Is the US Economy Too Hot or Too Cold? Yes.


Here’s a riddle: What’s both too hot and too cold? Answer: The US economy in the summer of 2021.

This is the common point that emerges in the economic data; changes in financial markets; anecdotes from businesses; and the experiences of ordinary people enjoying higher incomes and facing higher prices and shortages at the same time.

In mid-2021 economy, employers are offering higher wages to attract scarce workers; airports and car parks are crowded; and a GDP report to be released next week will likely show blockbuster growth. It is also an economy where inflation has outstripped salary gains for many workers; the share of the working population is well below pre-pandemic levels; and bond markets are priced at levels suggesting a high risk of a return to slow growth in the coming years.

Essentially, the economy is having a tougher time than it seems during the rough days of spring when many Americans are vaccinated and stimulus payments hit their checking accounts.

The Biden administration and the Federal Reserve are betting they can provide a smooth transition to an economy that enjoys prosperity without frustratingly high inflation. But for that to happen, a major mismatch between the demand for economy-wide goods and services and their supply will need to be resolved. It’s unclear how long this will take.

“We should have expected frictions over reopening the economy after this unprecedented shock,” said Karen Dynan, a Harvard economist and former Federal Reserve and Treasury official. “We’ve seen serious friction, and it’s perfectly reasonable to expect that friction to continue.”

Consumer demand for goods and increasingly services is extremely high as Americans spend their accumulated savings, government incentive payments and higher wages. Retail sales were 20 percent higher last month than in June 2019.

But businesses have had a harder time ramping up production to meet this demand, springtime than forecasters expected. This is particularly noticeable in cars where the lack of microchips restricts production.

But the shortage of supply is evident in all kinds of industries. last survey A number of manufacturers from the Procurement Management Institute are citing complaints from manufacturers of furniture, chemical products, machinery and electrical products about difficulties in meeting demand.

This creates price inflation so steep that it is unclear whether wage increases have actually left workers better off. Average hourly earnings in the private sector grew more slowly than the Consumer Price Index in each of the first six months of the year.

Due to the unique circumstances of the post-pandemic reopening, these numbers likely understate the wage growth experienced by the typical worker, but the gist is clear: Workers get paid higher, yes, but they also pay more for what they buy.

Much of this appears to be “temporary” inflationary pressures that will decrease and in some cases reverse. Bottlenecks will be resolved – for example, timber prices have fallen sharply in recent weeks and used car prices it can finally stabilize at high levels. But there are also slower-moving effects that could reduce a dollar’s purchasing power in the coming months.

Rents are starting to rise sharply, according to a number of situations data sources. And businesses facing higher prices for materials and labor may be in the early stages of passing these higher costs to consumers. The Producer Price Index, which tracks the costs of materials and services purchased by companies, accelerated as of April and May and increased by 1 percent in June. This is a sign that inflationary forces may still be trying to find their way into the economy.

“We call it a smell of stagflation,” said Paul Ashworth, US chief economist at Capital Economics, using the term for a combination of stagnant growth and inflation. “The actual growth is not weak, but not as strong as we thought it would be. There was a lot of optimism and now things are getting a little more down-to-earth.”

The labor market is the clearest example of a market that is very hot and very cold at the same time.

Businesses complain of labor shortages and offer every incentive to attract workers. However, the unemployment rate is 5.9 percent, similar to a recession. And the share of adults in the workforce – whether employed or job-seeking – has been basically flat for months and has failed to make clear progress to return to its pre-pandemic level. It was 63.3 percent in February 2020, but has jumped from 61.4 percent to 61.7 percent in over a year.

Individuals may be making rational choices for themselves not to work. For example, older workers may be retiring several years early, or families may decide to live on one income instead of two. But overall, low levels of labor force participation will limit the productive potential of the economy.

Leaving everything behind is a great deal of uncertainty as to whether the Delta variant of the coronavirus will create a new wave of disruption to trade, both at home and abroad, where vaccine availability is less. This worry has caused massive volatility in global financial markets, which are increasingly priced in ways that look less than the roaring 2020s and more like the stagnant 2010s.

Long-term bond yields rose in the first three months of the year, and yield curve – showing the difference between short-term and long-term interest rates – steepened. Both tend to be indicators that investors expect higher growth rates ahead.

This is reversed last weeks. The 10-year Treasury yield fell to 1.22 percent on Tuesday, from 1.75 percent at the end of March.

Where does all this leave the very hot, very cold US economy? A lot of work has been done to get the economy to reopen and there is no shortage of demand from Americans who are feeling flush. But things will not go well until the economy finds a new balance of prices, wages, production and demand.


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