ECONOMETER

Over recent weeks various officials have highlighted signs of stabilisation in economic conditions.  Indeed, economic data have been coming in less bad than feared. Nonetheless, one indicator is likely to take a considerably longer time than others to turnaround.  The jobs market is set to continue to deteriorate globally for many months after other economic indicators stabilise.  In the US the pace of lay offs has been dramatic, with 5.1 million jobs lost since December 2007 and 2/3 of these registered in the last five months alone.
 

The US unemployment rate currently at 8.5% is set to move to potentially as high as 10%, with the change in the rate from its cycle low already greater than any time since WW2.  The contraction in the economy points to much further job losses in the months ahead.  The good news is that a smaller pace of economic contraction ought to result in smaller declines in payrolls over the coming quarters and this implies a decline from the Q1 monthly average of 685,000 job losses.  Nonetheless, this doesn’t mean there will be a quick improvement either. 

There are several other implications of rising unemployment.  If the unemployment rate does reach 10% it would match the worst case scenario visualized in the Fed’s stress tests for US banks.  Rising unemployment would imply not only less consumer spending, but more loan defaults, more writedowns and more pressure on bank balance sheets.  Just look at the massive provisions that some US banks have built into their forecasts for the months ahead.  The likely slower pace of economic recovery compared to past recessions suggests that any improvement in the labour market will also be more gradual. 

Another dimension to the deterioration in the jobs market underway at present is the growing number of temporary and/or contract workers that are being layed off.  A broad US government definition estimates that such workers account for around 31% of the labour market.   If the losses in these jobs are accounted for the unemployment rate could be as high as 15.6% according to the US Bureau of Labour Statistics.   This suggests that the economic impact of rising job losses may be much more severe than predicted.

And finally the effect of rising unemployment on wage pressures should not be ignored.   Many employers are not only shedding staff but also cutting wages.  Moreover, a looser labour market in general plays negatively for wages as the demand for labour decreases.   Easing wage pressures is good for dampening inflation pressures but in the current environment it could fuel further fears about deflation, which in turn could be extremely negative for the economy. In the worst case scenario it could even end up as a 1990s Japanese scenario of a downward deflationary spiral which ultimately crippled the economy for a whole decade.   Let’s hope not.