Showing posts with label Secular stagnation. Show all posts
Showing posts with label Secular stagnation. Show all posts

Saturday, April 17, 2021

17/4/21: Collapsing Labor Force Participation: A Secular Trend

 

For those of you following this blog this would be a familiar sight: I have been worrying about the underlying structure of the U.S. labor markets for some time now. The ongoing recovery appears to be relatively robust in terms of headline figures, e.g. GDP growth rates and declining continued unemployment claims. But in reality, it has been nothing but the return to trends that persisted before the pandemic - trends that are extremely worrying.

I covered the fact that longer term unemployment has now gone through the roof: https://trueeconomics.blogspot.com/2021/04/14421-share-of-those-in-unemployment-27.html. And beyond this, there is a bigger problem of historically low levels of labor force participation. We are witnessing a massive pull-away within the skills distribution in the U.S. economy: there are shortages of skilled labor, including in manufacturing, and there is massive outflow of people from the labor markets in lower skills groups.


Just look at the absolute disaster of the 'recovery' when it comes to people who have left the workforce alltogether:


And consider the gender mix in this: 

1. Women labor force participation is down:

2. Men participation has collapsed:

The above appears to show more benign trend in female labor force participation trend than in male, and... here comes the kicker: women labor force participation currently sits around the levels comparable to 1987; men - at around ... well... never.


The above table puts matters into perspective: the gap between the pandemic period and prior high participation period is almost 5 times larger for men than for women. But... the gap between women and men participation rates in the pandemic period and pre-pandemic period is much smaller: at roughly 48% higher for men than for women. For the latest data point (March 2021) the latter gap is roughly 80%. In other words, the dynamics in terms of labor force participation for women are becoming much less benign, relative to men. than they were during the pre-pandemic period.

To put this into a different perspective: secular pre-pandemic trend for men were woeful. They were less so for women. But pandemic is accelerating longer term pressures on both men and women in pushing them out of the labor force.

If you think this is a 'robust' recovery, you really need to think a bit harder: we are having a secular stagnation in the female labor force and we are having a long term depression in the male labor force. And these trends are not subject to demographics of aging. 

Friday, November 13, 2020

13/11/20: The economy has two chronic illnesses (and neither are Covid)

My column for The Currency this week covers two key long-term themes in the global economy that pre-date the pandemic and will remain in place well into 2025: the twin secular stagnations hypotheses and the changing nature of the productivity. The link to the article is here; https://thecurrency.news/articles/28224/the-economy-has-two-chronic-illnesses-and-neither-are-covid/


 

Tuesday, November 3, 2020

2/11/2020: Technological Deepening and De-globalization post-COVID

Interesting insights from McKinsey on changes in technology adoption in response to COVID19 pandemic:


In the ed, I marked two types of technological frontier shifts: the ones relating to displacement of status quo-ante in supply chains - re-orientation from China; and the ones relating to technological deepening. Both are the legacy of the U.S. political and economic shift toward de-globalization. 

Wednesday, January 29, 2020

28/1/20: The Precariat of America's Workampers


Precariat is defined as "a social class formed by people suffering from precarity, which is a condition of existence without predictability or security, affecting material or psychological welfare. The term is a portmanteau obtained by merging precarious with proletariat." [Source]

Here is a very interesting article chronicling journalist's experience with the "Workampers", or a large number of Americans living in the world of campers, RVs and seasonal jobs: https://www.marketwatch.com/story/many-older-americans-are-living-a-desperate-nomadic-life-2017-11-06. Many are undoubtedly victims to the age discrimination that adversely impacts Americans after the age of 50, despite the pro forma legal bans against discrimination on the grounds of age.

Tuesday, January 21, 2020

21/1/20: US Deficits, Growth and Money Markets Woes


My article for The Currency on the effects of the U.S. fiscal profligacy on global debt and money markets is out: https://www.thecurrency.news/articles/7371/the-us-deficit-has-topped-1-trillion-and-investors-should-be-worried.

Key takeaways:

"As the Trump administration continues along the path of deficits-financed economic expansion, the question that investors must start asking is at what point will debt supply start exceeding debt demand, even with the Fed continuing to throw more cash on the fiscal policies bonfire?"


"In the seven years prior to the crisis of 2008-2012, US economic growth outpaced US budget deficits by a cumulative of $1.56 trillion. This period of time covers two major wars and associated war time spending increases, as well as the beginnings of the property markets and banking crises in 2007.

"Over the last seven years since the end of the crisis, US economic growth lagged, on a cumulated basis, fiscal deficits by $928 billion, despite much smaller overseas military commitments and a substantially improved employment outlook.

"These comparatives are even more stark if we are to look at the last three years of the Obama Administration set against the first three years of the Trump Presidency. During the 2014-2016 period, under President Barack Obama, US deficits exceeded increases in the country’s GDP by a cumulative amount of $226 billion. Over the 2017-2019 period, under  Trump’s tenure in the White House, the same gap more than doubled to $525 billion.

"No matter how one spins the numbers, two things are now painfully clear for investors. One: irrespective of the stock market valuations metrics one chooses to consider, the most recent bull cycle in US equities has nothing to do with the US corporate sector being the main engine of the economic growth. Two: the official economic figures mask a dramatic shift in the US economy’s reliance on public sector deficits since the end of the crisis, and the corresponding decline in the importance of the private sector activity."


Friday, January 10, 2020

10/1/20: Eight centuries of global real interest rates


There is a smashingly good paper out from the Bank of England, titled "Eight centuries of global real interest rates, R-G, and the ‘suprasecular’ decline, 1311–2018", Staff Working Paper No. 845, by Paul Schmelzing.

Using "archival, printed primary, and secondary sources, this paper reconstructs global real interest rates on an annual basis going back to the 14th century, covering 78% of advanced economy GDP over time."

Key findings:

  • "... across successive monetary and fiscal regimes, and a variety of asset classes, real interest rates have not been ‘stable’, and...
  • "... since the major monetary upheavals of the late middle ages, a trend decline between 0.6–1.6 basis points per annum has prevailed."
  • "A gradual increase in real negative‑yielding rates in advanced economies over the same horizon is identified, despite important temporary reversals such as the 17th Century Crisis."

The present 'abnormality' in declining interest rates is not, in fact 'abnormal'. Instead, as the author points out: "Against their long‑term context, currently depressed sovereign real rates are in fact converging ‘back to historical trend’ — a trend that makes narratives about a ‘secular stagnation’ environment entirely misleading, and suggests that — irrespective of particular monetary and fiscal responses — real rates could soon enter permanently negative territory."

Two things worth commenting on:

  1. Secular stagnation: in my opinion, interest rates trend is not in itself a unique identifier of the secular stagnation. While interest rates did decline on a super-long trend, as the paper correctly shows, the broader drivers of this decline can be distinct from the 'secular stagnation'-linked declines in productivity and growth. In other words, at different periods of time, different factors could have been driving the interest rates declines, including higher (not lower) productivity of the financial system, e.g. development of modern markets and banking, broadening of capital funding sources (such as increase in merchant classes wealth, emergence of the middle class, etc), and decoupling of capital supply from the gold standard (which did not happen in 1973 abandonment of formal gold standard, but predates this development by a good part of 60-70 years).
  2. "Permanently negative territory" for interest rates forward: this is a major hypothesis from the perspective of the future markets. And it is consistent with the secular stagnation, as availability of capital is now being linked to the monetary expansion, not to supply of 'organic' - economy-generated - capital.


More hypotheses from the author worth looking at: "I also posit that the return data here reflects a substantial share of ‘non‑human wealth’ over time: the resulting R-G series derived from this data show a downward trend over the same timeframe: suggestions about the ‘virtual stability’ of capital returns, and the policy implications advanced by Piketty (2014) are in consequence equally unsubstantiated by the historical record."

There is a lot in the paper that is worth pondering. One key question is whether, as measured by the 'safe' (aka Government) cost of capital, the real interest rates even matter in terms of the productive economy capital? Does R vs G debate reflect the productivity growth or economic growth and do the two types of growth actually align as closely as we theoretically postulate to the financial assets returns?

The macroeconomics folks will call my musings on the topic a heresy. But... when one watches endlessly massive skews in financial returns to the upside, amidst relatively slow economic growth and even slower real increases in the economic well-being experienced in the last few decades, one starts to wonder: do G (GDP growth) and R (real interest rates determined by the Government cost of funding) matter? Heresy has its way of signaling unacknowledged reality.

Saturday, July 13, 2019

13/7/19: A New Era of Entrepreneurship? Not in Data so Far...


We are living in the Great New Era of Entrepreneurship that started in 2013 (according to someone at Forbes) and the academia is pumping high entrepreneurship training and education (the Golden Era, according to some don from Stanford). Living in all of this 'game changing' stuff around you can be daunting, inducing FOMO and other behavioural nudges toward dropping everything and launching that new unicorn doing something disruptive and raking in the miracle dollars that everyone around you seems to be minting out of thin air. Right?

Well, not so fast. Here's the data from the U.S. - that 'super-charged engine of enterprising folks':


Hmm... anyone can spot the 'New Era' in entrepreneurship out there, other than the one with historically low rates of business creation?

Wednesday, July 10, 2019

10/7/19: Financialising Stagnant Growth: From Japanified Economy to Christine Lagarde


Monetary policy since the GFC of 2008 has been characterised by the near-zero (and even negative) policy rates, negative bank rates, negative Government debt yields and rampant asset price inflation. The result has been zombification of the advanced economies.

Here is the latest advanced estimate of the Eurozone real GDP growth based on the CEPR/Banca d'Italia Eurocoin indicator:
Current forecast for 2Q 2019 growth in the Eurozone, based on Eurocoin indicator is for 0.17% q/q expansion. June Eurocoin sits at 0.14%, the lowest since September 2013. The growth rate forecast has now been sub-0.25% (below 1% annual) in five months (through June 2019) and counting. Meanwhile, the link between growth and inflation has been weakening, as shown in the chart below:


Both, from the point of view of view of the current data relative to 1Q 2019 and to 2Q 2018 and to Q1 2018, growth rates are shrinking, per above. The ECB, however, remains stuck in the proverbial hard corner (chart next):

 Five years into zero policy rates, inflation is gradually creeping up (chart above), but growth is nowhere to be seen (chart next):

Worse, tangible fundamentals (captured by the models, like Eurocoin) of economic growth are becoming less and less consistent with actual growth outruns - a feature of the economy that is becoming dependent on things other than real investment and real demand for generating expansion in GDP. Both, the chart above and the chart below, highlight this troubling fact.
All of this suggests that we are in the period in economic development that is fully consistent with the secular stagnation thesis: traditional tools of monetary and fiscal policies are no longer sufficient in generating real economic growth. Instead, these tools help sustain economies overloaded with debt. It is an extend-and-pretend model of economic development: as long as corporates and households can be supported in carrying existent debt loads through monetary accommodation, the economy remains afloat (no recession, nor crisis blowout), but the levels of debt are so prohibitively high that no new debt can be accumulated to generate economic expansion.

The markets know as much. Investors know that zombie loans (loans with no capacity of servicing them should interest rates rise) mean zombie banks. Zombie banks mean zombie new borrowing markets. Zombie new borrowing markets mean zombie real investment by households and companies. Zombie investment means zombie demand. Zombie demand means deflationary supply. Rinse and repeat.

This knowledge in the markets is tangible. It takes a change in investors expectations (as in recent changes in outlook toward the reversal of the monetary tightening in the U.S. and Europe) to reprice assets. No actual value added growth enters the equation. Assets are no longer being priced on their productive capacity. And the markets are now fully finacialised. Which is to say, they are now fully monetary policy-driven.

Enter Christine Lagarde, the new head of the ECB. Lagarde's appointment is hardly an accident or a politically correct nod to women in leadership. It is the only logical choice of the financialised zombie economics of the monetary policy. To re-start borrowing or debt cycle, the EU is hoping for mutualisation of the sovereign debt markets. In other words, it is hoping to leverage the only unencumbered asset the EU still has: surplus countries' bonds. Lagarde's job at the ECB will be to run the creation of the eurobonds, bonds that will proportionally link euro area members' bonds into a single product to be monetised by the ECB as a support for market pricing. There is probably EUR 2-3 trillion worth of the international and monetary demand for these, opening up the room for more borrowing and more fiscal spending.

Wednesday, June 12, 2019

Monday, May 27, 2019

27/5/19: Which part of the Federal spending poses a greater fiscal threat?


An interesting chart via Cato on the number of Federal state aid programs in the U.S.


The grand total of these programs in terms of annual spending is roughly US$697 billion. The issue here is that these programs are continuing to increase in scale and scope despite the so-called 'strongest economy, ever' (excluding the recent changes under the Trump Administration that propose significant cuts to some of these programs on the social welfare, public health and education sides for Budget 2020) .

Here is the summary of the main program headlines and outlays:
Source for both charts: https://object.cato.org/sites/cato.org/files/pubs/pdf/pa868.pdf

Nonetheless, whether or not the state supports and welfare entitlement programs can be afforded into the future (yes, demographics of ageing are driving up the demand for many of these programs, while also making them more politically feasible with older voters, yet reducing the capacity of the economy to carry these increases), the major issue that is left un-addressed by the American analysts is the overall composition of the U.S. Federal spending.

As discussed in this article: https://bit.ly/2VU39Hj, current 2020 budgetary outlook envisions a massive increases in military spending, offset by the reductions in assistance to the low income families, education and public health. Here is the summary slide on this from my new course slides on the subject of the Twin Secular Stagnations:


The key quote from the above: "In fact, the proposed FY2020 military and war budget makes up $989 billion of the Federal Government’s $1,426 billion Discretionary Budget. This represents a staggering 69 percent of the total Federal Discretionary Budget for FY2020!"

No matter how concerned we might be with the sustainability of the Federal fiscal policies, transfers to the States from Washington are, de facto, a form of local monetization of the Fed monetary policies, some of which is being cycled into state-level investments in public infrastructure and education, as well as public health. Pentagon's spending, in contrast, carries virtually no investment-like benefit for the rest of the society, and much of the 'securing our nation' argument in favor of spending almost a trillion dollars on weaponry and military personnel is bogus as well (unless you still, for some unfathomable reason, believe that demolishing Libya or Syria are of some benefit to the actual American society or that the likes of Iraq and Iran pose a truly existential threat to America).

Saturday, April 6, 2019

6/4/19: Industrial Production and Global Trade are Tanking


The great convergence of simultaneously declining global trade flows and industrial production:

Via topdowncharts.com

The trend is also evident from the global manufacturing and composite PMIs (see https://trueeconomics.blogspot.com/2019/04/4419-bric-manufacturing-pmis-for-1q.html and https://trueeconomics.blogspot.com/2019/04/6419-bric-services-lead-manufacturing.html).

Note the range bounds for two periods (pr-GFC and post-GFC) in the first chart above.

Sunday, February 24, 2019

24/2/19: Buybacks vs Capex


U.S. corporates spending or 'investing' over the last 10 years:

  • CapEx ($6.4T), including often non-productive M&As
  • Buybacks ($4.9T) and 
  • Dividends ($3.4T) 


via @mbarna6

Just another reminder why productivity growth is not being aided by cheap credit.

Thursday, November 15, 2018

15/11/18: The 'New Normal' is a Road to another Tech Sector Bust


The VC land of wonders and waste is awash with cash, thanks to a decade-long loose liquidity pumping across the markets by the Central Banks. Just as in the prior iterations of the same (the Dot.Com Bubble and the pre-GFC assets binge), the outrun will be the same as it was before: a crash.

TechCrunch reports that (https://techcrunch.com/2018/11/11/age-of-the-unicorn/):

  • Over the last 5 years, the number of 'unicorns' - startups with valuations in excess of USD1 billion - has grown from 39 to 376 - almost a ten-fold increase
  • The rate of 'unicorns' emergence is accelerating: in 11 months through November 1, 2018, we've added 81 new 'unicorns' to the roster, which means there is now a new 'unicorn' company launched every four days
  • Mega-deals for start ups - funding rounds in excess of USD100 million - are also on the rise, with their frequency up ten-fold on five years ago. "Back in 2013, there were only about four mega rounds a month, but now there are forty mega rounds a month based..." Thus, "starting from 2015, public market IPO has for the first time no longer been the major funding source for unicorn size companies."

As the chart above shows, there has been a power-law acceleration in the trend since mid-2017 and it is now clearly topping the asymptote.

Two countries dominate the 'unicorns' league: China (with 149 count) and the U.S. (with 146 count). Which implies two things: 
  • Given the close links between the PBOC policies, Chinese Government investment strategies and supports, and China's counts of 'unicorns', majority of these start ups are heavily dependent on debt, and political good will. They are sitting ducks for ESG risks and are extremely exposed to political and policy uncertainty.
  • The U.S. 'unicorns' are completely dependent on the markets ability to cycle cash from corporate and financial sectors debt and private equity into start ups funding, and M&As. There is zero rational valuation happening in this sub-sector.
A dramatic shift in risks from tangible tangible technologies (including strongly patentable innovation or defensible market shares) of the likes of Apple and Google toward less tangible, highly price and income elastic SaaS types of product offers is reflecting the massive buildup in valuations risks. This too is reflected in the article, albeit the authors fail to spot the implications. TechCrunch conclusion is perhaps even more alarming that the stats they present. "Mega rounds are the new normal; staying private longer is the new normal; and the global composition of the unicorn club is the new normal." We've heard exactly the same arguments at the tail end of the Dot.Com boom about the absurdly over-valued early internet age companies. We've heard exactly the same arguments about the real estate sector prior to 2008. We've heard exactly the same arguments about tulip bulbs in Amsterdam some centuries ago too. 

'The new normal' is the old road to a bust.

Friday, October 19, 2018

19/10/18: IMF's Woeful Record in Forecasting: Denying Secular Stagnation Hypothesis


A recent MarketWatch post by Ashoka Mody, @AshokaMody, detailing the absurdities of the IMF growth forecasts is a great read (see https://www.marketwatch.com/story/the-imf-is-still-too-optimistic-about-global-growth-and-thats-bad-news-for-investors-2018-10-15?mod=mw_share_twitter).  Mody's explanation for the IMF forecasters' failures is also spot on, linking these errors to the Fund's staunch desire not to see the declining productivity growth rates (aka, supply side secular stagnation).

So, to add to Mody's analysis, here are two charts showing the IMF's persistent forecasting errors over the last four years (first chart), set against the trend and the cumulative over-estimate of global economic activity by the Fund since mid-2008 (second chart):




While the first chart simply plots IMF forecasting errors, the second chart paints the picture fully consistent with Mody's analysis: the IMF forecasts have missed global economic activity by a whooping cumulative USD10 trillion or full 1/8th of the size of the global economy, between 2008 and 2018. These errors did not occur because of the Global Financial Crisis and the high degree of uncertainty associated with it. Firstly, the forecasting errors relating to the GFC have occurred during the period when the crisis extent was becoming more visible. Secondly, post GFC, the hit rates of IMF forecasts have deteriorated even more than during the GFC. As Mody correctly points out, Fund's forecasts got progressively more and more detached from reality.

At this stage, looking at April and October 2018 forecasts from the Fund's WEO updates implies virtually zero credibility in the core IMF's thesis of a 'soft landing' for the global economy over 2019-2021 time horizon.

Tuesday, September 11, 2018

11/9/18: Slow Recoveries & Unemployment Traps: Hysteresis and/or Secular Stagnation


The twin secular stagnations hypothesis (TSSH, first postulated on this blog) that combines supply-side (technological cyclicality) and demand-side (demographic cyclicality) arguments for why the world economy may have settled on a lower growth trajectory than the one prevailing before 2007 has been a recurrent feature of a number of my posts on this blog, and has entered several of my policy and academic research papers. Throughout my usual discourse on the subject, I have persistently argued that the TSSH accommodates the view that the Global Financial Crisis and the associated Great Recession and the Euro Area Sovereign Crisis of 2007-2014 have significantly accelerated the onset of the TSSH. In other words, TSSH is not a displacement of the arguments that attribute current economic dynamics (slow productivity growth, slower growth in the real economy, reallocation of returns from labour and human capital to technological capital and, more significantly, the financial capital) to the aftermath of the structural crises we experienced in the recent past. The two sets of arguments are, in my view, somewhat complementary.

From this later point of view, a research paper, "Slow Recoveries & Unemployment Traps: Monetary Policy in a Time of Hysteresis" by Sushant Acharya, Julien Bengui, Keshav Dogra, and Shu Lin Wee (August 2018 https://sushantacharya.github.io/sushantacharya.github.io/pdfs/hysteresis.pdf) offers an interesting read.

The paper starts with the - relatively common in the literature - superficial (in my opinion) dichotomy between the secular stagnation hypothesis and the "alternative explanation" of the slowdown in the economy, namely "that large, temporary downturns can themselves permanently damage an economy’s productive capacity." The latter is the so-called 'hysteresis hypothesis', "according to which changes in current aggregate demand can have a significant effect on future aggregate supply" which dates back to the 1980s. The superficiality of this dichotomy relates to the causal chains involved, and to the impact of the two hypotheses.

However, as the authors note, correctly: "While the two sets of explanations may be observationally similar, they have very different normative implications. If exogenous structural factors drive slow growth, countercyclical policy may be unable to resist or reverse this trend. In contrast, if temporary downturns themselves lead to persistently or permanently slower growth, then countercyclical policy, by limiting the severity of downturns, may have a role to play to avert such adverse developments."

The authors develop a model in which countercyclical monetary policy can "moderate" the impact of the sudden, but temporary large downturns, i.e. in the presence of hysteresis. How does this work?

The authors first describe the source of the deep adverse shock capable of shifting the economy toward long-term lower growth rates: "in our model, hysteresis can arise because workers lose human capital whilst unemployed and unskilled workers are costly to retrain". This is not new and goes back to the 1990s work on hysteresis. The problem is explaining why exactly such deep depreciation takes place. Long unemployment spells do reduce human capital stock for workers, but long unemployment spells are feature of less skilled workforce, so there is less human capital to depreciate there in the first place. Retraining low skilled workers is not more expensive than retraining higher skilled workers. In fact, low skilled workers seek low skilled jobs and these require only basic training. It is quite possible that low skilled workers losing their jobs today are of certain demographic (e.g. older workers) that reduces the effectiveness of retraining programs, but that is the TSSH domain, not the hysteresis domain.

One thing that does help this paper's hypothesis is the historical trend of growing duration of unemployment, e.g. discussed here: http://trueeconomics.blogspot.com/2017/07/27717-us-labor-markets-are-not-in-rude.html and the associated trend of low labour force participation rates, e.g. discussed here: http://trueeconomics.blogspot.com/2018/06/8618-human-capital-twin-secular.html. I do agree that unskilled workers are costly to retrain, especially in the presence of demographic constraints (which are consistent with the secular stagnation on the demand side).

But, back to the authors: "... large adverse fundamental shocks can cause recessions whose legacy is persistent or permanent unemployment... Accommodative policy early in a recession can prevent hysteresis from taking root and enable swift a recovery. In contrast, delayed monetary policy interventions may be powerless to bring the economy back to full employment."

"As in Pissarides (1992), these features [of long unemployment-induced loss of human capital, sticky wages that prevent wages from falling significantly during the downturns, costly search for new jobs, and costly retraining of workers] generate multiple steady states. One steady state is a high pressure economy: job finding rates are high, unemployment is low and job-seekers are highly skilled. While tight labor markets - by improving workers’ outside options - cause wages to be high, firms still find job creation attractive, as higher wages are offset by low average training costs when job-seekers are mostly highly skilled." Note: the same holds when highly skilled workers labour productivity rises to outpace sticky wages, so one needs to also account for the reasons why labour productivity slacks or does not keep up with wages growth during the downturn, especially when the downturn results in selective layoffs of workers who are less productive ahead of those more productive. Hysteresis hypothesis alone is not enough to do that. We need fundamental reasons for structural changes in labour productivity that go beyond simple depreciation of human capital (or, put differently, we need something similar to the TSSH).

"The economy, however, can also be trapped in a low pressure steady state. In this steady state, job finding rates are low, unemployment is high, and many job-seekers are unskilled as long unemployment spells have eroded their human capital. Slack labor markets lower the outside options of workers and drive wages down, but hiring is still limited as firms find it costly to retrain these workers." Once again, I am not entirely convinced we are facing higher costs of retraining low skilled workers (as argued above), and I am not entirely convinced we are seeing the problem arising amongst the low skilled workers to begin with. Post-2008 recovery has been associated with more jobs creation in lower skilled categories of jobs, e.g. hospitality sector, restaurants, bars, other basic services. These are low skilled jobs which require minimal training. And, yet, we are seeing continued trend toward lower labour force participation rates. Something is missing in the argument that hysteresis is triggered by cost of retraining workers.

Back to the paper: "Importantly, the transition to an unemployment trap following a large severe shock can be avoided. If monetary policy commits to temporarily higher inflation after the liquidity trap has ended, it can mitigate both the initial rise in unemployment, and its persistent (or permanent)
negative consequences. Monetary policy, however, is only effective if it is implemented early in the downturn, before the recession has left substantial scars... [otherwise] ...fiscal policy, in the form of hiring or training subsidies, is necessary to engineer a swift recovery."

The paper tests the model in the empirical setting. And the results seem to be plausible: "allowing for a realistic degree of skill depreciation and training costs... is sufficient to generate multiple steady states.... this multiplicity is essential in explaining why the unemployment rate in the U.S. took 7 years to return to its pre-crisis level. In contrast, the standard search model without skill depreciation and/or training costs predicts that the U.S. economy should have fully recovered by 2011. ...the model indicates that had monetary policy been less accommodative or timely during the crisis, leading to a peak unemployment rate higher than 11 percent, the economy might have been permanently scarred and stuck in an unemployment trap. Furthermore, our model suggests that the persistently high proportion of long-term unemployed in the European periphery countries may reflect a lack of timely monetary accommodation by the European Central Bank."

Fraction of Long-term unemployed (>27 weeks) in select countries. 
The figure plots five quarter moving averages of quarterly data. 
The dashed-line indicates the timing of Draghi’s “whatever it takes” speech. 


Source: Eurostat and FRED.

This seems quite plausible, even though it does not explain why eventual 'retraining' of low skilled workers is still not triggering substantial increases in labour productivity growth rates in Europe and the U.S.

One interesting extension presented in the paper is that of segmented labour markets, or the markets where "employers might be able to discern whether a worker requires training or not based on observable characteristics - in particular, their duration of unemployment... [so that, if] skilled and unskilled workers searched in separate markets, the economy would still be characterized by hysteresis, but it would take a different form. There are two possibilities to consider. [If] ... the firm’s share of the surplus from hiring an unskilled worker, net of training costs, is large enough to compensate firms for posting vacancies in the unskilled labor market, ...after a temporary recession which increases the fraction of unskilled job-seekers, it can take a long time for these workers to be reabsorbed into employment. Firms prefer to post vacancies in the market for skilled job-seekers rather than the market for unskilled job-seekers in order to avoid paying a training cost. With fewer vacancies posted for them, unskilled job-seekers face a lower job-finding rate and thus, the outflow from the pool of unskilled job-seekers is low. In contrast, the skilled unemployment rate recovers rapidly - in fact, faster than in the baseline model with a single labor market... [Alternatively], the segmented labor markets economy could experience permanent stagnation, rather than a slow recovery, [if] unskilled workers are unemployable, since firms are unwilling to pay the cost of hiring and training these workers. Thus unskilled workers effectively drop out of the labor force."

We do observe some of the elements of both such regimes in the advanced economies today, with simultaneous increasing jobs creation drift toward lower-skilled, slack in supply of skills as younger, educated workers are forced to compete for lower skilled jobs, and a dropout rate acceleration for labour force participation. Which suggests that demographics (the TSSH component, not hysteresis component) is at play at least in part in the equation.


In summary, a very interesting paper that, in my opinion, adds to the TSSH arguments a new dimensions: deterioration in skills due to severity of a demand shock and productivity shock. It does not, however, contradict the TSSH and does not invalidate the key arguments of the TSSH. As per effectiveness of monetary or monetary-fiscal policies in combatting the long-term nature of the adverse economic equilibrium, the book remains open in my opinion, even under the hysteresis hypothesis: if hysteresis is accompanied by a permanent loss of skills twinned with a loss of productivity (e.g. due to technological progress), adverse demographics (older age cohorts of workers losing their jobs) will not be resolved by a training push. You simply cannot attain a catch up for the displaced workers using training schemes in the presence of younger generation of workers competing for the scarce jobs in a hysteresis environment.

And the Zero-Lower Bound on monetary policy still matters: the duration of the hysteresis shock will undoubtedly create large scale mismatch between the sovereign capacity to fund future liabilities (deficits) and the longer-run inflationary dynamics implied by the extremely aggressive and prolonged monetary intervention. In other words, large enough hysteresis shock will require Japanification of the economy, and as we have seen in the case of Japan, such a scenario does not lead to the economy escaping the TSSH or hysteresis (or both) trap even after two decades of aggressive monetary and fiscal stimuli.

Friday, August 24, 2018

24/8/18: The Fed Bites the Bullet on Secular Stagnation


And just like... Federal Reserve Chair confirms the Twin Secular Stagnation Hypotheses in one paragraph of his speech:


Per Powell, "the U.S. economy faces a number of longer-term structural challenges ... For example, real wages, particularly for medium- and low-income workers, have grown quite slowly in recent decades. Economic mobility in the United States has declined and is now lower than in most other advanced economies.2 Addressing the federal budget deficit, which has long been on an unsustainable path, becomes increasingly important as a larger share of the population retires. Finally, it is difficult to say when or whether the economy will break out of its low-productivity mode of the past decade or more, as it must if incomes are to rise meaningfully over time."

For those who might want to read about an even more fundamental (and causally linked to the Powell's challenges) structural decline in the Cayman Financial Review here: http://trueeconomics.blogspot.com/2018/08/18818-monpolization-trends-in-advanced.html.

What is note worthy in Powell's passage is the words "in recent decades". Powell is correct (and I pointed this fact out on a number of occasions) that the adverse trends in the U.S. economy have been present for much longer than the post-Global Financial Crisis shocks residual effects. The economic stagnation (expressed in the abysmally low growth rates of economic prosperity for the lower 90 percent of the American population; in woefully slow expansion in productivity, compared to historical trends; in structurally less competitive nature of the economy and growing monopolization and oligopolization of the U.S. markets; in reduced physical and social mobility; in falling pensions savings provisions for the majority of the U.S. population; and so on) has pre-dated the GFC and its roots rest much deeper than the financial disruption of the 2007-2010 crisis.

Thursday, August 2, 2018

2/8/18: M&A Activity: More Concentration Risk Signals


In recent media analysis of the markets, less attention that the rise in shares buybacks has been given to the M&A markets. And there are some interesting observations to be made from the most recent data on these.

Top level (see https://insight.factset.com/mega-deals-dominate-even-as-the-u.s.-ma-market-remains-in-a-slump for details) analysis is that the overall M&A markets activity is remaining at cyclical lows:

As the chart above shows both values and volumes of M&A activities are shrinking. But the numbers of mega deals are rising:


Per chart above, overall transactions in excess of $1 billion are at an all-time historical high. Per FactSet: "the first half of 2018 has reported the second-highest level of deals valued over $1 billion with 200 deals; the highest level was attained in the first half of 2007 with 210 deals. It is also worth noting that the streak of billion-dollar deals started in 2013, and since then there have been over 100 billion-dollar deals in each half-year. Even in the run-up to the financial crisis the streak was only three years (2005 to 2007). And to help complete the pattern, the dot-com boom had a similar three-year streak of 100 billion-dollar deals in each half-year from 1998 to 2000."

In other words, markets reward concentration risk taking. Mega deals generally add value through increased valuation of the acquiring firm, and through synergies on costs side. But they do not generally add value in terms of future growth capacity. Smaller deals usually add the latter value. Divergence between overall M&A activity and the mega-deals activity is consistent with the secular stagnation theses.

2/8/18: Shares Buybacks: the Evil Symptoms of an Ever More Evil Disease


Yesterday, I have posted a quite unusual (for my normal arguments) defense of the shares buybacks. Normally, as the readers of this blog know, I see buybacks as a net negative to organic investment. However, that view needs to be anchored to the economic conditions prevailing on the ground. In other words, buybacks are net negative for investment and organic economic growth, unless buybacks are companies' rational responses to specific economic and policy conditions.

With this in mind, here are my thoughts on the subject of buybacks that have accelerated in recent years:

The proposition that shares buybacks are ‘starving’ (aka slowing) the economy is false. And it is false for a number of reasons, listed below:

Reason 1: Stock buybacks can ONLY slow down economic growth in the conditions when new investment by firms can generate higher economic value added than other uses of funds in the economy (e.g. investment by other agents, than the firm, or increasing aggregate demand by investors recycling gains from buybacks into general consumption, etc). Currently, this does not appear to be the case. In fact, firms are hesitant to invest in the economy even when we control for buybacks. Thus, buybacks are similar to dividends: payouts of dividends and higher buybacks rates may signal lack of profitable investment opportunities for the firms.

Reason 2: Stock buybacks can slow down economic growth if they increase cost of capital for the firms. With equity capital (shares) being made superficially more expensive than debt (QE, tax preferences, demographic shifts in clientele reasons, etc), this is not the case. equity capital is currently more expensive than debt as a funding source for new investment for listed companies. While this situation may reverse in time (which it did only on very rare occasions in the past), companies today can borrow cheaply to retire expensive equity. This might not make sense from the economy point of view (rising degree of financial leverage, increasing risk of destabilising increases in debt carry costs, etc), it might make sense from the company and management point of view.

Reason 3: Stock buybacks can harm economic growth if they reduce returns on productivity (theory of labour productivity being unrewarded via slow wages growth). This too is not the case, because labour productivity and TFP have been collapsing since prior to the increases in shares buybacks. I wrote enough about this on this blog before in the context of the twin secular stagnations theses.

So what does the story of skyrocketing shares buybacks really tell us? The reality, consistent with Reasons 1-3 above, is that stock buybacks are a SYMPTOM of the disease, not the disease itself. Shares buybacks are driven by secular stagnation: more specifically, primarily by supply-side secular stagnation (S-SSS), and are second-order related to demand-side secular stagnation (D-SSS). How?

S-SSS implies lack of profitable investment opportunities for short and medium-term investments by the firms. With falling TFP & labour productivity, and with demographically-induced slowdown in demand, this is patently so. S-SSS also implies the need for protracted QE and other distortions in capital funding costs that disincentivise equity capital relative to debt funding channels.

D-SSS implies that with demographic, structural shifts in economic activity across generations, etc, aggregate demand side of the economy is getting pressured. Which means, again, 2nd order effects, adverse pressure on supply side.

So shares buybacks are NOT a disaster, nor a disease. The disease is the structure of the economy, with
- Technological & human capital productivity and innovation stalling,
- Adverse demographics undermining future economic capacity,
- Infrastructure investments yielding lower potential growth uplifts,
- Policies (monetary & fiscal) stuck in the 20th century extremes,
- Increasing concentration, monopolisation & oligopolization of the economy and the markets resulting in reduced entrepreneurial activity.

Shares buybacks & resulting wealth inequality or concentration are not orthogonal sets to the political & policy mismanagement that marks the last 25 years of our (Western) history. They are DIRECT outcome of these.

So, go ahead, political punks. Make the markets day. Shut down shares buybacks, so you can keep gerrymandering the economy, manipulating the markets, & bend the society to your desired ends. The longer you do this, the more you do this, the tighter is the lid on the pressure cooker. The more spectacular the blowout to follow.