2007 levels. Business spending on equipment grew by a mere 4% in six years.

Below is the analysis that supports those conclusions. The table below comes from newly released figures for real (chained) GDP from www.bea.gov .

At the end of 2013 real GDP reached almost $16 trillion. There is much being written about the US economy growing by 3.2% in the fourth quarter of 2013 and more than 4% in the quarter before that. Clearly the economy is gaining some momentum as I said in an earlier post. It is helpful, however, to take a longer term view of the US economy’s growth. In that way we get a more complete picture as to where we have come in the past six years. Last week I focused on 6-year employment changes. This week the focus is on national output or real GDP.

In the third data column in the table below I calculate the change in real GDP since the fourth quarter of 2007. In those six years real GDP has grown by almost a trillion dollars – or $970 billion. That $970 billion amounted to a 6.5% change since 2007. Percentage changes are in the fourth column of the table. National production was 6.5% higher at the end of 2013 than it was in the closing quarter of 2007. Think of real GDP as a big pile of stuff (goods and services) that the country produces in a year. The pile was some 6.5% higher in 2013 than it was in 2007.

While we all know that we suffered a recession in 2008 and half of 2009, this 2013 pile is pitiful. Yes, it is 6.5% bigger than the pile of 2007. But keep in mind that we have had almost five years to grow after the end of the recession. It is not unusual in past recoveries that real GDP would grow by 6.5% in one year. But then this was not a typical recession. So let’s ask what would have happened if the economy had grown by 3% each year since bottom of the recession. The economy bottomed at about $14.4 trillion, so a 3% annual growth rate would have brought the economy to about $16.5 trillion by the end of 2013. If the economy had grown at an average of about 4% per year since the recession, real GDP would have reached about $17.1 trillion at the end of 2013. The slow post-recession growth has cost the country's output somewhere between $500 billion and $1.1 trillion. Of course, since population growth did not stand still over these six years the result has been virtually no increase in output per person.

We could also ask what would have happened if the economy had grown by 3% since 2007. Normal growth in the economy without a recession would have brought us to producing about $18 trillion per year. Thus, the economy is about $2 trillion behind where it normally would have reached. We cannot revoke the recession but it helps to have a benchmark that shows what we have lost from a combination of the recession and the subsequent slow growth. We could say the recession cost us about a trillion and the slow growth another trillion.

The next question concerns the allocation of these goods. The shortfall in national production was not evenly shared. The data shows that some sectors have done much better than others. Traditional macroeconomic analysis breaks GDP into buying components based on who does the buying – generally referred to as consumption, investment, net exports, and government. The table lists most of the key GDP demand-side components.

Here is what we learn from GDP components from 2007 to 2013

·        We have very unbalanced growth

·        Despite massive stimulus and extreme monetary policy, the evolution of real estate is incomplete. Spending by households on new shelter and companies on structures, remain 17-20% behind 2007. Keep in mind that these sectors are recovering from a very low base. So low percentage increases on a low base are especially weak. 

·        Household spending on durable goods – especially automobiles – is carrying much of the load of spending. Other consumer spending – on nondurables (like food and clothing) and consumer services – have grown roughly equal to the lackluster pace of the overall economy.

·        Spending on business equipment rose by 4% in six years. This is an important sector for productivity and competitiveness since it pays for new capital and drives innovation and modernization

·        Government stimulus has come mostly from federal spending on non-defense. Defense spending and State and Local Government Spending remain well below 2007 levels.

·        What remains is foreign trade. Exports of both goods and services have been a mainstay of the spending increases but some of the growth in domestic spending has been imported services and goods. Inasmuch, the net impact from trade is not impressive.

Consider the components that were still languishing in late 2013. These GDP components have not regained spending levels of 2007 (in parentheses is the percentage amount in 2013 relative to 2007)

·        Structures (-19%)

·        Residential Construction (-17%)

·        State and Local Government (-5%)

·        National Defense (-2%)

GDP demand sectors showing the most strength since 2007 were:

·        Consumer Durable Goods (18%)

·        Exports of Goods (22%)

·        Exports of Services (17%)

·        Imports of Services (17%)

·        Federal Government on Non-defense (11%)

TABLE. Selected GDP Components 2007, 2013, and Change

(billions and percent change)

Source: www.bea.gov  Chained version of Real GDP

	2007	22013	CHG	%CHG
GDP	14,996	15,966	970	6.5
C Durable goods	1,156	1,368	213	18.4
C Nondurable goods	2,238	2,374	136	6.1
C Services	6,676	7,108	432	6.5
I  Structures	537	437	-100	-18.6
I  Equipment	910	946	36	4.0
I Residential	586	487	-100	-17.0
Exports Goods	1,181	1,442	262	22.1
Exports  Services	536	630	94	17.6
Imports Goods	1,936	2,006	70	3.6
Imports Services	388	437	49	12.6
G National defense	708	695	-14	-1.9
G Nondefense	390	431	41	10.6
G State and local	1,843	1,745	-97	-5.3

Employment. Where is Hercules?

This post is about employment in the US and how it has changed since 2007. Most of us know that the situation is not pretty but this six year perspective suggests the problem may be deeper than we think. This post is not about the solutions -- it is more about the depth and nature of the problem. The table below contains data from the Household Survey conducted monthly by the US Bureau of Labor Statistics ( www.bls.gov ). These statistics compare household employment status in the latest period (end of 2013) with the year before (end of 2012) and with six years before (2007).

The bottom line is that while the US economic recession technically ended in the middle of 2009, despite all we have done to promote rapid growth with policy, the economy remains a far cry from where it was in 2007. If we were discussing the results of a weight loss clinic we would provide you with a beginning weight and compare that to our present weight. The usual diet advertisement shows a svelte Dan Marino next to his puggy former self. If we use this technique to describe the US labor force we would start with a svelte image and end up six years later with something that looks a little like a whale.

Some of you will point your finger at failed monetary and fiscal policy. Unprecedented levels of aggregate demand policy leaves us bloated. Others would say we are paying for greed. Still others point to globalization, industrialization, education, or changes in demographics. Likely the problem is a blend of all that and more. But the fact remains, if you do the comparisons, you have to be bowled over by the dimensions of the problem. Neither side of the political spectrum has been effective in advocating and implementing anything close to a remedy. The data below suggest it is time to stop politicizing and start scratching our collective head. No, let’s not compromise on simplistic, naïve, and politically digestible policies. The policy decision is a whole other thing! But let's at least start with a measurement of the problem.

This is the “before” photo. (m means millions)

                                                    Dec. 2007

Populations 16+                                 233.2 m

Employment                                      146.3 m

Part-time Employment*                         4.8 m

% of population in the labor force         65.9%

Number of people unemployed              7.4 m

People want in the labor force               4.4 m

Sum of last two items                         11.8 m

Unemployment rate                   4.8% or 7.7%

Where are we today?                 

                                                     Dec. 2013

Populations 16+                                246.8 m

Employment                                     144.4 m

Part-time Employment*                        8.0 m

% of population in the labor force      62.6%

Number of people unemployed           10.0 m

People want in the labor force              5.9 m

Sum of last two items                        15.9 m

Unemployment rate                6.5% or 10.3%

*Part-time work for economic reasons – meaning they would have preferred full-time work.

Conclusions

Population grew in those six years between 2007 and 2013 by 13.6 million people, yet employment fell by 1.9 million persons. As a result of these two factors we went from almost 66% of the population working to less than 63 percent. If employment had reached 65.9% of the population by December of 2013, employment would have stood at 162.6 million. So one conclusion is that if we used 2007 as a point of comparison, employment in the US today is about 18.2 million below where it should be (162.6-144.4). In the year between December 2012 and 2013 employment increased by 1.4 million people. That is a start. But notice at that rate it would take more than 13 years to hit an employment to population ratio of 65.9%. Of course 13 years assume that population growth is zero and we know it won’t be. Main point – we need more like 3 million new jobs per year to return to past employment. We are still a long way from that kind of growth.

Not only did employment fall in six years but another 1.5 million people who wanted a job simply quit looking and were deemed outside the official labor force. Between the two figures we have 15.9 million people wanting a job – 4.1 million people more today wishing they had a job compared to the number 2007. While the official unemployment rate went from 4.8 to 6.5 percent, the rate that includes these discouraged workers went from 7.7 to 10.3 percent.  Of course there are now about 8 million people who were included in the employment statistics in 2013 who say they are seeking full-time work. That compares to only about 4.8 million in 2007 who said they were part-time because of economic reasons. Adding these folks to the employment challenge just makes the challenge even taller.

We have a massive challenge in 2014. I grew up in an America that was full of hope and optimism. We had our share of wars and social problems but we believed that our economy would provide jobs and careers. If we continue down the current employment path for many more years people doing the right things and who graduate from schools will find themselves wondering if and when they will be gainfully employed. For too many reasons to mention here, this is not what we want for your children and grandchildren.

The proportions and risks today regarding employment are not too different from other major challenges we have faced in the US. But like Sputnik or terrorism, it will take a major concerted effort to make a dent in the problem. Unfortunately we have a government that will need a lot of prodding. Congress looks more like a herd of goats about to go over a cliff than a group intent on solving and implanting real programs for economic and employment growth. The President offers no real comprehensive realistic path either. 

BLS TABLE:

	Dec 2007	Dec 2012	Dec 2013	Change: One year	Change:    Six year
Pop	233,156.0	244,350.0	246,745.0	2,395.0	13,589.0
CLF	153,705.0	154,904.0	154,408.0	(496.0)	703.0
LFPR	65.9	63.4	62.6	(0.8)	(3.3)
EMP	146,334.0	143,060.0	144,423.0	1,363.0	(1,911.0)
EMP:POP	62.8	58.5	58.5	-	(4.3)
EMP PT	4.8	8.2	8.0	(0.2)	(4.3)
UN	7,371.0	11,844.0	9,984.0	(1,860.0)	2,613.0
UN RATE	4.8	7.6	6.5	(1.1)	1.7
NOT IN LF	79,451.0	89,445.0	92,338.0	2,893.0	12,887.0
WANT in LF	4,398.0	6,532.0	5,932.0	(600.0)	1,534.0

Bear Case by Guest Blogger John Succo

John Succo graduated from Indiana University with a graduate degree in finance concentrating in option pricing theory in 1984. His work bio includes stints at Morgan Stanley, Paine Webber, Lehman Brothers, Alpha Investments, and Vicis Capital. In 2012 he became an adjunct professor for Indiana University and created IU Capital, a synthetic multi-asset fund where students manage risk around a variety of asset classes including equities, fixed income, currencies, commodities and derivatives.

 

SP500 companies’ adequate profits have been due to increasing margins on slow (if not now stagnant) revenue growth. Margins are at all-time highs and have been driven by lower interest expenses, stock buybacks (which retire outstanding shares and increase per share earnings at the expense of more leverage, making earnings "riskier"), and wage compression (wage participation of earnings are at recent history all-time lows). It will be extremely difficult for companies to improve these margins further.

There is negative margin pressure now building. Interest rates must normalize at some point and we are seeing pressure for that now. QE by the Fed has artificially kept interest rates low: they have been buying 70-90% of all treasury issuance causing their balance sheet to explode to $4 trillion and owning nearly 30% of the entire publicly traded treasury market. Interest rate risk is very high and just a 100 bps rise in rates would destroy the Fed's capital. The Fed's objective has been to drive investors into risky assets by creating no alternative; they have also targeted low volatility as a secondary measure to keep investor sentiment high, which is at all-time extremes right now. But tapering their asset purchases are now a function of risk and will continue. The Fed, BOJ, and to some extent the ECB have no way to "ease" except for asset purchases, so any new "weakness" in economic activity cannot be met by monetary policy and the markets will quickly lose confidence, which is the primary driver (psychology) of higher asset prices at this point.  Wage compression is now at the point where it will begin hurting consumption and work against margins. Higher rates will make it difficult to continue stock buybacks at the current pace and cause interest expense to rise. Corporate cash is a function of high corporate debt and rolling the debt will be more expensive.

Total debt in the economy is still 350% of GDP, levels that cannot be sustained. Some mortgage debt has been destroyed but an increase in public debt has offset this. Public debt is the least productive debt and as rates rise will become unserviceable: current interest expense is $450 billion a year and every 100 bps rise increases that expense by $200 billion. The treasury is now being forced to extend maturities and just normal rates will cause that annual expense to rise to nearly $1 trillion, creating systemic untenable deficits and crowding out of capital (even higher than normal rates). Additionally margin debt is at an all-time high, which is a precursor for too much risk and price inflation in financial assets.

As this process begins risky asset prices will suffer dramatically, normalizing rates and bottoming those prices but at much lower levels. Valuations by any measure are at least 30% overvalued and much more so if we truly are in a stagnant revenue paradigm. The Shiller P/E, the best measure of relative valuation, is over 26x, 56% higher than average. Pre-1987 crash gold went down and the 10 year yield rose 200 bps, very similar to today.

Deficits and Deficits

When I was just a little kid the teachers pointed out to my parents that I had an attention deficit. They thought my attention deficit should get more attention. As a result I became an expert on deficits in the fifth grade. A deficit means you are short on something – something presumably valuable and important. Pointing deficits out can be hurtful but the purpose is to signal a need for a remedy. When your fellow fifth grade students chanted songs about your social deficits that was just rude. But when Mrs. Montgomery told my parents of my attention deficit she was very much hoping that my father would beat me with a stick long enough so that I might not run my mouth incessantly while she was teaching the class how to count.

Today some of our government leaders, who apparently are not much farther along in intelligence than my fifth grade colleagues, are pointing out that the government budget deficit is not the only deficit our country should be concerned with. They list a number of worrisome deficits – in infrastructure, education, and little blue pills. What could be wrong with pointing out that we have national deficits in many areas and that these need attention?

Answer – there is nothing wrong with pointing out national problems. But please – we didn’t know we had these deficits? I think we knew. The problem is that by using the term “deficit” they are implying that each of these individual social deficits is equally important to the nation’s budget deficit. And this is where they are being disingenuous, misleading, and pretty much just plain wrong.  

What they are REALLY SAYING is the following….what we need to do in this country is to spend more and we can spend as much as we want to spend. Who cares if we can’t pay for solving all of mankind’s ills – we can just borrow money. And then we can borrow more. Because we are nice guys and because we won World War II and because Harry Reid knows the mafia – we can borrow all we want. Sure someday we will have to raise taxes on the rich to close the national budget deficit but that won’t be a problem either. By closing all these social deficits we will make the nation great and there will be no unintended side effects. Tax revenues will gush in.

Do they really think that we are so naïve or stupid that we would believe that story?  It is fine to be a liberal or a progressive or just a person with a desire to help other people. But today we find ourselves in a situation following a global crisis in which the government spent a lot of money. It is no secret that the national debt has multiplied and borders on 100% of the economy. Is there a tablet on a mountain somewhere that says 100% is the ceiling? I don’t think so. But when you almost triple what was considered a normal amount of debt burden, someone out there knows that. If you had a normal debt load and subsequently tripled the amount you owed, then your banker might be interested….especially if you come into the bank and ask for ANOTHER loan.

Hi Mr. Banker. Nice shirt and tie. I love paisley. Anyway, I want to buy another condo on a golf course in Florida.

Hi Larry. Nice sweatpants. Didn’t you just buy a condo in Florida? And didn’t you tell me then that you could barely afford it?

Hi Mr. Banker. Nice watch. I love Timex. Yes, but that other condo was not on a golf course and I plan to take up golf and alligator petting.

It sounds hard-hearted to say that finance is more important than people. That’s what some of these liberals are trying to say but it isn’t true. There is nothing more important than people. But there are good ways and bad ways to help people. That’s the real question – which is the best way?

Okay – so we take the advice of the liberals and spend a lot of money on education, infrastructure and Harry Reid’s latest pet project. And so the debt moves a little above 100%. Won’t that be groovy? What’s the harm?

There are three answers. First, the harm is that if other countries do a better job of cleaning up their debts, we will look less financially stable in global terms. That could spook financial markets. Spooking the financial markets doesn’t just affect rich people. Lower stock prices and higher interest rates would not be welcome in any corner of the economy. Second, when the government dominates financial markets the private sector has a harder time getting loans on good terms and this hurts their ability to be competitive. Third, and worse, there comes a point when enough debt is enough. What happens if we reach that point and a big hurricane levels Bloomington? Or a flood wipes out Arizona? Or killer bees migrate to Nevada and knock out the gambling industry? If you have reached the point of no return on debt and you have a national disaster, there is no money in the till to take care of emergencies. Then you are between a rock and a hard place meaning that there are no good options. Not tending to debt today means we put ourselves in a position where we can no longer help ourselves when emergencies arise. Maybe then we would ask for aid from Haiti.

The way to help people through government is to do it in a financially sound way. A millionaire who wants to help his local food shelter does no one any good if he borrows to support the homeless – and borrows so much that he cannot repay his loans. The last half century has witnessed a government that borrows more to support its programs. That trend is helping no one and threatens to a make it impossible to keep up levels of support in the future. There is only one deficit and it needs to be tended to ASAP.

Mo-cro Economics for 2014

Thanks to Buck for looking back and summarizing 2013 last week. Today I take a look into the future. I begin with a brief (haha) discussion of the economy in 2014. Then I turn to singular events that might occur in 2014. 

When one forecasts economic growth one-year ahead he has to look at several things. First are the longer-term trends that are playing out. Long-term trends are usually pretty well known and have their impacts dispersed over several years or even decades. Population changes, industrialization, and globalization are often cited as impacting GDP gradually over many years. The year ahead is also impacted by events we call shocks -- unexpected factors that come and go -- often unpredictably. For example, extreme weather changes may cause food or energy prices to fluctuate much more than one might have ever expected. A third factor impacting the forecast for one year ahead is momentum. 

We already know a little about how long-term trends may slow economic growth in 2014. As for shocks, they are largely unexpected and can not be forecast well. The interesting factor for 2014 is momentum. When you say that your team is on a roll -- you are citing the power of momentum. You might not be sure of exactly why they are winning, but each time they win another game it gives you confidence they will win another one. If momentum is strong it totally subjugates long-term trends because you admit that the usual cause and effect might not be at work. This also ignores random or shock events that might affect future wins or losses. It just says -- the economy seemed to strengthen last year so I guess it will strengthen more this year. Note -- there might be lots of reasons for concern about the coming year based on known trends -- but momentum seems somehow to swamp all that -- at least for a while. That's what I mean by Mo-cro Economics in 2014. 

Momentum makes intuitive economic sense. This is because in macro we have two factors that often operate. The first is the jobs-income-spending-jobs link. As job growth improves so does income, spending, and then jobs. Even if the growth of jobs improves only a little compared to the previous year -- momentum is carried forward by the expected improvements in incomes and spending. Second, expectations matter. In a deep recession people hunker down. The uncertainty about the future worries people and limits their spending as they ready themselves for perhaps worse times. But after several years of economic growth, this negative mentality wears down. Goods get older and need to be replaced. As the economy improves and expectations get more sanguine -- people spend more -- incomes and jobs grow faster. 

2013 was seen as one more year distancing the US economy from the memories of the recession that ended several years ago. While not every macroeconomic indicator improved, the large body of them did. Especially important was the improvements in employment. I am guessing that at least in 2014, this wave or momentum will steadily build and produce continued gains in employment, income, and spending. 

Notice what this says and doesn't say. First, we should expect overall national economic growth in 2014 to be as least as strong as it was in 2013. Second, whatever long-term trends threaten us, they will likely be swamped by momentum in 2014. Third, shocks may arise that make this forecast very wrong. But since it is impossible to forecast the unexpected, we let that remain as it is. 

The last time I did forecasts was in December 2011 for the year 2012. Since I was wrong on all 13 forecasts, I decided to take a year off. But I am back again to try for 2014. Below are my non-economic forecasts for 2014. 

1. Pope Francis and Barack Obama will marry in Sochi and will honeymoon in Havana

2. Victor Oladipo will run for president despite the fact that 2014 is not a presidential election year and he is not old enough to run

3. Psy and Miley Cyrus will team up and start a new dance craze called the Gangnam Twerk

4. The Nobel Peace Prize will go to Kim Jong Un and Dennis Rodman

5. A new International trade treaty will result in free trade zone comprised of Iran Israel, Iraq, Illinois, Iowa and Indiana. It will be called the I-Zone and all citizens of the I-Zone will receive free I-phones, I-pads, and I-balls.

6. Airlines will allow unlimited phone service on all flights and will issue all customers without phones noise cancelling headphones and boxing gloves.

7. Janet Yellen will promise to keep interest rates at zero percent until all baby boomers have left planet Earth or until eight-track players dominate the music scene again, whichever comes first.

8. Boeing will settle a new labor pact with their union allowing all Seattle manufacturing employees to smoke doobies at lunch.

9. Joe Biden will cackle like a hyena.

10. Obamacare will be replaced by Hillarycare. You will sign up for your policies using colored crayons.

11. Gillette Blades will become the new official sponsor of Duck Dynasty

12. Fifty years ago Congress passed a resolution allowing the President more freedom to authorize combat actions against North Vietnam. Next year Congress will pass a resolution authorizing the President to do pretty much whatever he wants to do. 

13. Downton Abbey will be overtaken by jihadists.

14. This blog will continue to spout. Happy New Year all!