Over the last several years there has been plenty of complaining. One constant source of bickering has been the lack of economic growth over the last several years. Officially the economy is in a great recovery. Share prices are higher, home prices are higher, and unemployment is dramatically lower despite a relatively weak level of job production. As the Federal Reserve framed the argument, people are quitting their jobs at levels we haven't seen in many years, so clearly they are getting better job offers. Nothing demonstrates the joy of a worker quitting their job with a better job offer than watching that worker leave the labor force. Remember that the unemployment rate of 4.7% was powered by people being counted out of the labor force:
That seems like a great trend that is sure to help create growth in GDP. (Hopefully most readers realized this article will be dripping in sarcasm.) Fortunately growth in GDP can occur even if people are dropping out of the labor force because the Cobb-Douglas function doesn't really call for growth in the work force as one metric in establishing the long run growth rate for GDP.
It has been commonly approximated (incorrectly) that the growth in the labor input would be roughly equal to the population growth rate. Such an argument might make sense in the long run but it would be much more precise to model the growth in "Labor Hours Worked" rather than the growth rate in the population. This is where we are still getting the job done. While record numbers of people are simply out of the labor force, perhaps because they couldn't stand getting so many job offers, as the Federal Reserve implied. Despite people dropping out of the labor force, the number of hours worked looks very promising. It isn't promising higher wages, advancement, or a better standard of living, but it is promising more work. Can't that be enough?
Inputs Most People Won't See
If you've ever tried to work the Cobb-Douglas function on American history, you may have discovered that getting an accurate estimate for capital investments is a nasty chore. Fortunately the Federal Reserve had a data set that ran through 2011:
Once those numbers are provided it is simply a matter of finding real GDP and total hours worked. Collect those values, do a little math, and you can contrast the growth rate in GDP with the growth rate in total hours worked and the growth rate in capital. You can also see the figures for GDP per hour to get an estimate on how effectively workers are capable of producing the outputs that will be measured as part of GDP.
Remember that the Capital Stock measurements were only available through 2011, but the following chart can be built:
For readers that prefer their data in a simpler table, the same data is presented again:
Remember that the growth in GDP/Hour and the growth in hours worked must multiply to provide the growth in real GDP. It should be abundantly clear that through 2007 the number of hours worked were increasing slightly but with the exception of 2006 and 2007 the growth in GDP/Hour was faster than the growth in hours worked. During all of those earlier years there was also significant growth in capital stock.
During the recession hours worked were slashed as unemployment soared. GDP was down, but GDP/hour was up. The labor force found the single greatest growth source possible for TFP (Total Factor Productivity). It turns out no technology so far this century was better than simply making it easy to threaten employees with bankruptcy. For anyone living paycheck to paycheck, the prospect of high unemployment meant cash shortfalls were likely to occur if income was stopped for even a few months. Workers worked harder and GDP/Hour went up. Then when little marginal gain was left in that vein, the transition was simply to having more hours worked. Workers weren't gaining any further improvements in productivity and to the last of our knowledge (2011) the growth in capital stock was terrible.
The Federal Reserve should be applauded (softly, perhaps a sarcastic golf clap) for believing economic theories about low interest rates encouraging businesses to use debt to fund capital expenditures. Given what we have all seen over the last several years, it should be obvious that businesses invest when they see an opportunity to earn new profits. Low interest rates don't generate massive capital expenditures. Fortunately, executives weren't stupid. Lower costs of debt meant a lower WACC (weighted average cost of capital) from using more debt in their capital structure. Loans were used to repurchase shares. Nice work; the economy is fixed.
The New Economy
Where we stand now is simple. GDP per hour worked is increasing at a glacially slow pace but student loan debt is growing exponentially. Colleges across the country are cranking out new graduates with unrealistic hopes and dreams of doing meaningful work and earning enough money to pay for that "education" that failed to tell them what was really going on in the economy.
For GDP growth to continue at a significant rate, one of three things must happen. Option 1 is growth in the capital stock so that new tools are available for workers. Option 2 is growth in GDP/Hour from all those college graduates figuring out how to do the same tasks faster. Option 3 is growth in hours worked by encouraging the newest entrants to put down that silly degree and pick up some extra shifts. I hear McDonald's (NYSE:MCD) is raising wages so if they have a degree in burger-flip-ology they should be set for getting some overtime. Those extra hours worked are just what we need to get GDP growth back on track.
Some investors might think that there is a fourth option in repeating the 2009 strategy of cutting workers and using the layoffs to encourage working harder. That might seem like a great strategy at first, but those new graduates with their burger-flipping degrees aren't stupid. They know how to avoid getting foreclosed on when they lose their job and leave the labor force. They're still living with mom and dad.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: Information in this article represents the opinion of the analyst. All statements are represented as opinions, rather than facts, and should not be construed as advice to buy or sell a security. This article is prepared solely for publication on Seeking Alpha and any reproduction of it on other sites is unauthorized. Ratings of “outperform” and “underperform” reflect the analyst’s estimation of a divergence between the market value for a security and the price that would be appropriate given the potential for risks and returns relative to other securities. The analyst does not know your particular objectives for returns or constraints upon investing. All investors are encouraged to do their own research before making any investment decision. Information is regularly obtained from Yahoo Finance, Google Finance, and SEC Database. If Yahoo, Google, or the SEC database contained faulty or old information it could be incorporated into my analysis.