This is the second economic update of 2013. Over the last six months, the ongoing recovery in the U.S. economy has been slow but resilient in the face of contractionary economic policies such as sequester and the 2.0 percent payroll tax increase.
Summary & Outlook
The forecast growth rate for U.S. economy in 2013 has been narrowed to around 1.5 percent. The increase from the lower bound from 1.0 percent from the last forecast is a result of unexpected resilience in the face of contractionary fiscal measures such as the sequester and payroll tax increase in place since January 2013. While this figure represents a slight improvement since the last forecast, it is still below the 2.0 to 2.5 percent growth that would have been likely without the fiscal contraction.
The current forecast also does not account for the risk that lower growth could result if reductions in government spending are larger than expected as a result of a possible budget deal. The current expectation is that future legislation in 2013 will continue the status quo given the current deadlocked political climate while low inflation will enable the continuation of loose monetary policy under quantitative easing.
This update represents a slight upgrade from the last report in January, 2013 – which is the first positive change in outlook in a year. This slight improvement is a result of unexpectedly good data despite continuing negative effects of fiscal policy.
According to the Bureau of Economic Analysis (BEA), fourth quarter 2012 real GDP increased by 2.5 percent. This was a significant increase from 0.4 percent rise in the preceding quarter – although roughly in line with average increases from 2009. The increase was led by durable goods and housing but held back by continuing reductions in government spending, especially defense. In terms of short-term economic growth, the emerging post-Afghanistan/Iraq Peace Dividend is more like a Peace Tax on growth. Taken together with other cuts in public spending, especially at the Federal level, current policy again demonstrates how America’s de facto austerity policy undermines growth.
Below is a breakdown of U.S. economic performance by consumption, investment, government, trade and other indicators:
Consumption, which is around 70 percent of the economy, grew at a 3.2 percent during the first quarter of 2013. This is up from 1.8 percent and 1.6 percent in the preceding two quarters – and marked the 17th quarter of positive growth. Consumption gained because of an 8.1 percent increase in durable goods purchases – which follows a 13.9 percent jump in the preceding quarter. Although durable good growth figures are volatile, they have been high for three quarters in a row – and have averaged 7.3 percent since the start of 2011. While the automobile sector is still doing relatively well, demand has come down a bit – but is still performing significantly above recession levels.
Outside durable goods, other kinds of spending continued to increase slowly. Spending growth on non-durable goods rose significantly during the first quarter at 1.0 percent, which is up from 0.1 percent in the preceding quarter. Even though the change was large, this latest figure just marked a return to the mean growth rate of 1.1 in place since early 2012. It does not mark any kind of vigorous recovery. Services growth was a relatively bright spot with growth up by 3.1 percent, up from 0.6 percent. This was a real improvement since it was the highest rate since the start of the 2008 recession. However, while one quarter of higher service sector growth is an improvement, it is too early to tell whether this trend will continue.
Other signals also remain mixed. While real personal consumption expenditures rose by 3.2 percent in the first quarter and real gross domestic purchases rose by 2.9 percent, current dollar personal income decreased by 3.2 percent or $109.1 billion because of higher payroll taxes, reduced government spending and the shifting of dividend and salary disbursements into 2012 to avoid higher 2013 taxes. In addition, BLS data show that over the last year, average hourly earnings have only risen by 45 cents, or 1.9 percent. As a result, the savings rate fell to 2.6 percent, the lowest level since late 2007. This could be signal that people are spending too much relative to their income.
At the same time, while Census data who that the share of U.S. households with debt declined from 74 percent to 69 percent between 2000 and 2011, the median amount of household debt increased from $50,971 to $70,000 (in 2011 dollars). While mortgage debt payments dropped to a 13 year low of 8.67 percent of disposable income at the end of 2012, the cost of rent has gone up. Higher rents have an especially bad impact on the poor and lower middle class. All of these weaknesses call into further question the durability of the recent and relatively positive consumer spending patterns.
One of the biggest problems behind consumer spending is continuing high unemployment. Although the situation has improved somewhat over the last few months, the rate is still high by historical standards. According to the U.S. Bureau of Labor Statistics (BLS), official employment in April 2013 (U-3) fell to 7.5 percent, down 0.4 percent since January, 2013. The unemployment rate is at its lowest level since December, 2008 and represents a continuing resilience in the weak but apparently durable U.S. recovery. The BLS measure of unemployment (U-6) that includes the unemployed, discouraged and underemployed was 13.9 percent in April, which was 0.5 percent better since January, 2013.
The improvement in the job situation came because some employers finally added jobs – in April they added 165,000 while March saw a (revised) gain of 138,000, and February, a big increase of 332,000 jobs. The February number in particular likely pushed joblessness since the economy adds 125,000 to 150,000 people to the workforce a month. Unfortunately, the median duration of unemployment rose to 17.5 weeks in April up from 16.0 weeks in January. This may indicate that the recovery is missing the long-term unemployed. While the odds are improving for many job seekers, they are still long. BLS data show that the ratio of seekers per job is 3.1:1, compared to 3.4:1 in January. Although this is a huge improvement from the peak of 6.7-to-1 in summer 2009, there is still no work for the vast majority of the unemployed. These factors kept the employment-to-population ratio basically steady at 58.6 percent, which is low by historical standards. It has been largely unchanged for more than three years. According to the Economic Policy Institute, “The average growth rate so far in 2013 is 196,000 jobs a month; at that rate, it will take more than five years to return to the prerecession unemployment rate.” The end of the misery still seems still far away.
The other employment data were mixed. Revised BLS data show that nonfarm business sector labor productivity increased by 0.7 percent during the first quarter of 2013. This was an improvement from a 1.7 percent reduction in the preceding quarter. Hours worked remained steady at 34.4 a week, largely unchanged since 2012.
The employment situation remains particularly bad for many subgroups. According to the Economic Policy Institute (EPI), the job market for graduating college students is still poor. Over the last 12 months to May 2013, the unemployment rate among workers under age 25 with a bachelor’s degree or more has averaged 8.2 percent. While this is better than the 8.5 percent a year ago, it is much higher than the 2007 average of 5.4 percent. To make matters worse, the Bureau of Labor Statistics (BLS) reports that 48 percent of employed U.S. college graduates are in jobs that suggests requires less than a four-year college education – and 37 percent are in occupations requiring no more than a high-school diploma. As a result, recent graduates are now more likely to work as, “waiters, waitresses, bartenders and food-service helpers than as engineers, physicists, chemists and mathematicians combined.” When adding in student loan debt worth more than $1 trillion, the situation is grim for the 66 percent of students who owe an average of more than $25,000 each. High debt and low wages will not only hurt the young now, but are expected to poison the economy for decades to come in the form of low incomes and spending.
The job situation is worse elsewhere, especially for those without a college degree. Teenage unemployment is 24.1 percent while amongst blacks it is 13.2 percent and Hispanics it’s 9.0 percent. All of these groups have seen modest improvements in their employment situations. While U-3 hovers at 3.9 percent for those with a bachelor’s degree and up, it fell significantly to 6.4 percent for high school graduates from 2012 and dropped slightly to 11.6 percent for those without a high school diploma. In fact, according to BLS data reported in the Atlantic Monthly, jobs for those without college have continued disappearing right through the recovery from June 2009 on. Most other sectors of the labor market continued moving together into slightly positive territory. Joblessness for most groups (adult men, adult women, blacks, whites, and Hispanics) showed small positive changes. The strongest growth was in professional/business services (+587,000 jobs in the last 12 months), hospitality, and retail.
Other data are similar to the BLS data, although Gallup paints a somewhat darker picture of joblessness compared to late 2012. Their measures of unemployment showed a continued reduction of unemployment to 7.4 percent in April, 2013. This was a marked improvement from 8.4 percent a year ago – and a bit improved from January, 2013. However, this number is worse than the 7.1 percent figure in November, 2012. The measure of underemployment that combines part-time workers wanting full-time work with unemployment was 17.8 percent. Although this was down from 18.3 percent a year earlier, it is also worse than November, 2012 when it was 15.7 percent.
Looking forward, without a substantial reduction in unemployment, wage growth is expected to remain anemic. This is probably why the weekly earnings of full-time workers were only up 0.5 percent in the first quarter of 2013 from the year before. Surprisingly, this weak wage growth and high unemployment have not prevented confidence from improving. In May 2013, the Gallup Economic Confidence Index rose to -4, the highest level in more than five years. This is a vast improvement from the trough of -54 in September 2011 and nadir of -65 in October 2008. However, this confidence may also be eroded by fear. According to Gallup, “Eighteen percent of U.S. workers say it is “very likely” or “fairly likely” they will lose their job or be laid off in the next year, more than said so prior to the 2008 economic downturn, although similar to more recent years.” The good news always seems shadowed by the bad.
The rising confidence has also affected the Conference Board Consumer Confidence Index, which rose to 68.1, which approaches the levels last seen in 2012 – and up sharply from 58.6 in January, 2013. Comparing with 2012, the index was 62.0 in June, 64.4 in May, 69.2 in March – and 70.8 in February. The index has finally retaken the gains of 2012 – although it still remains well below the 90 level connected to a recovery. According to the Conference Board, “Confidence improved in April, as consumers’ expectations about the short-term economic outlook and their income prospects improved. However, consumers’ confidence has been challenged several times over the past few months by such events as the fiscal cliff, the payroll tax hike and the sequester. Thus, while expectations appear to have bounced back, it is too soon to tell if confidence is actually on the mend.”
Despite the bright spots, weak employment data, wage stagnation, de facto public sector austerity, higher social security taxes, and other issues point to a weakening consumption situation in the future. While consumption has been unexpectedly resilient, the weaknesses make a short-term strong recovery in employment unlikely and may point in a negative direction. At best, unemployment will likely linger around 7.5 percent for the rest of 2013.
Investment, making up 16 percent of the economy, continued to grow at a vigorous 12.3 percent rate – continuing a mostly positive streak dating back to 2010. Investment in non-residential structures fell by 0.3 percent in the first quarter 2013 – down sharply from a 13.2 percent increase in the fourth quarter. Equipment and software investment continued increasing at 3.0 although this is down from 11.8 percent growth in the fourth quarter. These weakening numbers outside the housing sector probably reflect concerns about faltering growth in the U.S. economy.
By far the strongest sector was real residential fixed investment, which increased by 12.6 percent. This continued a chain of double digit increases. The housing market continues to lead the recovery because of low interest rates, high rents and still fairly moderate prices in most markets. With housing ownership still lower than at any time since 1990, there is room for recovery – if other conditions allow it. Housing starts in March 2013 were a strong 902,000. According to the National Association of Realtors, the national median existing single-family home price rose to $184,300 in March 2013, which is 11.8 percent higher than a year earlier. According to LPS, the U.S. mortgage delinquency rate in March 2013 fell to 6.59 percent – which is getting closer to the normal 5.0 percent rate.
However, the early signs of a mini-bubble and correction could be emerging. Not only are price increases high but the inventory of homes for sale has fallen to 4.6 months, which is below the historical average of six months. This could be why housing sales fell by 0.6 percent in March 2013 to a seasonally adjusted annual rate of 4.92 million – which is down from 4.95 million in February. These changes were probably reflected in falling spending on private construction projects which dipped by 0.6 percent. While residential spending rose 0.4 percent, these gains were offset by a 1.5 percent drop in spending on private nonresidential structures.
Government expenditure reductions continue to profoundly and negatively affect the economy. According for around 19 percent of GDP, they fell because of the military withdrawals from Iraq and Afghanistan, the sequester, and continued resistance to more spending in Congress. The fingerprints of contractionary fiscal policy are pervasive in the economy.
Federal government expenditures dropped by 8.4 percent in the first quarter of 2013, which comes on top of a 14.8 percent cut in the last quarter of 2012. This was led by an 11.5 percent drop in national defense outlays on top of a huge 22.2 percent drop in the preceding quarter. According to JPMorgan Chase economist Michael Feroli, the two quarters represent the steepest declines in military outlays since the Korean War. While war spending reductions could be positive if made up by more spending elsewhere, non-defense spending also fell by 2.0 percent. Since 2011, defense spending has fallen by 3.8 percent a year on an annual basis while overall federal spending is down by 3.2 percent. Austerity is still with us.
The reductions in federal spending continue to amplify the negative effects of falling state and local expenditures which dropped by 1.2 percent. This means that except for a minimal 0.3 percent increase in non-federal spending in the third quarter of 2012, state and local governments have been cutting for 3.5 years. As a result, their spending in early 2013 is 7.6 percent below that of the last quarter of 2009. The local government depression continues.
Spending reductions hit the construction sector hard, resulting in a 4.1 percent drop in public construction projects to a 6 1/2-year low in March. This was the largest percentage decline since March 2002. While outlays on federal government projects fell 1.7 percent, the much larger state and local spending, tumbled 4.3 percent. This was the biggest drop since March 2002.
Finally, EPI data show the negative effects of austerity on the job market since the public sector continues to shed jobs. Most recently, it lost 11,000 in April (8,000 federal, 3,000 state and local). In fact, the public sector has lost nearly three-quarters of a million jobs (741,000) since the recovery began in June 2009. Since this amounts to around 0.5 percent of the workforce, public sector cuts have pushed unemployment to 7.5 percent when it could have been 7.0 percent. Another study by the Hamilton project shows that if public sector job growth had followed the expansionary path of other recent recessions, it would have created 2.2 million jobs – resulting in a jobless rate of 6.3 percent.
Trade was no longer the bright spot in America’s economy. Exports of goods and services only rose by 1.8 percent in the first quarter. The key question remains is how implementation of Free Trade Agreements with South Korea, Colombia and Panama will boost trade. While in the future other trade agreements such as the Trans Pacific Partnership (TPP) and the Transatlantic Trade and Investment Partnership (T-TIP) may boost trade, implementation of these agreements is years away – at best. In any case, since exports only account for 10 percent of GDP they cannot drive the recovery. With continuing weakness overseas, there is always a risk trade will weaken further.
Issues & Causes
While economics has the reputation for being the Dismal Science, one of the most depressing parts of the profession is watching terrible policy in action. For at least two years, it has been obvious why the U.S. economy continues to grow so slowly. While some threats have abated, others loom larger. Here is a short list:
America – Bad Politics. America’s dysfunctional politics continues to prevent an effective policy response to the mediocre economy. Instead of pursuing a national recovery policy, Washington continues to be dominated by austerity, stagnation, sequestration, the social security tax increase, and so on. Things will probably worsen as the dreaded debt ceiling issue returns later this year. In other words, the current bad habit of reducing spending during a weak economy will likely continue – at the cost of higher unemployment and lower growth – and has gravely undermined the recovery. This fiscal drag remains a major reason why the economy has failed to recover strongly from 2008 – and has affected not only government spending but consumption, investment and even certain sectors such as construction.
Europe – The Crisis Slowly Deepens. While the European debt crisis continues to be in abeyance, the poor resolution of the Cyprus crisis that taxed savings, inconclusive elections in Italy, and rising political tensions in southern Europe are all putting more strain on the European Union. All of these developments are negative at a fundamental level – even if the consequences have not materialized yet. The Cyprus crisis has called into question deposit insurance in places such as Italy and Spain – while fueling suspicion of places with large financial sectors such as Luxembourg and Malta. Italy, which has the third largest economy in the Eurozone just had an election with inconclusive results. This bodes badly for stability.
Speaking of stability, the costs of the crisis magnified by a disastrous austerity policy have resulted in 27 percent unemployment in Spain and Greece, joblessness over 14 percent in Ireland, Cyprus, Latvia, Slovenia and Portugal – along with recession throughout Europe. The youth unemployment rate was 23.5 percent in the EU-27 – and was highest in Greece (59.1 percent), Spain (55.9 percent), Italy (38.4 percent) and Portugal (38.3 percent). In some regions such as Andalucía in Spain joblessness is an unbelievable 85 percent.
At the same time, the growing divergence between competitive countries in the north and problematic countries in the south will also likely put long-term pressures on the EU. The glaring differences between suffering in southern Europe and stability in the north (Germany’s joblessness was 5.4 percent), will also increase strains in the EU. While Greece, Italy, and France sink into a recession, Germany and Austria will keep growing slowly. Recovery in Europe will also be complicated by an overly strong euro, rigid labor markets, high costs, aging populations and low productivity growth.
In the meantime, the result will likely be a small recession causing a 1.0 to 1.5 percent reduction in GDP in 2013.
International – Slowing Down. While emerging market growth remains higher than the rich countries, there are signs of a slowdown. While most forecasts put China’s growth at over 8.0 percent in 2013, the economy still faces headwinds because of increasing costs, weak external demand, poor returns on domestic investment, stresses on the real estate market, high savings, an expanding state owned sector, and slowing productivity gains. It is also complicated by a lack of progress in shifting to a more balanced economy that includes a strong service sector, lower savings, and more consumption and more productive investment to boost domestic demand.
There are also disturbing signs that high growth in the regions is beginning to fall. According the Bloomberg, “the growth rate was lower in the first quarter than in full-year 2012 for about three-fourths of the 31 provincial areas.” Growth in Sichuan was 10.2 percent in the first quarter, compared with 12.6 percent in 2012. In neighboring Guizhou, gains fell to 12.6 percent from 2012’s 13.6 percent. Other regions held steady — Zhejiang reported 8.3 percent growth in the first three months after 8 percent in 2012 and highly export-dependent Guangdong showed 8.5 percent, up from 8.2 percent last year. While China’s monetary, fiscal, and credit stimulus continues to keep up growth, the model shows more signs of losing steam.
In Japan, the Abe government has following through on its promise to focus more on domestic growth. It is pursuing stimulative fiscal and monetary policies and is bringing Japan into the TPP negotiations. While deflation, high costs, high debt, closure to immigration, and an aging population continue to present major problems, the Abe policies are expected to result in growth of 1.3 percent in 2013, according to the Economist.
Other emerging markets face mixed prospects. Growth in Russia is estimated by the Economist at 2.8 percent, a rate that is slowly falling as oil loses its power to drive the Russian economy alone. Brazil, Mexico and Colombia will likely continue growing at 3.0 to 4.0 percent – along with most of the big Latin American countries with the exception of Venezuela and (eventually Argentina). India and Indonesia will likely grow over 6.0 percent while other Asian countries experience slowing growth at or below 4.5 percent. The Middle East will likely continue to be a source of bad news. Africa will continue to be the world’s fastest growing continent.
While some emerging markets continue to grow, the slowdowns in the rich countries and major economies continue to raise the issue of who will power the world economy. Unfortunately, recent bad experience with austerity policies has not stopped them from being used in the EU and the United States. Only Japan under Abe has slowly edged away from this precipice. It is a pity that only the Federal Reserve has been stimulating the U.S. economy because we all need real growth and recovery policies to rebuild the future for millions who have already endured five years of misery – and counting. While the recovery has been resilient in the United States, it cannot endure unlimited abuse. Another round of budget cutting, an ill-advised war that jacks up energy prices or another problem could push the U.S. economy into negative territory again. If this happens, the result could be an even longer and more dangerous downturn.
Under normal circumstances, the U.S. economy should have continued recovering – at over 2.0 percent. While the rising housing market, rising confidence, stronger investment and durable goods are positive, mediocre news overseas, falling public spending, low income growth and high unemployment all raise questions about the recovery. This is especially complicated by the risk that a U.S. budget deal could worsen austerity. However, despite the problems, the recovery has developed legs – which is why I will raise the minimum forecast GDP growth rate from 1.0 to 1.5 percent in 2013.
What began last year as glimmers of light and brightened into mid-2012, went from menacing to mediocre – and now to resilient. Unless Congress goes insane and rejects raising the debt ceiling, the risk of severe economic problems in the near term is falling. However, as always for the millions of unemployed and poor, everyday America underperforms economically is painful. Until the U.S. and other governments start focusing on recovery, investment, competitiveness and the future, the risk of stagnation will grow. While we continue to make progress, resilience is not enough. We must do better.
This article updates the economic situation outlook “Self-Inflicted Wounds” from February 11, 2013. It is posted at: http://www.et1964.com/?p=1582
Earlier economics-related articles in this quarterly series include:
http://www.et1964.com/?p=12 The Faltering Recovery
http://www.et1964.com/?p=249 America Falling
http://www.et1964.com/?p=308 The Coming Double Dip
http://www.et1964.com/?p=390 The Coming Depression
http://www.et1964.com/?p=519 Recovery or Weakness?
http://www.et1964.com/?p=590 Hitting the Debt Ceiling
http://www.et1964.com/?p=641 Creating the Worst of Times
http://www.et1964.com/?p=767 The Long Road to Nowhere
http://www.et1964.com/?p=897 Glimmers of Light?
http://www.et1964.com/?p=1197 Good & Bad News
http://www.et1964.com/?p=1326 Threats Everywhere
http://www.et1964.com/?p=1582 Self-Inflicted Wounds
Policy-related articles include:
http://www.et1964.com/?p=99 What I Stand For
http://www.et1964.com/?p=155 In Praise of Taxes
http://www.et1964.com/?p=224 Liberalism Saved Capitalism
http://www.et1964.com/?p=231 Liberalism Saved Capitalism, Part II
http://www.et1964.com/?p=329 Beyond the Endless Darkness
http://www.et1964.com/?p=358 Progressive Pro-Business
http://www.et1964.com/?p=406 A Better Budget
http://www.et1964.com/?p=564 Where I am Conservative
http://www.et1964.com/?p=582 Jobs for the Future
http://www.et1964.com/?p=610 Creating Jobs in America, Part I
http://www.et1964.com/?p=614 Creating Jobs in America, Part II
http://www.et1964.com/?p=635 Building Social Welfare in America
http://www.et1964.com/?p=1172 Contra Libertarianism (Series)
http://www.et1964.com/?p=1592 The Black Swans of Sequestration
A Tea Party Dystopia:
http://www.et1964.com/?p=262 Our Future, Darkly