The Washington PostDemocracy Dies in Darkness

More on what’s up and what’s not in the current economy

Source: BLS, CBO, Levin
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On Wednesday, we talked economic tailwinds–things blowing our way, economically speaking. Today, it’s headwinds: what are some of the negative forces in play?

Trade deficit, stronger dollar: The relative strength of the U.S. economy, as noted above, is having the side effect of strengthening the dollar. The Federal Reserve’s plan to raise interest rates is also adding a bit to that trend. Against a broad index of our trading partners’ currencies, the dollar is up 16 percent over the past year and expected to climb higher. That makes our exports more expensive in foreign currencies and imports to us cheaper in dollars. That, in turn, raises the trade deficit and slows growth. Over the past year, the higher trade deficit has shaved about half a percent off of real GDP growth, and as the forecast below shows, that pattern is expected to continue and even deepen a bit.

Global weakness: When I speak of the “relative strength” of the U.S. economy, I’m also referring to ongoing and surfacing global weakness. China’s growth may have slowed by half, from around 10 percent to 5 percent per year. It’s the second largest economy, and so these effects of course reverberate. It’s one reason Brazil appears to have entered recession, though a huge corruption scandal involving its state-owned oil company is another big factor in play there. I also mention Europe above, currently growing a bit faster than 1 percent per year; ill-conceived austerity policies have played a significant role. Unemployment in the euro zone is about 11 percent; outside of Germany, it’s 13 percent. Our export share of GDP is around 13 percent, so we’re not hugely exposed directly to slower global growth (the indirect path of the dollar was noted above), but in an interconnected world, such dynamics are transmitted a lot more than they used to be.

Slack: Yes, employment’s growing at a decent clip, but we’re not at full employment. There are at least two relevant metrics here. First, as shown below, the employment rate—the share of this population at work—is still down significantly for “prime-age” workers (25-54), a useful group to look at because it excludes those aging out of the labor force. This proxy for labor demand has maybe gained almost half the ground it lost since the downturn.

Second, at the top of this post you’ll find the comprehensive slack measure derived by economist Andy Levin, which accounts for unemployment, underemployment, and the labor force gap (accounting for the part of the depressed labor force participation rate that’s not driven by boomers aging out of the workforce). Full employment by this metric corresponds to zero on the graph. For now, it’s showing that the equivalent of at least 2.4 percent of the labor force (at least 3.7 million people) are in one of these three categories.

It is very important to recognize that these metrics provide nuance you don’t get from the unemployment rate, and therefore they must be referenced by anyone trying to assess current labor market conditions.

Wages: To avoid any cherry picking, we combine the yearly changes in five wage and compensation series into an index. It’s basically been stuck at around 2 percent for six years. That underscores the slack point, by the way: if we were truly near full employment, there would be more pressure on employers to raise pay.

Low inflation: As mentioned Wednesday, price growth of near zero percent has been a boon for stretched paychecks, but it too is a symbol of slack and the lack of any demand-driven pricing or wage pressures. Such low inflation can also hurt the economy through two channels: one, it keeps real interest rates from falling further and stimulating more investment, and two, it fails to erode nominal debts, thus increasing leveraging horizons. Finally, both investors and firms set nominal profit targets, and slower than-expected-inflation leads to undershooting said targets, which in turn can generate amped up risk-taking and diminished investment.

Deep poverty: While I suspect we’ll soon learn from the Census Bureau that overall poverty may rates fell last year, deep poverty—the poverty of those least connected from the workforce—may not go down much at all. This relates in no small part to the shift in anti-poverty policy towards work-related benefits. That’s helpful if you’ve got a job. If not, other than nutritional and maybe some housing support, you’re largely on your own. (I’ll soon post a review of an important new book on this topic.)

Government dysfunction: Let us count the ways the dysfunctionistas could set back that nice list of positives above. The budget is due by the end of September—no budget and the government shuts down. There’s another debt ceiling coming up, maybe towards the end of this year, and—shudder—this one’s in an election year. There are already Republican candidates talking trash about how they’re going use the election as leverage to get what they want. And the Highway Trust Fund has been punted again; lawmakers at some point will have to stop kicking the can down the pothole-pocked road.

What should we expect in terms of growth?: Dress them up with all the econometrics you want, most forward-looking forecasts are derived largely from looks in the rear-view mirror. That’s why, especially at times like this, most forecasters expect things to continue apace. The Congressional Budget Office has the economy steadily trucking along at a 3 percent growth rate through 2016, a step up from where we’ve been through much of the recovery (the average growth over the recovery so far: 2.1 percent). Goldman Sachs Researchers see us sticking closer to that lower pace, around 2.3 percent through next year. One difference is that they give more weight–appropriately, I’d say–to the drag from the strong dollar, the trade deficit, and weaker economies around the globe.

I wouldn’t call either of those forecasts a slog but neither would I expect them to quickly absorb the labor market slack you see up above. The means wage growth may well putter along for awhile, with the recovery not reaching everyone it should be by now. End of the day, as I stressed Wednesday, we’ve got a uniquely resilient economy, one generating jobs and growth a lot more reliably than most others. But for a long time now, too little of that growth hasn’t reached middle and low-income households, and I don’t see that changing anytime soon.