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Unemployment Falls to 8.5 Percent but that May Be as Good as It Gets!

Prof. Peter Morici - 1/8/2012

The economy added 200,000 jobs in December, and unemployment rate fell to 8.5 percent. Going forward unemployment is not likely to fall much further and may rise again.

Fourth quarter growth was exceptionally strong as the global economy recovered from first half disruptions such as the earthquake in Japan, but going forward economists expect growth to slow to about 2 percent.

Job growth in the range of 130,000 should be expected to accommodate labor force growth but not much lower the unemployment rate. That is hardly a pace that will restore economic health, or validate President Obama’s heavy intervention in the economy and industrial policies in the upcoming Presidential campaign.

The unemployment rate would be higher but for the fact that many unemployed professionals have established home-based businesses that really don’t provide full time employment but do take workers off the unemployment rolls.

Also, many adults have quit looking for work altogether, and the adult labor force participation rate remains depressed. In December, working age adults not participating in the labor force—those neither employed nor looking for work—increased by 194,000, almost as many as who found jobs.

Strong gains were notched in retail and wholesale trade, warehousing and transportation, leisure and hospitality, and health care and social services. Manufacturing added 23,000 jobs and construction added 17,000.

Gains in manufacturing production are not accompanied by stronger improvements in employment largely because so much of the growth is focused in high-value activity. Assembly work, outside the auto patch, remains handicapped by the exchange rate situation with the Chinese yuan.

The situation with the yuan is the single largest impediment to more robust growth in manufacturing and its broader multiplier effects for the rest of the economy; the Obama Administration indicated over the holidays it has no intention of challenging China on this issue, and it enjoys the unlikely support of Speaker John Boehner.

Government employment fell by 12,000 as private sector jobs added 212,000. Lower property values translate into lower assessments and property values with considerable lag in most communities, and 2013, the housing recession will dramatically reduce local tax receipts and employment. Coupled with federal budget cutbacks, government employment should fall by about 20,000 a month through the end of 2012.

The private sector less the heavily subsidized health care and social services industries, and temporary businesses services, only added 191,000 jobs. In the months ahead, gains in core private sector employment must improve dramatically if the economy is to halt the decline in real wages and provide federal, state and local governments with adequate revenues, and that is not happening fast enough.

The economic crisis in Europe and mounting problems in China’s housing sector and banks worries U.S. businesses about a second major recession and discourages new hiring. The U.S. economy continues to expand but is quite vulnerable to shock waves from crises in European and Asia.

Factoring in those discouraged adults and others working part time for lack of full time opportunities, the unemployment rate is about 15.2 percent. Adding college graduates in low skill positions, like counterwork at Starbucks, and the unemployment rate is likely closer to 18 percent

Prospects for lowering those dreadful statistics remain slim. The economy must add 13 million jobs over the next three years—360,000 each month—to bring unemployment down to 6 percent. Considering continuing layoffs at state and local governments and federal spending cuts, private sector jobs must increase about 385,000 a month to accomplish that goal.

Growth in the range of 4 to 5 percent is needed to get unemployment down to 6 percent over the next several years. In fourth quarter of 2011, the economy grew at about 3 percent but that is expected to slow to 2 percent in 2012.

Growth is weak and jobs are in jeopardy, because temporary tax cuts, stimulus spending, large federal deficits, expensive and ineffective business regulations, and costly health care mandates do not address structural problems holding back dynamic growth and jobs creation—the huge trade deficit and dysfunctional energy policies.

Oil and trade with China account for nearly the entire $550 billion trade deficit. This deficit is a tax on domestic demand that erases the benefits of tax cuts and stimulus spending.

Simply, dollars sent abroad to purchase oil and consumer goods from China, that do not return to purchase U.S. exports, are lost purchasing power. Consequently, the U.S. economy is expanding at 2 percent a year instead of the 5 percent pace that is possible after emerging from a deep recession and with such high unemployment.

Industrial policies, like federal bailouts for General Motors and Maryland’s efforts to save an aging steel mill at Sparrows Point won’t fix the jobs market—those just shift employment from more competitive enterprises. Payroll tax holidays are similar bandaids—those buy jobs today at the expense of cutbacks in 2013 and the years that follow.

Without prompt efforts to produce more domestic oil, redress the trade imbalance with China, relax burdensome business regulations, and curb health care mandates and costs, the U.S. economy cannot grow and create enough jobs.


Adding adults on the sidelines who say they would reenter the labor market if conditions improved and part-time workers who would prefer full-time positions, the unemployment rate becomes 15.6 percent. Factoring in college graduates in low skill positions, like counterwork at Starbucks, and the unemployment rate is closer to 20 percent.

Without assertive efforts to address structural problems—huge trade deficits with China and on oil, and expensive and ineffective regulations in banking and health care—the country is headed for years of high youth unemployment and permanent displacement of many older workers. These conditions are not destiny—solutions are at hand but better leadership from the White House and more willingness to compromise in Congress are required to turn country around.

Too Little Economic Growth

Fourth quarter GDP growth will likely register at about 3 percent. Stronger consumer spending, aided by more business investment, exports and home construction, should be the high point.

In recent months, household spending has outpaced income growth, debt is piling up, and some pullback in consumer activity in inevitable. Unlike the years prior to the financial crisis, households will not be able to refinance credit card debt and auto loans by further mortgaging homes, and rising debt service will compel consumers to slow down in 2012.

Much has been made of the need to rebuild household balance sheets—that requires working down credit card debt and mortgage balances. The former was largely completed last April. Now, household net worth and liquidity cannot improve much further without existing homes prices rising; however, those continue to decline and millions of foreclosures will keep the market oversupplied for several years.

Overall, economic growth at about 2 percent—and certainly not better than 2.5 percent—can be expected in 2012

Jobs Outlook

The economy must grow at 2.5 to 3 percent—long term—to keep unemployment steady, because new technology and better methods permit labor productivity to increase 2 percent each year and natural population increases pushes up the labor force about 1 percent.

If conditions are mediocre and businesses cautious, productivity growth can slip—equipment and computers are kept beyond their economically useful life. Then unemployment can be kept steady with 2.5 percent growth or even 2 percent but that poses risks.

Many businesses remain reluctant to hire. They don’t expect a recession but are gearing for persistent subpar growth in the United States, slower growth in Asia and a recession in Europe. Many firms will meet modestly growing demand with smaller workforces—exploiting labor saving strategies to boost profits. Lower head counts could ignite a negative feedback cycle—fewer employees at enough firms would instigate lower spending and less demand for all firms and then layoffs would cascade.

The U.S. economy moving along at 2 or 2.5 percent growth is like an airplane flying at low altitude. In a steady environment, the plane can keep going, but the slightest unexpected obstacle and the plane ditches. A tall obstacle may soon emerge in Europe or China, which both face formidable changes in 2012.

Overall, if the recovery is not derailed, continue to expect jobs growth of about 120,000 a month, and unemployment to gradually creep up to 9 percent by the middle of the year.

New Policies Needed

The economy must add 13.1 million jobs over the next three years—364,000 each month—to bring unemployment down to 6 percent. Factoring in continuing layoffs at state and local governments and federal spending cuts, the private sector must add about 400,000 jobs a month. To create that many jobs, GDP would have to increase at a 4 to 5 percent pace—that is possible after a long deep recession but for chronically weak demand for U.S. made goods and services.

Oil and trade with China account for nearly the entire $550 billion trade deficit, and
dollars sent abroad to purchase oil and consumer goods from China that do not return to purchase U.S. exports are lost purchasing power. Consequently, the U.S. economy is expanding at about 2 to 2.5 percent a year instead of the 4 to 5 percent pace that is possible after a long and deep recession.

Without prompt efforts to produce more domestic oil, redress the trade imbalance with China and the rest of Asia, the U.S. economy cannot grow and create enough jobs.

Moreover, without curbing a Washington regulatory bureaucracy out of control and skyrocketing health care costs, the cost of doing business in America will remain too high and most new jobs will not pay wages high enough to stop the erosion in living standards for working Americans.