Using Unemployment Announcements As An Early Warning System For Investors

by: John Lindauer

Last Saturday President Obama confidently predicted that the economy would turn around and the unemployment rate would drop to 8% by election day. His supporters cheered and investors took note.

If the President's prediction is true it would be significant because changes in unemployment are a major leading indicator of future market prices - because jobs track with the level of business activity, which in turn tracks with corporate profits, stock prices and growth opportunities.

Unfortunately, investors should not be encouraged by optimistic political predictions nor by the recently reported decline in the "official" unemployment rate to 8.6% nor by the recent claim that 130,000 new jobs were created in November.

Don't be misled – the 8.6 percent rate is a disaster and suggests to professional macroeconomists and analysts that the US economy is continuing to recede futher and further below its potential full employment level of production and employment. In a word, the November numbers prove to experienced analysts that the US economy is continuing to sink rather than turn around. How can that be?

In the real world, the United States needs to create about 130,000 new jobs each month just to keep pace with immigrants who arrive each month and the young people who reach working age each month.

Worse, November is the month when retailers begin hiring temporary sales staff for the Christmas season. November is the time of year when under normal circumstances hundreds of thousands of jobs should have opened up.

So why did the “official” rate of unemployment fall to 8.6 percent from 9.0 percent? As we now know it fell because hundreds of thousands of Americans, primarily women it seems, finally gave up looking for work because no jobs are available.

More specifically, it fell because the government counts as being in the labor force only those people who are working and those people who actively looked for work. People who gave up and stopped looking for work don’t count.

In the real world these “discouraged workers” are unemployed even if the Department of Labor does not count them. As has happened in the past, they’ll come out of the house and off welfare to take jobs and start paying taxes as soon as jobs are available.

And the "official" unemployment rate may indeed drop to 8% by election day - if the economy continues to stagnate and more hundreds of thousands of unemployed workers give up their active job searches and sink into our welfare system.

What is the actual rate of unemployment? And, more importantly for investors and traders, where is it heading?

Economists and analysts can get a very accurate look at the actual rate of unemployment and the direction it is actually heading by comparing the number of people who are actually working with the labor force participation rates for the different age and sex cohorts of our population. Looking at it this way yields a much more accurate and very different conclusion than that suggested by the president and his minions.

Specifically, when one considers the unworked hours of people who are only working part-time but want full time jobs and the percentage of people in the various age groups who traditionally work and will take jobs as soon they become available, the real United States unemployment rate is 20.6% and rising.

What that means, in round numbers, is that today the United States has a seriously distressed economy whose profit and non-profit organizations are using about 80 percent of its available labor to produce about $16 trillion of goods and services, primarily for consumers and businesses though a lot is also bought by other buyers such as foreigners and our various governments and non-profits.

What this means for investors is that our economy is about $4 trillion short of having enough business to fully employ our labor force. Worse, if that is possible, the shortfall is rapidly growing toward $5 trillion as every month new technologies come on line to increase worker productivity and our labor force grows through immigration and young people reaching working age.

But this bad news for the economy is actually good news for savvy investors. Here's why:

When the economy does move back to full employment there will be great opportunities and advances in the markets as profits rapidly rise and expansion opportunities are seized. And profits will rise disproportionately as they always do when idled capacity is put back to work without the need for further capital investment.

But when will the economy start to turn around? This year?

Probably not. The most optimistic fiscal effect of the various changes in federal taxes and spending proposed by Congress and the White House is so piddly as to be virtually inconsequential in the face of a $4 trillion shortfall.

More significant for investors: the Federal Reserve, the only institution with the responsibility and ability to restore the economy to prosperity (because of its ability to create money and channel it to potential spenders either directly or indirectly via the commercial banks) recently signaled its intention to take no significant steps to end the current economic malaise until the Obama Administration is replaced: it lowered its economic forecast for the rest of this year, and said it did not expect the official unemployment rate to fall significantly through the end of 2013.

Investors should be wary of politicians' claims but can look forward with optimism to the great bull market that will explode into being when the political appointees of the Federal Reserve finally begin to move the economy toward full employment - sometime after the election.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.