Investors are painfully aware of the comments regarding the potential end of Quantitative Easing made by Fed Chairman Bernanke in the middle of June. Could it really be that after systematically creating an environment where obtaining any type of yield is only to be achieved by increasing investment risk, that Bernanke and friends would literally yank the rug right out from underneath otherwise prudent investors who had done exactly as the Chairman had wanted in the first place? At least initially that question was answered by double digit drops in yield oriented asset classes such as utilities and MLP’s, as well as record weekly bond fund complex outflows. Those merry pranksters at the Fed, they’re always good for a belly laugh, right? What will they think of next?
The Chairman of the Board, sans the blue eyes of course, told us that the Fed’s assessment of the US economic landscape has improved. The Fed now expects a 2.6% GDP number for 2013. Interestingly enough, that’s well ahead of consensus numbers of the moment. Mr. Bernanke also told us the Fed believes the US labor market has improved. As you’ll remember, key Fed objectives with QE III are improvement in the labor market, a drop in the headline unemployment rate, and a “better” tone to the US economy (without benchmark or quantification in terms of what specifically that means). Back in September of 2012 when QE III was initiated, the Fed made it clear that they would assess the underlying character of the US labor market in addition to wanting to achieve a headline unemployment rate number of 6.5%.
(Hear more: Why QE is here to stay)
In the spirit of cooperation, I thought it important we do a bit of the Fed’s work for them by going into labor, if you will. Is it really true that the US labor market has improved? If so, what about current conditions relative to historical context? Does current US labor market character justify a tapering of bond purchases by the Fed? Please do not mind the fact that the Fed has never once drawn an academic, or otherwise, linkage between their buying of US Treasuries and MBS, and actual jobs growth. That’s beside the point, no? Just what does labor market “improvement” look like in the current cycle about which the Fed appears so recently pleased?
Let’s start with a quick review of where we have come from over the last 12 months, ten of which fall under the magical QE III umbrella. The following chart chronicles the percentage job growth as per the major labor market employment classifications.
We’re four years into the current economic expansion cycle. Yet as of the now, the largest percentage gains in jobs over the last year have been in temporary positions. Historically, the largest gains in temp positions have been seen at the beginning of prior economic expansion cycles, usually not in cycles as mature as the current. The fact that growth in temp jobs stands head and shoulders above more permanent classifications speaks to a still tentativeness among employers. Next up in terms of job growth percentage gain leadership are Food Service and Beverage (bars and restaurants) as well as Leisure and Hospitality (hotels). These job classifications have historically been characterized as lower wage demographic as well as benefits constrained.
Alternatively, historically strong job gain classifications seen in prior cycles in sectors such as construction, manufacturing and financial services, have consistently registered tepid at best percentage growth in the current cycle and over the prior 12 months specifically. As a quick tangent, year over year gains in total US wages have been bumping along historical lows in the last year. What you see above helps explain this current cycle phenomenon. And this is the labor market recovery with which Mr. Bernanke and his FOMC compadres have become so comfortable? Apparently so.
As a bit of a twist over the last twelve months, it is clear that US employers have been anticipating the advent of Affordable Healthcare Act regulations, euphemistically known as Obamacare. Resultantly, this has helped shape the current character of the US labor market. In March we saw the twelve month rate of change in US average hours worked fall into the deepest negative territory since 2010. Economic expansions are usually characterized by expanding hours worked. Of course the explanation for this is the shift to a greater part time labor force orientation on the part of employers, in very good part driven by their desire to avoid the cost of health care insurance under current legislation. A rational response on the part of employers. Not so wonderful for employees.
This message by and actual behavior on the part of employers is only reinforced by what you see below. As of April 2013, the number of folks working part time due to the fact that they could not find full time work has risen to the highest number in the current cycle, except for a brief spike in 2011.
But what is most important in the historical data above is the fact that in prior economic cycles, this number peaked 18-24 months post-recession end. Not this time. Except for the brief spike in 2011, we’re still setting new highs in this number four years after the official recession conclusion in 2009. Is an increasingly part time US labor force what the Fed had envisioned as character point success when they originally decided on QE III as the remedy for US labor market lethargy?
One last data point submitted for your approval. Over the last four decades, the average weeks of unemployment for those who found themselves in such circumstances in each down cycle peaked between 17 and 21 weeks. Naturally this was seen at the worst of each recession experience (which happened to occur post official recession end in each cycle). As of now we remain at a level roughly double this experience, resting in unprecedented post recessionary territory. If this does not speak to at least some component of structural unemployment in the current cycle mix, I just do not know what does. Also influencing this phenomenon is the unprecedented extension of unemployment benefits in the current cycle. For many, returning to a part time job is less “lucrative” than simply continuing to collect unemployment benefits. Again, this is the character of labor market recovery the Fed has been hoping for in order to scale back QE?
Is the world coming to an end for the US labor market? Of course not, far from it. But it’s also clear that focusing solely on headline nominal job gains does not tell the whole story when trying to assess the broad character of the current US labor market. The Fed knows this full well. They also know full well that it’s very tough to discern a linkage between their buying of Treasuries and MBS, and actual jobs growth. Is this why we’ve never once seen a Fed member even attempt this academic high wire act?
Personally, I believe there’s a bit more than meets the eye with Bernanke’s recent comments. Remember, in the current cycle the Fed cannot raise rates as was the case in prior cycles when perhaps asset classes behaved a bit too bubbly. With no ability to tap on rates to cool down speculation, the Fed only has the megaphone. Since mid-May, a number of Fed members have expressed some somber views on QE, the need to scale back, etc. But literally minutes prior to Bernanke’s comments, the S&P was less than 2% away from all-time highs and oil was closer to $100 per barrel than not. Markets were not “listening” to Fed underlings. Was it simply time to bring out the big gun and cool off asset markets running well ahead of either earnings or macroeconomic expansion?
It sure seems all but official that Bernanke will no longer be with the Fed as of January of next year. As such, can Bernanke help lay the groundwork for future Fed policy and in part play the “bad cop” role? Helping to foreshadow a policy change we all know must come at some point without laying that decision completely at the foot of the next Fed Chairman, or Chairwoman?
We also know that at current rates of purchase, Fed buying has accounted for approximately 80% of all newly issued Treasuries. With the very meaningful acceleration of capital gains and personal income into the fourth quarter of 2012, government tax receipts spiked in the first quarter of this year. As such, projected 2013 government borrowing has fallen. Unless the Fed does taper a bit later this year, their current rate of Treasury purchases may at some point exceed 100% of newly issued Federal debt. Is this a perception the Fed wishes to avoid and can only be accomplished by some measure of tapering, even if temporary?
There are a lot of moving parts to the broader and longer term issue of QE. But as we’ve seen above, it seems very tough to suggest improvement in US labor markets is a key driver of current policy decision making. The one overriding issue we must not forget is despite all the talk concerning QE, the labor markets and broader US economy, under QE the Fed is setting the cost of capital for the Federal government. It’s exactly the same for Japan and Europe as of now. This is an absolutely key issue in a period where taxation is already rising, acting to dampen the very economic activity central banks wish to stimulate. Want to see the taxation issues really heat up globally? Just let respective global central banks stand aside while interest rates rise and you’ll be in for quite the treat. It’s all about rhythm and balance as we move through this cycle. I submit to you that the LAST thing central bankers will do is reverse the present course of monetary policy abruptly.
