Main Street Macro: Phil has spoken

Punxsutawney Phil saw his shadow last week, signaling six more weeks of winter just as the Northeast was being blanketed with its strongest snowfall in five years.  As an economist and professional forecaster, I’m impressed by the real-time confirmation of the groundhog’s prediction.

Another prediction last week also is likely to hit its mark. The Congressional Budget Office forecast an economic rebound to pre-pandemic levels by mid-2021. It’s the latest in a string of analyses to show that one of the most severe recessions in U.S. history also likely will be one of the shortest.

Even better, the CBO’s forecast doesn’t assume any new spending in fiscal 2021, including President Joe Biden’s $1.9 trillion stimulus plan currently auditioning before Congress.

But like Phil, the CBO also sees some gloom in our future. The agency struck a pessimistic timeline for the labor market recovery, concluding that pre-pandemic levels of employment won’t return until 2024. That’s a long wait just to get back to where we started in the jobs market.

The Bureau of Labor Statistics last week reported that the private sector added a mere 6,000 jobs in January, and only 49,000 jobs, including government hires. That’s an improvement from December’s job losses, but a tiny fraction of the gains we saw last summer.  It was even short of average monthly gains in the last three months of 2020, when the pandemic was resurging and fiscal stimulus had run dry. 

ADP’s January data, also released last week, revealed a change in the pattern of the jobs recovery. While small firms reduced headcount early in the pandemic and have been slow to recall workers, they’ve also benefitted from fiscal stimulus.  Large firms were slower to lay off worker early on, but now show signs of job fatigue.

In January, companies with a thousand or more workers added just 11,000 jobs after shedding  128,00 workers in December.  Small firms on the other hand–companies with 50 or fewer workers–added 51,000 jobs last month and avoided layoffs in December. One reason for the imbalance is that large firms dominate industries hard-hit by the pandemic, such as travel and hospitality. 

Phil the groundhog divines his winter forecast with only a shadow. But we need to see at least three signs before we have confidence that the job market is in recovery.

• Growth in the size of the workforce. More people who left the jobs market due to health and family concerns must enter the workforce. The labor force participation rate, a measure of the size of the workforce, dropped 2 percentage points last year and the CBO isn’t expecting a full recovery until 2022
• Acceleration in monthly job gains. The CBO forecast assumes the economy will add an average of 521,000 jobs each month. Right now, we’re not even close. The U.S. lost 10 million jobs to the coronavirus outbreak.  If job gains stay at their three-month running average, it will take almost a decade reach pre-pandemic levels.
• Increased wages (for the right reason). As we discussed last week, wages are growing because low-income workers have been affected most aversely by job loss.  When low-income jobs are recovered, we expect wage gains to dampen and then eventually accelerate as the economy improves.   How long will that take, well it took 10 years during the last economic recession for wage growth to be widely felt.

It’s chilly out there on a lot of fronts

Banks could help speed the job recovery, but they’re not exactly rolling out the red carpet for Main Street business. Federal Reserve data shows that, on balance, banks actually tightened lending standards for small firms in the past few months, making it harder for these companies to get investment capital and retain and rehire workers.

Source: Federal Reserve and St. Louis Federal Reserve Economic Research

Small companies typically create more than half of U.S. jobs, and Main Street firms, even those that got a federal lifeline from the stimulus, will need bank credit to rev operations to full capacity when the economy reopens.

Yet at times, banks have had a weak track record of pushing the economy out of recession. They were part of the problem during the last recession and suffered runs on deposits during the Great Depression, the last time the economy had to recover from a downturn this deep.

This time, they’re flush with deposits and well capitalized. Since the onset of the pandemic, consumers have been lining up (figuratively speaking) to deposit their unspent income and stimulus checks into bank accounts.  Deposits swelled in 2020.

But with more money come more problems. The pandemic has weakened demand for loans, small firms are considered to be riskier borrowers, and with interest rates at historic lows, lending is less profitable.

The upshot

The pandemic is likely to cast a long shadow over the job recovery. Lackluster jobs growth combined with the softening productivity gains we discussed last week are twin headwinds that could delay our return to pre-pandemic economic growth into the second half of this year.

So Phil might indeed be right in more ways that one — the chill on the economic recovery could last well past spring.

Looking ahead

The Main Street Macro has resisted the pull of GameStop. Business owners have bigger issues to worry about than the latest tug-of-war between fringe investors and a shallowly traded stock. 

But now that Treasury Secretary Janet Yellen is weighing in, the story is getting more interesting for Main Street. Yellen is assembling a group of government agency leaders to ensure that big financial market players follow the rules of the road so the little guy (the retail investor and you and me) are protected.

My hunch, based on my time as an economist at a financial regulator, is that Yellen’s gang will spend their time listening and learning to show that they’re paying attention rather than issuing any tough new regulations or enforcement actions. But we’ll be watching nevertheless for developments on the regulatory front.

With interest rates low, and the real return on savings and low-risk bonds nonexistent, the promise of a high-flying stock price could continue to be a siren song to investors of all stripes.