Jobs Report Reflects Our Unstable Dollar
The financial markets were not thrilled with last Friday’s “Employment Situation” report from the Bureau of Labor Statistics (BLS). The Dow Jones Industrial Average fell by almost 1% on the day.
Friday’s BLS report basically represented a continuation of the “Obama New Normal.” Total employment increased slightly; while labor force participation (LFP) fell to 62.7%, the lowest such number since October 1977.
Most of the reported 0.2 percentage point decline in the “headline” unemployment rate came from people dropping out of the labor force. In fact, if LFP had remained constant at the level that it was when Bush 43 left office, December’s unemployment rate would have been 10.0%, rather than 5.6%.
During December, the number of full-time-equivalent (FTE)* jobs increased by 306,000, to 134.2 million. Before anyone gets too gleeful, it is important to realize that we still have 9,000 fewer FTE jobs than we had in November 2007. In the meantime, our working-age population has increased by 15.9 million.
On December 23rd, the Bureau of Economic Analysis (BEA) reported that real GDP (RGDP) in Q2 2014 and Q3 2014 increased at annual rates of 4.51% and 4.88%, respectively. Although RGDP numbers are not yet available for Q4 2014, the trend suggests that we are in an economic boom (a period during which RGDP is growing at 4%+).
The latest BLS numbers show that, even if the nation is experiencing an economic boom, workers are not. Assuming that the December CPI comes in at the same level as November, total annualized real wage growth for all workers over the last three calendar quarters will come in at only 2.52% (1.56% total employment growth plus 0.97% real weekly wage growth).
This suggests that, unless Q4 2014 RGDP contracted at an annualized rate of 1.83% (and, this is very unlikely), the share of GDP going to workers continued its long decline during December.
The hypothesis that profits have continued to gain ground relative to wages is supported by the action in the equity markets. Over the past three quarters, the CPI-adjusted Dow has increased at an annualized rate of 10.27%. This is much, much faster than either RGDP or real wages.
What seemed to unnerve the equity markets on Friday was the decline (-2.4%, annualized) reported for “Average Weekly Wages for All Employees,” which fell from $851.85 to $850.12. While the number was preliminary and subject to revision, it was jolting, because this is not supposed to happen when the unemployment rate is falling, and RGDP is growing rapidly.
However, wages are prices. If you think about what prices are, and how they are set, it would not be surprising if nominal wages did, in fact, fall in December. This would be a logical consequence of the unprecedented instability in the real value of the dollar that we have seen over the past ten years or so.
First of all, while average weekly wages declined by 0.20% in nominal terms during December, and fell by 1.42% in terms of gold, they rose by 10.39% in terms of the CRB Index*, and by 29.81% in terms of oil.
The comparison over the past six months is even more striking. The average worker’s weekly wages would buy 13.08% more gold, 35.08% more CRB Index commodity baskets, and 103.86% more barrels of oil in December than they would in June.
With all of the world’s major central banks conducting 100% discretionary monetary polices that are intended to be “accommodative” (whether they are so in fact, or not), gold has become the ultimate hedge against monetary, economic, and societal disaster. This has made the CRB Index (which includes gold) the best real-time indicator of the stance of monetary policy. As used here, money is “stable” when the CRB Index is level, “tight” when the CRB Index is falling, and “loose” when the CRB Index is rising.
Since June, the world’s central banks have tightened money (or rather, stared vacantly at short-term interest rates, while the markets tightened money). From June to December, the real value of the major world currencies in terms of the CRB Index rose as follows: U.S. dollar, +34.03%; euro, +18.54%; British pound, +22.14%; Japanese yen, +13.47%.
Tight money puts downward pressure on all prices, so it is not surprising to learn that U.S. wages fell slightly in December. And, it is not surprising to hear Europeans fretting about “deflation” when the ECB is, in fact, deflating by allowing the value of the euro to rise against the CRB Index. If the ECB wants to force Greece out of the Eurozone, this is a good way to do it. Heavily indebted nations cannot tolerate monetary deflation.
This having been said, whether for the U.S., Europe, or Japan, the solution to deflation is not inflation, but stable money. Unstable money is the biggest single cause of our economic woes.
Political progressives, led by President Obama, rail against “inequality,” but they strongly support the Fed’s “no rules” monetary policy, which has been the biggest single cause of rising inequality.
Since the end of the Bretton Woods gold standard, worker compensation has declined as a share of the economy, while corporate profits as a percent of GDP have risen. This is actually what you would expect.
Unstable money creates a new risk for capital investment. Risk equals cost, so this increases the cost of capital. Returns to capital must then rise, or investors won’t supply the capital that the economy needs to function. The higher returns demanded by capital have to come from somewhere, and they have been coming (in percentage terms) partly out of worker compensation.
A higher cost of capital means lower capital investment. This means lower RGDP growth and fewer, and lower paying, jobs.
At the start of the Bretton Woods period (Q1 1947), worker compensation claimed 48.91% of GDP and corporate profits took 9.01%. At the end of Bretton Woods (Q3 1971), these numbers were 49.89% and 5.35%, respectively. In other words, under the gold standard, the wage share went up, and the profit share went down.
In contrast, during the Obama recovery, the workers’ share of GDP has declined from 43.63% (Q2 2009) to 42.38% (Q3 2014), while profits have risen from 7.81% of GDP to a 68-year high of 10.76%.
High margins would normally attract capital investment in new capacity (and new companies) to compete with existing producers. However, unstable money makes people afraid—justly afraid—to invest. With an unanchored currency, there is no way to know whether the prices upon which you are basing your investment are “real.” This creates the danger that your investment will turn out to be “malinvestment” when the Federal Reserve changes course again.
Investors in crude oil production in the U.S. are the latest to experience this painful lesson. From June to December, crude oil prices fell by 50.56%. About half this was the result of the dollar rising against the CRB Index, and about half of it was the result of oil prices falling with respect to other commodities.
In terms of its 10-year average vs. the CRB Index, oil was 28.4% overvalued in June and 14.9% undervalued in December. This suggests that, against the latest CRB Index value (225.57 as of 1/9/15), crude oil “should” be selling for $63.70/bbl, rather than for under $50.00/bbl.
If the Fed allows money to continue to tighten, they will eventually produce another painful and unnecessary recession. The Fed should immediately take action to bring the CRB Index back up into the range of 300, and it should keep it at that level thereafter.
To do this, the Fed has to be able to increase the total supply of liquid, risk-free, dollar-denominated assets. These are the assets that are considered by the market to be “cash equivalents.” To do what the Fed has been doing with its “quantitative easing,” simply making one-to-one substitutions of one such asset (bank reserves) for others (Treasury securities and federally-guaranteed mortgage-backed securities), does no good, and may even be counterproductive.
In the “good old days,” the Fed could just create $1 of new bank reserves, and rely upon our fractional-reserve banking system to take that dollar and multiply it into $10 of demand deposit balances. The result was that the net supply of liquid, risk-free, dollar-denominated assets increased by $9 for every $1 of new monetary base that the Fed created.
Unfortunately, those days are long gone. With the Fed paying “interest on reserves” (IOR) at a rate far above the Treasury yield curve (25 bp vs. 2 bp for 90-day Treasuries), and with $2.5 trillion of excess reserves in the system, creating $1 of new monetary base has no impact on the total supply of liquid, risk-free, dollar-denominated assets. In other words, more QE would do nothing.
To get control of the real value of the dollar and thereby do its basic job, the Fed must either end IOR, or it must start doing what it did during QE1, which is to buy “risk” assets. Doing either or both of these would permit the Fed to influence the total supply of liquid, risk-free, dollar-denominated assets, and this would make it possible for the Fed to stabilize the value of the dollar in terms of the CRB Index. Until the Fed changes its operating procedures, it will be doing the equivalent of trying to steer a car with the rearview mirror.
The ECB and the Bank of Japan have a similar problem. Under current market conditions, the operating procedures that they are following do not give them control of the total supply of liquid, risk-free assets denominated in their currencies. Thus, even though they believe that they are waging all-out wars on deflation, the ECB and the Bank of Japan have, in fact, been allowing the real values of the euro and the yen to rise (in terms of the CRB Index).
If we are to have booming economies, jobs for everyone, rising wages, and declining inequality, the world’s central banks, starting with the Federal Reserve, must stabilize their currencies. Under current circumstances, the right “monetary rule” for the Fed would be, “bring the CRB Index up to 300 and keep it there forever.”
*FTE (full-time-equivalent) jobs = full-time jobs + 0.5 part-time jobs
**The CRB Index is a commodity price index comprising: Aluminum, Cocoa, Coffee, Copper, Corn, Cotton, Crude Oil, Gold, Heating Oil, Lean Hogs, Live Cattle, Natural Gas, Nickel, Orange Juice, Silver, Soybeans, Sugar, Unleaded Gasoline, and Wheat.