On September 7, the much awaited unemployment report showed that job growth slowed during the month of August, putting a damper on the momentum built up by President Obama after the Democratic National Convention. The unemployment rate declined to 8.1% from 8.3%, but was still considered disappointing - it fell mainly due to the fact that approximately 368,000 people gave up looking for work. Meanwhile, the share of the labor force employed or actively looking for work fell to a 30 year low. The dismal unemployment figures have since caused Fed Chairman, Ben Bernanke, to engage in QE3 - a third round of its bond-buying program. Bernanke's goal is to drive down interest rates, and with it, the cost of capital for individuals and corporations, in order to spur the economy. But even by Bernanke's own admission, the cost of additional Quantitative Easing may outweigh the benefits.
Big Ticket Items Drive GDP
According to the new electronic book, "SHOCK EXCHANGE How Inner-City Kids Predicted the Great Recession and the Pain Ahead," big ticket items like housing and autos drive the economy. The Fed initiated its Quantitative Easing program in the fourth quarter of 2008. Yet housing starts have been flat since that period; starts were 906 thousand in 2008 and ranged from 554 thousand to 609 thousand from 2009 to 2011. Auto sales were 13.5 million in 2008, reached a trough of 10.6 million in 2009 and rebounded to 13 million in 2011. But they still pale in comparison to the roughly 17 million just prior to the financial crisis. Frank Constantino who is hopeful for an eventual housing recovery, is even more direct:
According to the U.S. Bureau of Labor Statistics from 2001-2006 non-farm payroll employment in residential construction increased by more than 29%. From 2006 through 2009, employment in residential construction fell more than 36%. The pain was not limited to construction. During the same period employment in mortgage and non-mortgage loan brokers and real estate credit fell 54.5% and 44%, respectively. Also experiencing steep employment losses, concrete product manufacturing fell more than 24% and wood product manufacturing fell 35%. It is estimated that every new home constructed provides gainful employment for three people. Despite what we hear from politicians, the largest benefit to U.S. employment growth would be a sustained recovery in residential housing.
GDP Growth Drives Employment
Real GDP growth in "2005 dollars" declined each year beginning in 2005. The sharpest decline occurred at negative 3.5% in 2009, mirroring sharp declines in housing starts and auto sales. At year-end 2011, real GDP growth was a flat 1.5%, giving credence to President Obama's "John McCain Moment" on the economy. With no structural improvements in the economy in sight, it is no wonder the outlook for long-term unemployment is so dismal. Bernanke described the 3.9 million people out of work at year-end 2011 as a "national crisis." The populace's frustration with Bernanke and the Obama Administration's inability to remedy the situation could play out in the polls in November. Or worse, if the unemployment rate rises above 10% - a key indicator - it could lead to social unrest not seen since the Great Depression. And that is the crux of the matter - Bernanke's inability to impact long-term unemployment through Quantitative Easing. Reiterating this point, Richmond Fed President Lacker had the following dissenting comments on QE3:
Economic activity has been growing, on average, at a modest pace, and inflation has been fluctuating around 2 percent, which the Committee has identified as its inflation goal. Unemployment does remain high by historical standards, but improvement in labor market conditions appears to have been held back by real impediments that are beyond the capacity of monetary policy to offset.
I am bearish on the economy and the market as a whole. I would warn investors against holding long-term treasuries due to the fact that the Fed's bond buying program has generated "synthetic demand" for the instruments. Secondly, if social unrest does materialize, it may too test foreigners' appetite for holding U.S. treasuries, driving prices down and yields up.