The economic recovery remains weak and vulnerable

The US economy may be in something resembling a business cycle recovery, but the recovery remains both feeble and highly vulnerable. That is apparent from the recent mix of data, including details of the just-released November employment report.

November nonfarm payrolls rose a disappointing 39,000 seasonally-adjusted, versus an aberrant outsized 172,000 revised October rise and a 24,000 September decline. The 39,000 November 2010 rise is even weak compared to the 64,000 seasonally-adjusted nonfarm payroll rise in November 2009. Without a 13,000 decline Government employment this November, total private employment was up 50,000. But even this rise was largely due to a 40,000 increase in temporary employment.

Even more disturbing was the jump in the November unemployment rate to 9.8%, from 9.6% in October and just under the 10.0% a year ago. Moreover, the November rise in the unemployment rate was due primarily to a 183,000 plunge in Household survey employment,and only a relatively slight 46,000 increase in the labor force. The Household survey, from which the unemployment rate is derived, is calculated separately from the nonfarm payroll survey and at economic turning points(as now)is widely considered to be a more reliable indicator of employment than the payroll survey. More worrisome, is the realistic prospect that as the sluggish economic recovery persists the unemployment rate will yet soar above 10.0%. That will occur as discouraged workers, who are no longer counted in the labor force, flock back to the labor force in hopes of finding work again. In November, the number of former workers counted as discouraged, because they have given up looking for work, rose an additional 63,000. As a consequence, the U-6 unemployment rate, which includes both discouraged workers and those only employed part-time because they could not find full-time employment, remains at 17.0%, just under its peak and 17.2% level just a year earlier.

Other data connected with the November employment report is equally disappointing. For example, total private average hours worked dipped to 33.5 in November from 33.6 in October and is unchanged from September. This series is often used to forecast real GDP growth. Accordingly, this report indicates only modest fourth quarter real GDP growth, far from the robust growth strength typical in economic recoveries. This suggests that even if the economic recovery persists, which is not a foregone conclusion, it will take many years to return to anything remotely approaching full employment.

When the various forms of economic stimulus expire or, even before, as the various pending sources of economic weakness impact the economy, the recovery could slip so far as to be erased. What are these pending sources of economic weaknesss? As the inventory rebuilding runs out of steam, there is likely to be insufficient demand from other sources to take up the slack.

With huge excess productive capacity there is little justification for an upsurge in US capital investment. The strength of the Chinese economy and other emerging economies cannot sustain the global expansion without parallel strength in the advanced industrial world.

State and local governments will be required to both raise taxes and cut expenditures this year to deal with their ballooning deficits. Major banks will be confronted with an effort to saddle them with the losses on subprime and other distressed mortgage-backed bonds they sold investors. A new wave of mortgage foreclosures is coming that will further depress home prices. And the risk of further contagion of the European credit crisis must be recognized.

Perhaps former Fed Chairman Paul Volcker put it best when he recently said that this country is "in the most difficult economic circumstances of the post-World War period and so is the almost all of the developed world."

What does all this imply for the outlook for the economy, inflation and investments? The prospect of a sluggish pace of economic growth implies continued subdued inflation and at least the threat of deflation. The close relationship of inflation fears and bond yields suggests the recent runup of Treasury bond yields to 3.0% is already overdone. However, pessimists on inflation expect the yield rise to persist. Even Mark Faber, with a well deserved reputation for accurate forecasts, expects inflation, commodity prices and bond yields to soar as early as next year. But,it is premature to expect inflation to escalate next year with grossly excessive unemployment and unused productive capacity, even with the strong demand for commodities from China and other rapidly growing emerging economies. Pricing power is still lacking. If I am wrong on inflation or investors choose caution, the emphasis should be on shorter term bonds. But, if I am correct, that emphasis is less critical. Nevertheless, a slow economy can create risks for some bonds credit worthiness, which would threaten declines in prices of affected bonds. Municipal bonds dependent on strong streams of revenue (such as power and water authorities)are likely to be continue to be preferred over weaker revenue sources and general obligations. Renewed concerns over financial institution bonds are also likely to prove a market negative. Until the equity market declines by 4.0% in a single week, its outlook should be seen as positive. Nevertheless, the rapid rise from the equity market lows and the prospect of slow economic growth and likely weaker earnings performance raise questions over the long-term sustainability of the stock market rally. The same set of concerns raises questions over the intermediate outlook for gold prices.

Philip Braverman, President
Braverman Economic and Financial Consulting
One Hewitt Square #249
East Northport New York, 11731

This and earlier reports can be accessed at philipbraverman@blogspot.com

I can be reached at philipbraverman@Gmail.com