Rising unemployment gravest threat to U.S. and UK

February 10, 2009

John Kemp Great Debate– John Kemp is a Reuters columnist. The views expressed are his own –

Rising unemployment is the now the largest single threat to attempts to stabilize the banking system through recapitalization and assets swaps designed to remove toxic assets from bank balance sheets.

It is also the main impediment to restarting bank lending, renewing output growth and preventing debt-deflation becoming entrenched.

So far, the rising wave of defaults has been concentrated in the riskier portions of banks’ loan books: subprime mortgages, buy-to-let loans, and lending to private equity ventures and management to finance asset acquisitions and highly leveraged buyouts.

Defaults on prime mortgages, credit cards, auto loans and other forms of bank lending have all risen, but generally not very much, and from a very low cyclical starting point.

Senior bankers are correct when they insist conventional parts of the lending business have performed well until now. Problems have arisen mostly on the funding side of banks’ balance sheets and certain specialized parts of the lending side.

Elsewhere risk-management systems on the lending side have performed reasonably well. Losses have risen where credit control and risk management systems were deliberately overridden by senior executives anxious to grab market share or generate mortgages for packaging as part of the originate-and-distribute model. Leadership failure rather than technical errors in credit control lies at the heart of the debt crisis.

But the accelerating wave of job losses, especially in the United States and the United Kingdom, threatens to create a new and even more deadly threat to the banking system.

RISING JOBLESSNESS

Between November 2007 and January 2009, the number of people in full-time employment in the United States fell by 6.1 million (5.0 percent) from 121.9 million to 115.8 million, according to the Bureau of Labor Statistics’ “Current Population Survey” (see https://customers.reuters.com/d/graphics/EMP1.pdf).

The pace of job losses is accelerating. Almost as many full-time positions were lost in just the three months from November 2008 to January 2009 (2.6 million) as had been lost in the whole of the previous year (3.5 million).

It would be nice to assume most of those who have lost full-time jobs were well-paid professionals living off past bonuses and “resting” until banking picks up. But the statistics suggest otherwise.
The number of people unemployed but actively looking for work has jumped 4.4 million since November 2007 (and by 1.1 million in the last three months alone).

Others appear to have settled for part-time work instead. The number of part-time workers has risen by 1.5 million (and more than 600,000 in the last quarter).

Some have simply given up. The number of working age people not actively seeking work and longer considered part of the labor force has risen almost 2 million in the last 15 months.

FALLING CASH INCOME

Falling full-time employment rates are now translating into declines in household income. Total personal income (adjusted for population growth but not prices) stood just 0.5 percent higher in December 2008 than it had been twelve months earlier. Personal income is rising at the slowest rate since the start of 2002 and before that the 1960s.

As layoff programs are implemented, income growth looks set to turn negative for the first time in more than 40 years during the first half of 2009 (https://customers.reuters.com/d/graphics/INC1.pdf).

The situation is even worse than the headline figures suggest. Personal income from wages and salaries in private-sector employment posted declines in both November and December compared with the same period a year earlier, the first sustained fall since 2002-03 (https://customers.reuters.com/d/graphics/INC2.pdf).

Only continued growth in public sector wages, social security payments and other transfers, some of them triggered by the rise in unemployment, is keeping the overall growth in household incomes positive (https://customers.reuters.com/d/graphics/INC3.pdf).

DEFAULT RATES SURGING

Even with the safety net, the rising tide of unemployment is pushing more and more households into default.

The proportion of single-family residential mortgages in which some or all payments are 30 days past due or more has climbed from 1.73 percent in Q3 2006 to 2.72 percent in Q3 2007 and a staggering 5.08 percent in Q3 2008 (https://customers.reuters.com/d/graphics/DEL1.pdf).

By the middle of last year, the number of non-business bankruptcies was already running at an annualized rate of more than 1 million per year, up from 600,000 two years earlier.

Bankruptcies are increasingly wiping out households. The number of bankruptcies under Chapter 7 (which involves liquidation of assets) had doubled to 720,000 per year, while debt reorganizations under Chapter 13 were up 45 percent to 345,000 (https://customers.reuters.com/d/graphics/BUST1.pdf).

Default rates and insolvencies are both expected to have risen substantially when data for Q4 is published in the next few weeks, and will keep on rising in Q1 and possibly Q2 as job losses work their way through.

The problem is that income losses associated with rising unemployment are highly concentrated. The risk of default on mortgage and other loans jumps sharply when a household’s primary income earner becomes unemployed, or it loses a major secondary source of earnings.

Loan losses on otherwise sound conventional loans risk draining banks’ capital, along with bonus payments and dividends paid to shareholders, even as governments on both sides of the Atlantic try to pump money into them through recapitalization programs and swap out more obviously impaired assets from their balance sheets.

Moreover, the fear of unemployment restrains spending even among households that remain in work, and the risk it will rise further increases the danger to banks making new loans.

EMPLOYMENT, NOT OUTPUT

Output in the United States, the United Kingdom and most of the other major economies contracted sharply in the final three months of last year. But this is only the first round. Rising unemployment will force a second round of spending cutbacks in the coming months, deepening the recession.

Unless government policy can stem the rising tide of redundancies, attempts to stabilize the banks and restart growth will come to nothing.

I have written elsewhere about the need to sustain nominal income growth (including generating a positive rate of inflation) to preserve capacity to repay debts fixed in nominal terms. But the distribution of nominal income is as important as the total in terms of default rates.

Government policy needs to sustain high levels of employment as well as ward off a collapse in asset values or a downward spiral in wages and prices. The central aim of the stimulus packages being considered around the world needs to be maximizing employment, rather than output.

This suggests the focus needs to be on spending money on labor-intensive low-skilled services, construction and low-technology manufacturing areas rather than transformative new technologies intended for a long-term legacy.

Expanding employment within the public sector itself, or commissioning simple construction work and an expansion of existing services and procurement projects is likely to be more effective.

In many of these areas, output can only be delivered locally rather than traded across borders, minimizing the risk fiscal stimulus will leak abroad to foreign firms, without resorting to the more obvious trade barriers, such as the incendiary “Buy American” provisions in the U.S. stimulus bill.

The risk with the current debate on stimulus spending is that it is confusing the important short-term goal of job creation with longer-term investment and social transformation needs such as new energy technology. Park keepers, social care workers, new school buildings and social housing are what the economy needs now.

Much of this spending is on the type of low-technology, semi-skilled, labor-intensive and low-productivity work that in other times would be decried as a waste of money. But right now creating jobs – not building a shining legacy for the future – is more important. There will be plenty of time to worry about technological transformations later.

For previous columns by John Kemp, click here.

18 comments

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Recessionary unemployment at 5-7% is a significantly less than the 25-30% level of the Depression, however the continuing climb in unemployment is troubling. Not only does the government have to borrow with a dangerously high deficit budget to kick-start the economy but now the social support funding of the unemployed also drags down the economy. Top-down funding never worked, even for FDR. Neither will grossly overpaid union jobs in rebuilding infrastructure help the average citizen. Better to give every citizen a $10,000 check from the government to spend as they want, rather than giving the banks $10,000 borrowed from future taxes by the government, which will end up costing much more. $10,000 in the hands of the average citizen would provide an instant stimulus to the economy in all sectors. Safe to say more people trust the average citizen more than any banker or politician.

Posted by JJ Moore | Report as abusive

Look what globalization has wrought: the decimation of our job markets. We can\’t even stimulate our economy without our tax payer funded stimulus \’leaking\’ into low wage economies, boosting Chinese jobs.

That is what we get from blindly following a bunch of ideological hacks who call themselves economists.

Posted by lark | Report as abusive

Start your own business. Take a gourmet cart into an office building at lunch time. Men love good food, especially when someone serves it to them. They spend and they tip. Start a gourmet coffee basket business, a gourmet wine of the month business, start a makeup/personal care concession. Start a lemonade stand, and serve lemon creme pie. Get a newspaper route, mow a lawn, be a mothers helper. Do something. Do anything.

You’re only limited by your imagination; and your desire to succeed.

People need to become self sufficient entrepreneurs. If a bank is going to steal your house, do you really think they are going to help you with a line of credit? Same for all of corporate America. They are against you.

We need a culture of independence. We also need opportunity, enterprise, and entrepreneurial promotion in this economy.

7.6% is if you believe the US governemnt statistics. Some alternative calculations show that unemployment rate could as high as 17% – some 8 mln people being on short-week and millions more reported as “having left the job market”. It is funny that the Americans distrustful of the government as it is still by most part blindly trust the statistics it publishes. Just remember Pualson’s estimates of the toxic assets in the hundred of billions, when independent experts said that it was in the trillions. How turned out to be right? Manipulation of data has become a common practice not only at US corporations, but at the government level as well to the extent that the government proponents even attempt to inflate GDP figure to show that inreasing the national debt is not a problem. And that is the biggest problem.

Posted by Dmitry | Report as abusive

First of all, unemployment numbers only reflect those unfortunates collecting weekly checks; when their benefits expire they drop off the unemployment rolls and out of sight. I strongly suggest that “actual” unemployment – including those collecting, whose benefits have expired and remain unemployed and are underemployed is between 18% and 20% if not higher by 2% to 4%.

The USG is skewing the unemployment numbers in order to cover up the fact of much higher unemployment because it has shipped millions of American jobs to China, south and southeast Asia these past ten years under its swindle of “Free Trade”.

Posted by RFL | Report as abusive

To add to my previous post: A drive through the industrial areas of this country will iluustrate to everyone our true unemployment situation – the economic devastation wrought by the USG’s continuing scam of “Free Trade”. “Free Trade” is a lie and as USG policy must be stopped.

Posted by RFL | Report as abusive

out economy is crashing and somone needs to do something about it. we need help and we need to get out of the war!

It is also important to remember that job losses have occurred not only due to the recession, but because they were exported when corporate America de-industrialized this country. It would be refreshing for an honest recognition of this along with acknowledging that aside from the job losses, there are far too many people who are not earning a “living” wage. Stimulus will not revive an economy with a substantial portion of the population who can afford to buy little beyond basic necessities.

Posted by meb | Report as abusive

even with inflation to “reduce” the debt burden of individual and firms, employment might pick up because firms feel they are a bit rich again, but more significantly, wages to worker’s won’t increase inline with the rate of inflation.

Posted by idle crane | Report as abusive

rising unemployment is a concern

how about the rising level of crime, and the negative social issues associated with high levels of unemployment

i would be more worried about the latter esp. if i lived in an urban center with a fair amount of extreme income discrepancy in neighbourhoods(eg notting hill, brooklyn, camden, lower east side..etc)

Posted by ernest | Report as abusive

The economy will revive when people are employed, they keep spending. That is the only way corporates can hope to stay in business and pay the people they employ.

The danger with government spending is that it is not market determined and any employment created as a result of that spending is not sustainable. Look at what happened with Japan. The govt undertook massive public works program and built bridges to nowhere. The spending was directed by political expedience.

I think Obama has got it right. Renewable energy is the way out of this crisis. The US can export its green technology and reduce its deficit as well as create jobs and ultimately lead to independence from oil. But that is a long term thing.

Something needs to be done immediately so that jobs are created and purchasing power stays intact, else more corporates will go down and more purchasing power will get eroded, leading to a vicious cycle

Posted by TS | Report as abusive

This is rediculous. What seems to be suggested is that America should buble its way out of the crisis with alternative energy buble. Other countries have invested far more heavily in alternative energy like wind, biofuel,hydrogen, solar. But everywhere alternative energy remains exensive and still cover only a tiny portion of energy needs. What America really needs to do is to stop relying on other countries’ savings to boost its own consumption. Do not fool yourself, America is no longer competitve in most sectors. The only way it could have sustained the level of consumption in the recent years is by selling CDOs to the rest of the world. There is this mantra that US financial system is the most robust and innovative in the world. That is really so, but name me a bank or company that has not lost money on US investment. Arabs, Japanese, Cninese all lost money in the US. What this amounts to is taking money and leaving your creditors in the cold. Such economies can be referred to as transactional economies. They do not produce much any more. In the US I heard one investment banker say – we provide a service of supplying reserve currency to the world. It is the most lucrative business, more profitable than weapons trading or drug trafficing, you do not need to do anything, but print money. There is one catch though – at one point you got carried away and people out there start wondering: “Do I really need all that green paper?”

Posted by dv | Report as abusive

You and I cannot get out of debt by borrowing more money – neither can the the fed gov…

A service economy only works when the cash flow through the system is always rising… It collapses in an instant when the cash flow starts shrinking – as it now has… The reason is that you and I are simply trading dollars, you wash my car and I fix your lawn mower, it is a zero sum game and neither of us are creating any new dollars… The instant you are a dollar short on paying my bill because some dollars have leaked out of the circle, I instantly refuse to do another lick of business with you…

The only activities that inject new money into that closed circle of service economy dollars are farming, mining, and manufacturing (all wealth creating activities fit into one of the three)

Farming in this country has been hard hit by imported food – which sucks more dollars out of the circle in addition to suppressing wealth creation by our farmers…

Mining is in decline… Looking ahead a generation, other than coal we do not have much in the way of exploitable resources left…

Manufacturing is on a death bed… Between the EPA, the nimbys, the tree huggers, the labor laws, the unions, the courts, and the faceless horde of permitting and taxing bureaucrats (at township, county, state, and federal levels), it is all but impossible to open a manufacturing plant in this country… Don’t believe me – try it…

IF Mr. Obama were to ask my advice it would be succinct… In the short term we have to stop imports of anything we CAN/SHOULD manufacture ourselves – stop the bleeding.. Oh yeah, the other countries are going to scream and foam at the mouth, so what? We cannot trade with them if we go bankrupt, so they are losing nothing in the long run and they will benefit when we can start trading again…

Posted by dr. o | Report as abusive

YOU ARE CORRECT….IT’S UNEMPLOYMENT STUPID….Yes the “housing bubble” brought the house of cards tumbling, but now the real catalyst is the increasing jobless rate. I was “laid off” last June. I have to say I wasn’t terribly upset then. I thought “oh great I can start something new”…I like change, but after the first few (really few) opportunities vanished, my enthusiasm for my “new life” started to wane. I have now been jobless for 8 months. I have never in my life not been able to find a job before. Of course, living in Kentucky doesn’t help, but I’ve been applying for jobs all over the country. I’m willing to go anywhere and unfortunately “anywhere” is just as bad as “here”. This is unlike any downturn I’ve ever experienced. I know it’s ‘different” this time and quite frankly I’m scared. Luckily for me I have a pretty good financial cushion, but I can’t help but think of all the people that don’t..and thats a lot of people, on the edge of total poverty. The Obama administration needs to start some kind of direct incentive to companies to KEEP the workers they still have, or as you said…no banking rescue will work…it’s way beyond that now.

Posted by L Marceau | Report as abusive

Growing unemployment feeds on itself.It also reduces the opportunity to sell more housing . In fact it is the basement of any structural change to the point that it might be wise to consider the 1933 or 4 programs FDR initiated……the WPA and CCC. Both programs performed useful tasks in all fields and gave employment and pride to many . The The US Army Corps of Enginers as other federal organizations have programs that are ready to go and need financing why not combine the two as in was done back then?

Posted by norman zelvin | Report as abusive

This situation is starting resemble the Great Depression…I suggest we start another war. A big one. After all, it did the trick last time.

Posted by Guy Littleford | Report as abusive

I liked that piece on the service economy. The US gurus used to urge other countries, Japan and Germany in particular, to go its way and deindustrialize. The problem is that rebuilding manufacturing capacity is not easy and will certainly spike inflation, leading to sharp drop in living standards. It is not clear for how long the rest of the world will be prepared to go on exchanging their goods for the US paper currency and the US will tolerate trillions of dollars accumulating in Asia and elsewhere. So far US administrations, especially the Clinton one, have been very successful in depreciating other countries dollar reserves by understating inflation and thus keeping yields on treasuries below inflation. But is it going to last forever?

Posted by dv | Report as abusive

Sleeping and corrupted governments have never helped to find th e right fix.
Why have the house prices not been fixed at the time ? That would have stopped speculation in the housing market right in its tracks.
Why are billions send to the banks that screwed us up in the first place. It would be much better to offer these billions to an independant office that UNBUROCRATICLY hands out a certain amount to people that want to open their won business. Requirement – you have to hire 3 people. The government would pay 80% of the salary for 2 years (that is still better than to pay unemployment and has probably a better chance for the future too). Result from this action would be new jobs right away. Yes sure, some companies would fail but so do banks and their investments. Looking at the GM bailout – my god you can build 2 new car factories in the USA for that amount of money and probably they will manufacture better cars that last longer and are more on the market.

Cheers
Peter

Posted by pohlmann | Report as abusive