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More ‘Slack’ than We Realize

bob samuelson_1

From Robert Samuelson in The Washington Post, Interest rates and the Fed’s great ‘slack’ debate:

Is it time to consider raising rates to preempt higher inflation? The answer depends heavily on the economy’s slack: its capacity to increase production without triggering price pressures. Although economists are arguing furiously over this, there’s no scientific way to measure slack. Economic policymaking is often an exercise in educated guesswork, built on imperfect statistics, shaky assumptions, incomplete theories and political preferences. This is an instructive case in point.

“Slack” is economics jargon for spare capacity. It means unemployed workers, idle factories, vacant offices and empty stores. Its significance is obvious. If there’s a lot of slack, inflation shouldn’t be a problem. Companies and workers will compete for sales and jobs by holding down prices and wages. By contrast, if there’s little or no slack, government efforts to stimulate the economy through low interest rates or budget deficits may backfire. Excess demand will raise wages and prices. (There are some exceptions to these maxims.)


Samuelson is correct, but I think slack is even harder to measure than he asserts.  Our productive capacity is far more than the capacity of buildings and equipment and their potential output.  It is the potential of the human mind to find new ways to cut costs, turn luxuries into necessities, and create new luxuries.  What happens to demand and output when electric cars like the Tesla reduce our fuel expense from $400 a month in gasoline to $25 a month worth of electricity?

The real cost of our poor fiscal policy is not merely high unemployment, malinvestment, and low investment, but the cap it places on human potential.  The ‘slack’ here may be staggering.

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The Cost of Bad Ideas

Why Young People Can’t Find Work, by Andrew Puzder in the Wall Street Journal


Consider these grim employment numbers:

• In February the Bureau of Labor Statistics (BLS) recorded the lowest percentage of 16- to 19-year-olds working or actively looking for work (32.9%) since the bureau started tracking the data in 1948. The BLS recorded the second-lowest labor-participation rate for this group in April (33.2%) and the third-lowest in January (33.3%). May’s rate was the sixth lowest (33.8%).

• Over the past two years, the BLS has recorded some of the worst labor participation rates for 20- to 24-year-olds since 1973, when the Vietnam War was beginning to wind down. In August 2012, the 69.7% rate was the lowest since ’73. The second-lowest (70%) came in March last year. This year, the third-lowest rate came in April (70.2%). May’s rate was a still-miserable 71%.

• Looking at the seasonally unadjusted data—which is what the BLS makes publicly available—for 25- to 29-year-olds, the April 2014 labor-participation rate was the lowest the BLS has recorded since it started tracking the data in 1982 (79.8%). May’s rate was the second-lowest (79.9%). January, February and March tied with the fourth-lowest (80.3%).

These disturbing numbers raise a simple question: Where are the entry-level jobs?

Five years of 2% average yearly GDP growth simply doesn’t produce enough jobs to absorb the natural increase in the labor force, and over the past eight quarters GDP growth has averaged only 1.7%. Between May 2008 and May 2014, BLS data show that the employable population increased by 14,217,000 while the number of people employed actually decreased by 94,000 and the number of people unemployed increased by 1,404,000. It remains a bad time for young people to be looking for jobs.


In their attempt to cram Obama Care down our throats this administration sacrificed growth, at a time when the economy needed it most.  Further efforts to raise minimum wage AT THIS TIME are economically blind.  What may be more costly is not the failure of their policies but what they gave up to enact them.


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Expanding Inequality is the Result of Misguided Fiscal Policy

William Galston writes in The Wall Street Journal, Soaring Profits but Too Few Jobs; (may require paid subscription- which I highly recommend)


According to a report last week from the Commerce Department, corporate profits after taxes in the fourth quarter of 2013 rose to an annual level of $1.9 trillion—11.1% of GDP, a postwar high. Meanwhile, total compensation—wages and benefits such as health insurance and pensions—fell to their lowest share of GDP in at least 50 years. From December 2007 through the third quarter of 2013, the compensation share of national GDP declined to 61% from 64%. A simple calculation shows that if compensation had remained at the 2007 share, workers would have earned $520 billion more in 2013.

There’s no end in sight. The Wall Street Journal’s Justin Lahart reported recently that analysts expect profits for the S&P 500 to grow by 7.4% in 2014, far faster than nominal GDP. So profits will once again command a larger share of national output. Some of this, he says, reflects short-term factors. Persistently low interest rates have allowed companies to refinance debt, cutting interest costs even as they have increased net debt for 14 consecutive quarters. Moreover, companies have been able to offset gains in gross profits with losses incurred during the recession, reducing their effective tax rates.

Economists don’t agree about why the recovery has been so grindingly slow. Let me offer my own non-economist’s suggestion: However necessary a low-interest-rate regime may have been at the beginning of the recovery, it has moved through a phase of diminishing returns, which have now turned negative.

The current regime has allowed the banking system to recover and spurred gains of 250% in the equities markets from their spring 2009 low. No doubt the “wealth effect” boosted consumption among those fortunate enough to hold substantial amounts of stock. Homeowners who have been able to refinance have benefited as well.

That’s the upside. But the downside has been sizable. Low interest rates have reduced the purchasing power of retirees struggling to supplement fixed incomes with decent returns on low-risk investments. And the low rates have altered business decisions, at least at the margin. Today’s interest-rate regime lowers the cost of capital—and therefore of capital investment relative to labor. To be sure, the substitution of technology for labor is a continuing process. But the pace of that substitution is crucial for the job market, and current policies are having the unintended effect of accelerating it, further retarding job creation.


The wealthy have options that others do not.  Low interest rates, and lending policies that have favored large publicly held companies over small local companies have helped improve the bottom lines of the larger public companies.  The incredibly high friction costs to hire which includes the ACA but also includes the previous threat of the card check bill and the constant threat to raise taxes on income which is how smaller businesses finance their growth retards hiring.

This administration which demonizes the rich, bemoans growing inequality,  and holds redistribution as a high value has in their stunning ignorance achieved the opposite results they claim to want.

The risk reward for an investor sharply favors buying publicly held equities over investing in a small business.  Hiring suffers from this reality.

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An Unlikely Stimulus of Efficiency



from Mark Perry at his blog Carpe Diem, The current state of the US economy explained in one chart:

The fact that the US economy is producing 5.6% more output now than in 2007 with 2 million fewer workers would explain why corporate profits are at record levels and more than 40% above the pre-recession peak (not adjusted for inflation).

HKO comments:

The jobless recovery is the result of at least three factors:

  1. Technology has sharply reduced the man hours needed to make a profit.  Steel is made for a fraction of the manhours used decades ago. Think how much the high tech shopping experience of Amazon has replaced retail clerical and sales staff.  Think how many fewer workers are needed to download an iBook that to stock the displays at a retail book store.  Technology also reduces the demand for the lowest end of the pay scale.  While higher paid technical jobs are created, it is likely a fraction of the lower end jobs that are lost.
  2. Structural changes in the job market also reduce the demand for workers.  Construction has still not regained its precrash luster.  The misallocation of capital to the real estate market was very severe and will not likely be recouped anytime soon.  Our current market is closer to normal than the normal market people only wish for.  The new giants of Wall Street like Facebook, Google and Twitter need only a fraction of the workers that a single GM plant used to employ.
  3. Government policy such as higher minimum wages (41% increase in 2006-2008 just preceding the crash), extended unemployment benefits, generous disability settlement reduced the need to work, and the punitive ethos of Obamacare and other legislation and regulations reduces the incentive to hire.

We have a challenge to hire people who are not trained for today’s economy. Growth comes in spurts, but I believe that this economy is coiled ready to grow and hire the long term unemployed when the barriers are removed. This administration has a lot of policies to help the very poor and the very rich, but the middle class and the entrepreneurial class- which is the largest source of new jobs- has been sacrificed with the heaviest burdens of this administration’s polices.

The very wealthy have access to capital that the working wealthy do not.  When you float stock to finance a business you do not have to return the money or pay interest. Smaller businesses have a much harder time borrowing money, if they have the financial history to justify a line and very few do.  The crash of the housing market also destroyed the most common collateral small businessmen had.  This revealing chart is one sign of the gap between Wall Street and Main Street.

Many fellow employers lament that it is much harder to hire good workers now than when the unemployment rate was much lower.  This and the higher costs of workers as a result of government policy has driven many large employers to a much higher level of efficiency.  This was not likely the goal of these policies.

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Who Are the Unemployed?


At a business meeting we had an economist  share his views of the economy.  One comment he made was that only a minuscule portion of the unemployed were on government assistance.  I found this comment curious and certainly counterintuitive.

As it turns it is not so easy to measure the unemployed.  The data is based on two questions:

  1. Are you currently unemployed?
  2. Are you currently looking for a job?

This measurement does not measure those who are unemployed but no longer looking.

It does not measure the Labor Force Participation Rate (LFPR).

In spite of its imperfections, this is probably a fair measure. We certainly do not want to measure students and the retired. But what of the rest who are younger and capable of working and who have decided not to look for a job or participate in the labor market?

For the unemployment rate to be meaningful this means that when the unemployed person answers the phone and is asked whether he is looking for a job he is honest in his answer that he is not. One would expect a fair number to lie about this question, since their benefits usually require that they at least go through the motion to look for a job.

Economists use a broader measure called “U6 unemployment which includes some of the discouraged workers on welfare who have given up.  It’s sitting at 14% or so.  This number, however, is not a good number to use for policy decisions because it is too volatile and would lead to silly and overly dramatic policy choices. This is similar to why we use core CPI for inflation (removing volatile food and energy prices). “[i]

It is important that they use a consistent measurement because the critical information is the change in the number.  But it is important to realize that the labor statistics are sometimes challenging to get and that a single statistic only tells a part of the story.

To those like me who would believe that the generous unemployment benefits have acted as an incentive to increase unemployment, it would be more accurate to state that these benefits may have affected unemployment less but that they still affect the labor participation rate.

The labor participation rate is improving, but much more slowly and less dramatically than the unemployment numbers would indicate.


tips to Dr. Greg George, Economics professor at Macon state College for this clarification. Greg is also the Director and founding partner of the Center for Economic Analysis (CEA) housed in the School of Business at Macon State College.

[i]  Greg George, PhD