In the December monthly economic dashboard I sent out last week, I had a rather long preamble to the data discussion that revolved around the recent stock market volatility. My barometer for concern is that at every holiday party I have attended, I have been asked whether we are headed for a downturn in 2019.
I recount that since last February, I have been including slides in my community presentations that talk about the upsides and downsides to the U.S. economy. These “fundamentals,” as I call them, are more important to economists than the stock market gyrations. However, I do believe that the market volatility is a reflection of some of the structural issues I have been talking about for almost a year. The sky is not falling, but it appears we are at an inflection point.
There are various metrics to look at in gauging “economic growth,” but new jobs are arguably the most important indicator as they tell us that employers are hiring. Employers only hire if they are expanding today and if they feel that their expansion will continue out into the short and medium run. Likewise, an increase in job postings is a leading indicator because employers see a horizon of longer-term business growth. If you have an increase in job postings across the nation, you have the majority of U.S. businesses betting that they will have an expansion in activity and sales. This is also true at a regional level. I look at this more than I look at the S&P 500 or the Dow averages only because there is so much more speculation in the stock market. By contrast, 30 million small and large businesses have real-time foot (or online) traffic data that substantiates their hiring decisions.
Although job postings have been increasing since the end of the recession, they have really taken off in the past year. From December 2017 to October 2018, job postings increased 25 percent . In the year prior, job postings increased 5 percent. And much of the increase in new hires has been fueled by new entrants or re-entrants into the labor force. That is not only good for the long-term unemployed and new graduates, it is also good for the tax base as these workers become taxpayers and often get off social assistance programs, meaning a triple benefit to the U.S. bottom line.
It is also incredibly important because of the (structural) aging of the U.S. workforce. Locally, we have seen an unprecedented increase in these new entrants or re-entrants: the labor force increased by 18,005 from November 2017 to November 2018. Increases in new jobs and new-found workers has created incredible momentum both nationally and regionally. The only downside to this is that wages have finally begun to increase in order to attract or retain workers. Wages have increased 3.1 percent in the past 12 months. This is great for consumerism (and consumer sentiment has been high) but is becoming a strain on business’ bottom lines.
There are additional forces acting upon U.S. businesses that cause the economy to contract. The most obvious is increasing interest rates, as even slight increases in interest rates can represent large increases in costs for companies that have variable rate loans, which most corporations have. Central bankers of other major economies around the world are also pursuing monetary tightening and this, by definition, will slow global growth and global demand for our goods. Many people ask why central banks including our Federal Reserve would continue increasing rates if it dampens growth. The simple answer is that the Fed cannot ignore the increase in wages we’ve been experiencing as that could intensify inflation. In addition, all central banks of the major economies need to have the ability to lower rates when we do have a slowdown. That means they must raise rates now while times are still good and (wage) inflation is still a risk.
The reduction in global demand for U.S. goods is another inhibiting factor. The slowing growth in China and Europe reduces demand for our goods, but another deterrent is the strong dollar. Relative to other major economies, U.S. growth rates have been stronger particularly in 2018 due in large part to the tax cuts. This has appreciated the U.S. dollar, which has reduced demand for our goods . The chasm between exports and imports only exacerbates our debt problem.
Compounding this are the trade disputes. Many experts say that despite the 90-day truce with China, the likelihood of a quick and advantageous trade deal is low. The complexity and delayed resolution of the issue is likely to hamper GDP growth by nine-tenths of a percentage point, according to Bloomberg and World Bank estimates. The slowing global economy and the stronger dollar are expected to trim GDP growth another half of a percentage point in 2019, according to JPMorgan.
Domestic political uncertainty such as government shutdowns, and international political turmoil such as the inability to get a Brexit deal, both further fuel uncertainty and therefore volatility.
The tax cuts provided a short-term boost to GDP, but this kind of fiscal stimulus has two major trade-offs. One, a reduction in tax revenues means an increase in our already high debt (roughly $21 trillion). As interest rates continue to increase, servicing that debt will become more onerous, and may eventually impact the perceptions of how “safe” an investment U.S. Treasurys are. Two, governments typically utilize this kind of stimuli when we are in a downturn and need a boost — not when we are in overheated mode with rising wages and inflation, and components of the stock market (e.g. tech) that seem to be overvalued.
The recent stock market volatility index, the “VIX,” is a proxy for the increasing uncertainty. Contrary to popular belief, the VIX measures expected market volatility. It measures the premiums that investors are willing to pay for the future option to buy or sell stocks. If there is uncertainty about the future growth of U.S. companies and the economy, investors want to have the option to buy and sell stocks. The premiums on those options increases, and the VIX goes up.
Note that this volatility index can be elevated for either expected sharp upswings or downswings in the stock market. Most experts say that a VIX above 20 means more expected movement in future stock prices. The VIX has been around 30 as of late and that translates to an expectation that there will be a 30 percent annualized change in the S&P 500 during the next 30 days.
My sister leaves the room when I talk about these things. Indeed, most Americans do not play in the stock market and therefore have peripheral interest in its performance. However, most Americans do have retirement accounts and looking at those statements can be disconcerting, especially for those cohorts who are closer to retirement age. Those older cohorts are also typically the ones with more discretionary income (ages 40+). If they begin to reduce their purchases, that can hurt U.S. businesses that cater to U.S. consumers. In fact, consumers have already moved away from larger ticket items that require financing due to the higher interest rates although smaller ticket items are still experiencing healthy demand.
Clearly, there are many variables at play and they are inter-related. It’s not so much that in isolation one or two of these factors will slow growth, it is more likely that the confluence of many factors will dampen growth.
Our city has been experiencing tremendous growth in job postings, hiring and new capital investment, and a marked increase in the diversity of industries. I am hoping that a slowdown will hold off for at least another year, so we can continue on this positive trajectory. It would give us firmer footing for when things do slow down. In the meanwhile, we should march ahead with the optimism and energy that has defined us over the past four years.