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Bi-Polar Economic Data?


Contradiction is the norm in the early stages of recovery.

Empirically speaking, in the post-WWII era, every single time that the US economy has recovered from a recession, the initial stages of the recovery (up to six to 24 months) have been characterized by contradictory data. Conceptually, this makes a great deal of sense.

In an economic recovery, things cannot be expected to turn at once. Various aspects of the economy begin to grow (some never stopped growing) while others are still contracting. A sort of tug of war ensues in which opposing forces work against each other until one of two things occur: The first possibility is that the expansive forces succumb to the contractive forces and the economy enters into a "double dip." However, the most common scenario by far, is that the expansive forces are able to overcome the inertial forces of recession and move the center of gravity in a positive direction. At some point, the positive momentum generated by expansive forces and sectors is great enough that the inertial forces of recession are overcome and the economy enters into a dynamic of self-reinforcing growth.

For example, in the early stages of the present economic recovery, various indicators and sectors of the economy began showing clear signs of growth as early as the second quarter of 2009. Nonetheless, unemployment continued to rise at an alarming pace. However, by November of 2009, the sectors of the economy that were expanding started to hire at a pace that was approximating the rate at which contracting sectors were shedding workers. Thus, the drag that unemployment has on the entire economy is being slowly overcome, albeit with a lag. At some point, if net hiring turns positive, employment effects -- which, until now, have exerted a contractive force on the economy -- will begin to exert an expansive force.

As I stated in my article yesterday, it would be premature to make too much of one monthly report. The November employment report is just one data point. However, it's a very important one.

To begin with, the jobs data for October and September were revised upward. You thought all employment revisions are downward? Wrong! For various reasons relating to how the employment statistics are compiled, in an expanding economy, revisions will tend to be positive -- and especially so in the early stages of a recovery. Positive revisions are an extremely good sign in this regard.

Secondly, today's non-farm payroll number of -11,000 signals that the economy is virtually at a "tipping point." The tipping point works like this: Once net employment starts growing, the number of consumers will rise, and that naturally causes overall consumption to rise. However, perhaps even more importantly, currently employed consumers that do have jobs but have been feeling insecure about their employment stability will, will feel much more secure and begin to loosen the purse strings. This will supercharge aggregate consumption by a magnitude much greater than the net increase in aggregate employment would imply.

At that point, the recovery will become self-sustaining. Greater consumption will spur faster hiring in order to meet new demand from consumers, and these positive increments to employment will cause consumption to grow, and etc.

However, don't expect social mood to brighten immediately. The permanent naysayers that have such a presence in the national media, and have gained such mindshare with the general public, will find all kinds of things to complain about. They'll talk about birth/death ratios, for example. This issue -- which, by the way, has been completely mischaracterized by bears and blown way out of proportion -- is about to become a complete non-issue as the economy expands and more new businesses are created than are disappearing. Other naysayers will complain that the jobs created aren't paying as much as the jobs previously lost. But even if that were true, making minimum wage is still a huge improvement over no wage. And economic growth is about rate of change, not about absolute salary levels.

The most serious concern about the US economy relates to whether the private economy can ramp up fast enough to take up the slack left behind by the pubic sector-driven economy once the effects of fiscal stimulus begin to fade in late 2010 and early 2011. In addition, it's not at all clear what the net effect will be of inevitably higher interest rates in the context of an economy with significantly higher debt levels than that experienced during previous economic recoveries. The negative income effects from higher interest rates will counteract at least some of the positive income effects from improved employment and lower precautionary savings rates. And depending on how high and how quickly rates rise, the effects could be very substantial.

The outcome of the struggle between contractive and expansive forces remains uncertain. However, folks with a perma-bear bias have been given a clear warning by today's employment report. If employment -- which is usually one of the last indicators to turn positive -- "flips the switch" to green, it's highly likely that a self-sustaining recovery is at hand. If non-farm payrolls are able to register even two straight months of expansion, the probabilities of a double-dip scenario will become fairly remote.
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